The Bahamian authorities continue to value greatly the policy dialogue with the Fund. They welcome the thorough assessment of the country’s economic situation and financial system made by the Article IV mission and broadly agree with this assessment. The report outlines a sensible set of policy options, for the most part in line with initiatives already in train or envisioned by our authorities.
Economic conditions in The Bahamas remain subdued. Preliminary estimates for 2015 suggest a contraction of 1.7 percent of GDP. The modest growth in tourism was offset by a contraction in domestic demand and weak goods exports, fueled by headwinds from fiscal consolidation, introduction of the VAT, and the wind-up of construction activities related to the Baha Mar.
Growth is expected to pick up modestly in 2016 by around 0.5 percent of GDP, driven by modest growth in the tourism sector and foreign investment related to the construction sector. Economic activity thereafter is projected to strengthen further in 2017 to an annual rate of 1 percent in real terms.
A number of new investment projects coming on stream in the near term have the potential to boost growth, lower unemployment, and enhance competitiveness. Notably, our authorities are confident that the Baha Mar resort, which is 97 percent complete, will open shortly. This new, high-end resort is expected to add 2,200 rooms to the country’s stock of over 14,000. Additionally, a relatively strong level of foreign investment projects in both New Providence and across the archipelago should sustain aggregate demand in the short run, boost the tourism productive capacity, and lead to a much-needed increase in economic activity and employment creation once these projects come fully on stream.
As growth solidifies, the unemployment rate should gradually decline from its current level of 14.8 percent (November). By itself, the Baha Mar project should employ at steady state more than 5,000 employees. This is expected to reduce significantly the unemployment rate, increase disposable income, and support domestic demand.
While our authorities broadly agree with the medium-term outlook and risk profile, they are cautiously optimistic on the upside potential. For example, while our authorities acknowledge that a further surge in the U.S. dollar could weaken cost competitiveness of The Bahamas, the country stands to gain from increased trade and tourism with the U.S., provided the surge is underpinned by improving U.S. economic prospects. Cuba is not perceived as a significant competitor in the medium term, particularly given The Bahamas’ high-end target market, rather it could yield synergies through enhanced collaboration in the region. Our authorities also view persistently low oil prices as an upside risk as it would reduce the value of imports and could help smooth the transition of the energy sector reforms.
Ensuring Fiscal Sustainability
The Bahamian authorities recognize the importance of responsible fiscal policy to maintaining macroeconomic stability and policy credibility. They reaffirm their commitment to firmly staying the course with their Medium-Term Fiscal Consolidation Plan, including through continued fiscal consolidation to place public debt on a declining path and rebuild buffers. They are on target to meet their 2015/16 fiscal deficit target of 1.5 percent, with a further reduction in 2016/17 to 1.1 percent, as announced in the recent the 2016/17 Budget Communication on May 25th. They expect to eliminate the deficit and to achieve a small balance by 2018/19. The central government debt to GDP ratio is expected to stabilize at 67 percent of GDP by 2016/17 and begin to decline thereafter to about 59 percent in 2018/19. This will be achieved by continued restraint of public expenditures, enhanced revenue administration, and securing new sources of revenue, as well as continued efforts to stimulate overall economic growth.
Our authorities have demonstrated credible progress towards consolidation. The successful introduction of the VAT in 2015 was a significant achievement and will contribute to the long-term macroeconomic stability of the country. Revenue collection exceeded expectations and, taken together with other reforms, should raise additional revenues of 2.5 percent of GDP, bringing the total revenue yield to a respectable 22.5 percent of GDP this year. Our authorities are intent on protecting the integrity and efficiency of the VAT regime by resisting pressures to introduce distortionary exemptions. They view targeted social spending as a more effective means to assist low-income populations, and have already raised minimum wage and increased social spending to this end.
Our authorities are continuing with revenue administration reforms that will yield significant additional revenue. These include a number of targeted reforms, for example to customs, business license and real property taxes, as well as modernization measures, including the successful introduction of electronic filing of customs import declarations and online payment of customs duties. These measures lower the cost and increase the ease of doing business, while providing stronger controls over the collection of government revenue. The modernization of the property tax management system is expected to be concluded over the course of upcoming fiscal year. This a significant advance under the mandate of the centralized revenue administration (Department of Inland Revenue). Our authorities are also taking steps to modernize their public financial management system, including through revamped accounting systems and other budget reforms.
Our authorities recognize the importance of expenditure reforms in fiscal consolidation. In the recent Budget Communication, they project at least a 1 percent of GDP reduction in recurrent expenditures per year beyond the coming fiscal year. They recognize this will take discipline. For example, they will accommodate for fiscal costs related to Hurricane Joaquin through spending reallocation, amounting to $100 million (1.1 percent of GDP) over several years. They also recognize the need to be mindful of fiscal constraints in rolling out the National Health Insurance, and they will soon commence public consultation on pension reform, including on options to move to a defined contribution-based regime.
Maintaining External Sector Sustainability
Inflation has been tempered at 1.9 percent in 2015. While the introduction of the VAT resulted in some temporary upward pressure, this has been moderated by low oil prices. This is allowing monetary policy to remain supportive while maintaining the fixed exchange rate which has been instrumental in reducing uncertainty for foreign investors and providing a credible nominal anchor.
The current account deficit has come down modestly to 7 percent of GDP. The level of reserves has increased to US$980.5 million at the end of March, up significantly by about $172 million since December 2015. These levels remain adequate when measured in terms of non-FDI imports and other standard metrics, and are expected to improve through growth in tourism earnings and foreign direct investment, together with reforms that will facilitate stable and organic accumulation of reserves.
Strengthening Financial Sector Resilience
The Bahamian banking system remains well capitalized, profitable, and liquid. Our authorities have made steady progress in implementing financial sector reforms identified in the 2013 FSAP, including further strengthening of the regulatory and supervisory framework, reporting under the U.S. Foreign Accounts Tax Compliance Act (FATCA), and implementation of the new Basel II/III regime. A consulting firm has also been engaged by a state-owned bank to develop and implement a rehabilitation plan, which should improve governance, revise its market focus, strengthen its risk management, and enforce collection.
Our authorities recognize the need for decisive and timely resolution of non-performing loans (NPLs). They note that banks have been more aggressive in writing off and provisioning for bad debts, as well as proactively implementing policies to provide relief or restructuring options to distressed customers. Our authorities are also working with banks to develop a new framework for mortgage relief that will impact significantly more homeowners than the previous program without unduly burdening the budget or rewarding poor lending practices. They expect to release details of this new Mortgage Relief Programme during the forthcoming budget debates, through which an estimated 1,000 delinquent borrowers are expected to initially qualify. Our authorities remain committed to addressing any remaining gaps that will ensure financial stability.
Our authorities recognize the challenges stemming from global de-risking trends, which are affecting a number of countries in the region, including The Bahamas. While affected institutions have been able to avoid significant disruptions, our authorities are committed to proactively addressing any concerns. They continue to monitor the industry, provide assistance to banks, and are encouraging them to take a risk-based approach and to work on any remaining regulatory gaps. Our authorities will also continue to coordinate with regional counterparts to mitigate any adverse economic fallout. With a strong overall AML/CFT regime in place, our authorities are seeking greater clarity on regulatory expectations and requirements from international banks and from source jurisdictions. They are strongly committed to promptly addressing gaps or concerns as they may arise.
Fostering Growth and Competitiveness
The Bahamian authorities are very mindful of the need to boost potential growth, enhance productivity and bolster competitiveness. They afford high priority to the finalization of the National Development Plan (NDP), which will help accelerate economic, institutional, and social development over the medium and long term. The April ‘State of the Nation Report’ was an important milestone in the first phase of the NDP, providing an in-depth diagnostic of The Bahamian economy and society. While extensive, non-partisan consultations on the NDP have taken considerable time, this inclusive approach will be critical to gaining consensus for implementation. A first draft of the NDP is expected to be released in the coming months for further consultation.
Our authorities recognize the importance of improving the business environment to strengthen competitiveness, including through reliable and affordable energy costs. This would also help facilitate economic diversification. To this end, important steps have been taken, including the introduction of legislation to reform the Bahamas Electricity Corporation (BEC). Its management has recently been outsourced to a private sector company, PowerSecure International (US), with a mandate to operate on a fully commercial basis, which should bring down costs and resolve power supply problems to the benefit of tourism and other sectors. It should also end uncertainties that have prevented long-term investment needed to expand generation capacity, improve the distribution network, and reduce the cost of power.
The authorities strongly agree with the need for continuous improvement of efficiency and transparency of operations of other state-owned enterprises (SOEs), not only to minimize the budget implications but to lower costs and improve services to customers. They expect to achieve significant milestones in introducing competition in the cellular market in the coming weeks. At the same time, they note the challenges associated with providing uniform and affordable services to all islands in the archipelago, given the high cost and low scope for economies of scale.
Our authorities remain committed to raising human capital through educational and vocational reforms to lower unemployment and raise potential growth. Legislation has recently been finalized for the establishment of the University of The Bahamas. This will complement other recent secondary educational reforms, including strengthened standards for school graduates and the introduction of STAR Academy targeting vulnerable children. Significant efforts are underway to also strengthen work force training including through the establishment of the National Training Agency. The government announced on May 25th, an additional $22 million to complement last year’s $20 million in support of an apprenticeship program in partnership with the private sector under which employers will be incentivized, through a wage subsidy, to employ young persons in positions that will afford them the opportunity to acquire basic job skills.