Jamaica: Staff Report for the 2002 Article IV Consultation and a New Staff-Monitored Program

This paper focuses on the 2002 Article IV Consultation and a New Staff-Monitored Program (SMP) for Jamaica. In June 2000, the Jamaican authorities undertook an SMP for FY2000/01–2001/02 designed to tackle the heavy public sector burden and restore economic growth. To build on the progress achieved so far, the government has requested a new SMP for FY2002/03. The objectives of the program are to consolidate gains in macroeconomic stabilization and adjustment achieved to date and to lay the foundations for sustainable, strong economic growth that would further reduce poverty.

Abstract

This paper focuses on the 2002 Article IV Consultation and a New Staff-Monitored Program (SMP) for Jamaica. In June 2000, the Jamaican authorities undertook an SMP for FY2000/01–2001/02 designed to tackle the heavy public sector burden and restore economic growth. To build on the progress achieved so far, the government has requested a new SMP for FY2002/03. The objectives of the program are to consolidate gains in macroeconomic stabilization and adjustment achieved to date and to lay the foundations for sustainable, strong economic growth that would further reduce poverty.

I. Introduction

1. At the conclusion of last year’s Article IV consultation, the Executive Board commended the authorities for their achievement in strengthening public finances (and the net international reserves position), reducing inflation, and adopting structural reforms (particularly in the financial sector), and welcomed the reemergence of economic growth after four years of stagnation or decline. However, Directors noted that, despite these successes, the public-debt-to-GDP ratio remained roughly unchanged, instead of falling significantly as envisaged under the staff monitored program (SMP) and interest rates did not decline as rapidly as projected. Directors urged the authorities to persevere with fiscal restraint over the medium term to ensure a lasting decline in the public debt burden as well as to help lower interest rates and promote faster growth.

2. Over the last fiscal year (through March 31, 2002), the economy was hit by a series of shocks including an outbreak of domestic violence in July, the impact of September 11 terrorist attacks on tourism, and floods in November which damaged infrastructure and farm crops. The government responded through steps to cushion the impact on the economy while maintaining macroeconomic stability. Partly as a result, public finances significantly worsened and the reduction in public debt was much less than anticipated. In the current fiscal year, Jamaica was again hit by heavy flooding in May which caused significant damage to agricultural crops and infrastructure.

3. The Article IV mission discussed policies for achieving higher and sustained growth in the medium term and a faster reduction in the public debt burden. It also reviewed performance under the SMP for the FY 2001/02,1 and discussed policies for FY 2002/03 which form the basis for a new one-year SMP. Elections are required by end-March 2003, but Prime Minister Patterson has announced his intention to hold them by end 2002. The governing People’s National Party is seeking a record fourth term in office.

4. The statistical base in Jamaica is generally adequate for conducting surveillance and monitoring economic developments under the SMP, but there are a number of areas where improvements are needed (Appendix II). Consistent with Jamaica’s access to international capital markets, the staff encouraged the Jamaica authorities to work to bring reserve and debt data into compliance with the SDDS benchmark.

II. Recent Economic Developments

5. The SMP for FY 2001/02 was broadly on track up to September 2001 (Tables 1 and 2). Real GDP growth was strong from April to September, at an estimated annual rate of 3 percent, mainly due to a strong recovery of agriculture from the previous year’s drought, a resumption of bauxite and aluminum production as the processing plant in the US came back on stream, and positive, albeit, lower growth in tourism. Inflation was higher than envisaged partly due to large increases in transportation and postal prices. Net international reserves (NIR) were above the SMP targets, largely because in May 2001 the government successfully raised the full annual amount of international bond issues envisaged under the SMP.

Table 1.

Jamaica; Selected Economic and Financial Indicators 1/

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Sources: Bank of Jamaica; Ministry’ of Finance; FINSAC; STATIN; and Fund staff estimates and projections.

Fiscal years run from April 1 to March 31.

As of the end of fiscal year.

Flow as percent of liabilities to the private sector at the beginning of the period.

Including FINSAC interest payments on a full year basis, implying an increase of 0.4 percent of GDP above cash interest payments in 2001/02.

Includes selected public enterprises, accrued but not paid FINSAC/FIS interest due to the private sector, and Bank of Jamaica operating balance.

The public sector debt is defined to include central government domestic and external debt and domestic and external debt guaranteed by the government. It excludes government securities held by public enterprises and external debt held by BoJ.

In percent of exports of goods and services.

For 2001/02, data for the period ending March 2002.

Table 2.

Jamaica: Quantitative Targets for Key Variables in the Staff-Monitored Program for Fiscal Year 2001/02

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The SMP targets are revised as indicated in the government’s letter of intent to the Fund Dec. 4, 2001.

Targets for FY 2001/02 are based on an accounting exchange rate of J$46.6 per dollar, and the cross-currency exchange rate against the US dollar as of March 31, 2001.

Cumulative figures for fiscal year to date.

The NIR floor and the limit on foreign medium- and long-term commercial borrowing for March 2002 are raised by US$200 million-the additional amount of government borrowing in Dec. 2001 above U$50 million from the bond market intended to prefund next fiscal year’s borrowing requirement.

Defined as trade credits to selected public enterprises.

6. Growth slowed in the second half of FY 2001/02 due to the impact of the shocks described in paragraph 2 above, and for the fiscal year as a whole, growth is estimated at about 1 percent (Table 1, Figure 1). In response to the shocks, the government increased expenditures on security, tourism promotion, and flood relief; and multilateral institutions, including the World Bank and the Inter-American Development Bank, provided quick disbursing emergency loans.2 Inflation was around 7½ percent (12 month basis at end March 2002). The SMP targets were revised in December 2001 consistent with these developments.3

Figure 1.
Figure 1.

Jamaica: Selected Economic and Financial Indicators, 1997/98–2001/021/

Citation: IMF Staff Country Reports 2002, 197; 10.5089/9781451820096.002.A001

Sources: Bank of Jamaica; Ministry of Finance; FINSAC; STATIN; and Fund staff estimates and projections.1/ Fiscal years run from April 1 to March 31.

7. After a short period of depreciation in October, the exchange rate firmed in the latter part of 2001. For the whole fiscal year, the real effective exchange rate appreciated by about 4 percent (Table 1 and Figure 2), though it has since depreciated by 1.5 percent (through May) reflecting, in part, the weakness of the US dollar. Net international reserves (NIR) increased further to US$1.9 billion by end FY 2001/02, boosted by proceeds of another international bond issue in December 20014 and strong inflows of private remittances (which rose by 17 percent to 12½ percent of GDP).5 In June 2002, Jamaica successfully raised US$300 million in a 15-year international bond issue yielding around 10.75 percent (590 basis points over US Treasury’s); the issue was reportedly heavily oversubscribed. At end-June, NIR was around US$1.8 billion following (net) foreign exchange sales of around US$150 million in April-June. The current account deficit is estimated to have widened by 3 percentage points of GDP to close to 8½ percent of GDP in FY 2001/02 mainly because of lower export earnings (due to lower prices on bauxite and aluminum) and lower tourism receipts6 (Table 3).

Figure 2.
Figure 2.

Jamaica: Exchange Rate Developments

(Index 1990=100)

Citation: IMF Staff Country Reports 2002, 197; 10.5089/9781451820096.002.A001

Source: IMF Information Notice System.1/ Nominal effective exchange rate deflated by relative prices; increase means appreciation.2/ Trade weighted index of nominal exchange rates.
Table 3.

Jamaica: Summary Balance of Payments

(In millions of U.S. dollars)

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Sources: Bank of Jamaica; and Fund staff estimates.

Includes central government and the Bank of Jamaica.

Includes net flows of private capital and errors and omissions.

8. Public finances significantly worsened in 2001/02 and the envisaged reduction in public debt only partially materialized. The central government deficit is estimated at 5.7 percent of GDP, compared to the revised SMP target of 4.1 percent, and the original target of 2.8 percent of GDP (see Box 1 and Table 4). Revenues and grants fell significantly below expectations, with lower tax revenues from the income and profit tax, the General Consumption Tax, and import duties reflecting mainly weaker economic activity. Expenditures increased on security, tourism promotion, and flood relief and rehabilitation, as well as on wages due to earlier than anticipated wage settlements7 and on interest payments related to the sale of a major commercial bank.8 These increases were partly offset by expenditure compression elsewhere. The primary surplus, which had been close to 11 percent of GDP in recent years, declined to 8 percent of GDP. Quasi-fiscal operations including expenditures incurred under the deferred financing scheme and central bank losses (see Box 2) also increased significantly. The overall balance of selected public enterprises was close to the SMP target at 0.6 percent of GDP.

Table 4.

Jamaica: Summary of Public Sector Operations

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Source: Bank of Jamaica; Ministry of Finance; FINSAC: and Fund staff estimates and projections.

Includes bauxite levy.

Includes capital revenue

Includes statistical discrepancy

Includes interest due and capitalized during the year up to 2000/01.

Includes FINSAC interest payments on a full year basis

The public sector debt is defined to include central government domestic and external debt and domestic and external debt guaranteed by the government. It excludes government securities held by public enterprises and external debt held by BoJ.

9. The public sector debt declined by a modest 3 percentage points of GDP, half of what was originally projected, and reached 130 percent of GDP by end 2001/02.9 The smaller decline reflected the higher fiscal deficit, additional debt from the deferred financing scheme (see Box 2), new domestic bonds with a government guarantee issued for the Highway 2000 project10 and the Development Bonds,11 and pre-funding in December 2001. Of the total debt outstanding as of end-March 2002, 50 percent was external, of which around one third was in the form of international bonds.

The government has in recent years implemented a debt management strategy to lengthen the maturity and reduce the variable rate portion of domestic debt. Currently about 55 percent of domestic debt is at floating rates, down from around three quarters a year ago. Debt maturing within one year is below 20 percent of total debt compared to about 25 percent a year ago. The government has also started in FY 2001/02 regular, pre-announced, monthly auctions of local registered stock.

Outturn of the Central Government Budget Operations in FY 2001/02

The deviations of budget outturn in FY 2001/02 from the SMP targets are explained by the following factors (see Table below):

  • A larger than anticipated decline in tax revenues (including income and profit taxes, taxes on interest, and the GCT).

  • Lower than expected nontax revenues from FINSAC and PetroJam (a petroleum company).

  • Higher wage expenditures due to earlier than anticipated wage agreements and the payment of higher public sector wages.

  • Higher expenditures to accommodate the shocks of September 11 and November floods principally on security, tourism promotion, and rehabilitation.

  • Higher than programmed interest payments (related to the agreement reached for the sale of the National Commercial Bank).

Table.

Jamaica: Central government operations

(in percent of GDP)

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May 2001

10. The Bank of Jamaica (BoJ) has achieved its primary objective of single digit inflation in FY 2001/02 through targeting base money and maintaining a broadly stable exchange rate. During the year, base money declined by about 1 percent reflecting the 3 percentage points reduction in the reserve requirement (to 9 percent) (Table 5). Credit to private sector from the banking system grew by about 17 percent due mainly to loans to the telecommunication industry, but remains only around one fifth of banking sector assets. In late October, pressure on the Jamaican dollar mounted resulting from concerns on the impact on tourism receipts of September 11 and an arbitrage opportunity that arose on the exchange rates paid by the BoJ under its foreign currency surrender requirements.12 The BoJ responded by sharply increasing interest rates on its longer-term instruments (its one-year reverse-repo rate was increased by 4 percentage points) and the exchange market has since stabilized—with mild depreciation in April-June 2002—and interest rates have fallen (Figure 2).13, 14 The six-month Treasury-bill rate declined from 16.9 percent at end-March 2001 to 14.6 percent at end-March 2002, reaching 13.8 percent by end-June (Figure 3).

Figure 3.
Figure 3.

Jamaica: Interest Rates

(In percent)

Citation: IMF Staff Country Reports 2002, 197; 10.5089/9781451820096.002.A001

Sources: Bloomberg L. P.; and Bank of Jamaica.
Table 5.

Jamaica: Summary Monetary Indicators

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Sources: Bank of Jamaica; and Fund staff estimates.

Includes Bank of Jamaica net profit and net unclassified assets.

Includes valuation adjustments.

Includes FINSAC securities from FY2001/02

Includes open market operations.

Currency in circulation plus local currency demand, time and savings deposits at banks.

In relation to base money at beginning of period.

In relation to liabilities to private sector at beginning of period.

11. The soundness of the banking system has continued to improve and prudential indicators are generally well above international minimum standards.15 The regulatory and supervisory framework has been further strengthened through legislative amendments. Commercial banks remain quite profitable due to high interest rate spreads and the stable exchange rate. In contrast, the BoJ incurred operating losses in 2001/02 for the second year in a row as a result of large-scale open market operations and sterilization in the foreign exchange market (see Box 2).

Quasi Fiscal Operations

The Jamaican central government budget is drawn up on a cash basis. Expenditures carried out under the deferred financing scheme and central bank’s open-market operations affect the accrued fiscal position.

Expenditures under the deferred financing scheme

Expenditures on infrastructure projects are sometimes carried out through the deferred financing scheme where private sector contractors are asked by the government to bid for such projects (by arranging their own financing) without a direct budget outlay. The cabinet is allowed under the relevant legislation to authorize expenditures through the deferred financing scheme and the Minister of Finance has to agree on the terms of financing. After the completion of such a project, a payment is made from the government to the contractor with the remaining debt taken over by the government (often the government will renegotiate with the creditors on the terms of the debt). Amendments have been proposed to allow payments on deferred financing to be included in the budget against the relevant sector ministry’s appropriations. In the most recent four years, expenditures under this scheme were about ½ percent of GDP every year, and 1¼ percent of GDP was added to government’s debt stock. It is clear that, on an accrual basis, such expenditures should be included in the budget balance.

Bank of Jamaica losses

The Bank of Jamaica made losses averaging about 1 percent of GDP in the two years FY 2000/01 and FY 2001/02. The losses are due mainly to open-market operations to sterilize the accumulation of international reserves.

The BoJ began using its Certificates of Security Holdings (COSH) in open-market operations in May 2001 after exhausting its holdings of marketable government securities. The use of COSH in open-market operations does not affect the cash central government fiscal deficit, since profits/losses of the BoJ are reported as part of advances to government, consistent with the Bank of Jamaica Act which requires that the central government fund the BoJ’s losses.

Assuming that BoJ’s losses are mostly from interest expenditures, they would not affect the quasi-primary surplus of the public sector (including the BoJ).

12. On structural reforms, by the end of FY 2001/02, the Financial Adjustment Corporation (FINSAC) had divested all of its assets except the holdings of commercial properties.16 However, progress in public enterprise reform has been limited, with most of the structural benchmarks envisaged under the SMP not fulfilled.17 On June 17, 2002, leaders of the two major parties signed an anti-crime plan aimed at reducing the escalating levels of crime and violence,

13. The national minimum wage has been increased by 125 percent in the past 2½ years—most recently by 50 percent in January 2002.18 Average wages increased cumulatively by about 20 percent in the period of 1999 to 200119. The unemployment rate declined by one half a percentage point but remains high at 15 percent. However, the incidence of poverty declined to 16.9 percent in 2001 from 18.7 percent a year ago, a reversal of increases in the last two years. Nevertheless, the poverty incidence in rural areas remains high at 24 percent.

III. Report on Discussions

14. The staff commended the Jamaican authorities for low inflation and positive real growth despite adverse shocks, but noted that the fiscal position in FY 2001/02 was much worse than had been projected in November 2001 (post shocks), and expressed strong concern that only modest progress was made in reducing the public sector debt burden.

15. Noting the still difficult macroeconomic environment, a very high public sector debt and considerable structural impediments to growth, the staff pointed to the importance of maintaining a persistently strong fiscal effort over the medium term and a viable strategy to increase Jamaica’s growth potential. Discussions with the authorities therefore focused on policies to reinforce the fiscal effort and continue structural reforms to underpin higher and sustained growth.

16. Understandings were reached on the new SMP for FY 2002/03 which aims to reverse the fiscal slippages in FY 2001/02, to maintain macroeconomic stability, and to promote structural reforms that would lay the foundations for accelerating economic growth and reducing the public sector debt burden in the medium term (see Annex I for the memorandum of economic policies). The Parliament approved the budget for FY 2002/03 consistent with the SMP targets in early May 2002.

A. Policies and Prospects for FY 2002/03

17. Real GDP growth in FY 2002/03 is projected to accelerate from the shock-affected levels of FY 2001/02, led by a recovery in agriculture, tourism, and mining. However, recent weaknesses in tourism and the impact of the May/June floods on the economy suggest that there are considerable downside risks to the 2½ percent growth underlying the SMP (Table 1). The authorities plan to contain inflation to below 7 percent and maintain a stable exchange rate. The current account deficit is expected to increase modestly in FY 2002/03 reflecting the impact of higher oil prices on imports and a slower-than-earlier-projected rebound in tourism from the lows seen post-September 11. Total government debt repayments falling due are close to US$1 billion. Other capital flows are expected to be broadly similar to those in FY 2001/02, although there remains a good deal of uncertainty in the area of private sector capital flows.20 Remittances are now expected to grow by roughly 10 percent in FY 2002/03 slightly down from the 17 percent increase in FY 2001/02.

B. Budget for FY 2002/03

18. A key short-term priority is to reinforce the fiscal effort and to achieve a further reduction in the onerous public sector debt burden. The cash central government deficit has been targeted at 4.4 percent of GDP, consistent with a roughly 2½ percentage points of GDP improvement in the primary surplus. With the target for surpluses of selected public enterprises unchanged at 0.6 percent of GDP, and the BoJ losses rising to around 3 percent of GDP,21 the overall public sector deficit would decline slightly to around 6½ percent of GDP. While recognizing the major fiscal effort in running large primary surpluses, the staff suggested that a more ambitious fiscal effort would help to underpin lower real interest rates and faster growth. The authorities saw the current targets as at the limit of what is politically and economically feasible. The floods in May/June would lead to reconstruction spending upwards of half a percent of GDP. The authorities are seeking international support for this additional spending. The fiscal targets will be reviewed in late August in the light of more considered estimates of this spending and international support.22

19. The authorities have proposed in the budget a series of measures to increase revenues through steps to encourage greater compliance, a reduction in exemptions (statutory and discretionary), higher administrative fees, and revenues from the sale of one cellular phone license (sec Box 3). The implementation of these measures should arrest the sharp decline in revenues last year and bring the revenue-to-GDP ratio closer to the high levels of previous years. In an effort to further improve the efficiency of the tax system and promote growth, the government eliminated the tax on dividends from the beginning of FY 2002/03, and is in the process of negotiating with the bauxite industry on plans to replace the bauxite production levy with taxes on corporate incomes and increased royalties.23

20. Expenditures would be slightly below the levels in FY 2001/02 as higher interest expenditures offset lower non-interest expenditures. Interest expenditures are projected to increase by about one percentage point of GDP because of higher payments on international bonds (the counterpart to higher reserves) partially offset by lower domestic interest payments. Wages and salaries are projected to be slightly lower than in FY 2001/02 (in percent of GDP) because most of the back pay for FY 2001/02 has already been paid, and the wage increase for FY 2002/03 is currently projected at a lower rate than last year (around 5½ percent).24 The budget also plans modest reductions in other recurrent expenditures and capital expenditures. The authorities have committed to reduce expenditures (excluding debt service, wages and salaries, and social safety net expenditures)25 to meet the budget target in the event that revenues fall short of the budgeted amounts or there is an unforeseen increase in other expenditures.

21. The gross borrowing requirement for the central government would decline significantly in FY 2002/03 both domestically and externally, but remain at a high level of 23 percent of GDP (excluding the rollover of BoJ operations) (see Table 6). It is expected that financing will be met largely domestically in FY 2002/03 in contrast to previous years, as multilateral inflows and net external commercial borrowings are expected to decline.26

Table 6.

Jamaica: Financing of Central Government Budget

(In percent of GDP)

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Sources: Ministry of Finance; and Fund staff estimates.

22. The public sector debt is projected to decline to 125½ percent of GDP by the end of FY 2002/03, a reduction of 3½ percentage points of GDP.27 The large public sector debt has placed a heavy burden on budget operations, with interest costs at around 51 percent of revenues and 45 percent of expenditures in FY 2002/03. In this context, the staff advised against assuming additional debt through the deferred financing scheme—with its borrowing costs 1½–2½ percentage points above T-bill rates—and providing guarantees for public sector debt. The authorities pointed to the need to maintain infrastructure investment despite stringent budget constraints. Nevertheless, the government agreed to limit expenditures through the deferred financing scheme to an amount consistent with an annual increase in debt of no more than J$2 billion (½ percent of GDP), and also agreed to limit strictly additional borrowing guarantees (currently only a guarantee of about US$10–11 million borrowing by the Port Authority is envisaged in FY 2002/03).

23. The authorities are interested in a simplification of the tax system in the medium-term. Currently there are a number of specific taxes or contributions on payroll (some of them paid to different agencies) such as the Education tax, contributions to the National Insurance Scheme (NJS), the National Housing Trust (NHT), and the Human Employment and Resource Training (HEART). The staff suggested that these taxes could be merged with the personal income tax to reduce the administrative burden on taxpayers and improve the efficiency of budget resource management. The authorities agreed to consider plans to merge the Education tax with the general income tax. They noted that contributions to the NJS, NHT, and HEART are not taxes, but concurred that collections of these contributions could be streamlined to reduce the burden on private sector businesses.

C. Monetary and Exchange Rate Policy

24. The authorities’ objectives are to maintain single digit inflation (below 7 percent) and maintain—and if possible improve—competitiveness through monetary and exchange rate policy. Broad money is expected to increase by 8 percent in FY 2002/03, assuming an unchanged velocity. The banking system’s credit to the private sector is projected to increase by 15 percent, although remaining a relatively small proportion of total bank assets. As inflationary expectations continue to adjust downward, the authorities expect a further decline in domestic interest rates. However, the floor set by interest rates on Jamaica’s international bonds—which are widely available in the domestic market—may limit the room for significant domestic interest rate reduction. The staff encouraged the BoJ to rely more on short-term interest rates—less than the 30 day signal rate—to reduce liquidity and be more reluctant to raise longer-term rates.

25. On exchange rate policy, while the exchange rate is determined in an interbank market operated by the authorized dealers, the BoJ routinely intervenes and continues to aim to avoid over-rapid movement in the Jamaican dollar.28 They see such movements as potentially destabilizing (in a thin foreign exchange market) and as threatening inflationary expectations. The staff urged adoption of a more flexible exchange rate policy, particularly against the background of the real appreciation that had occurred in FY 2001/02.

26. Within the constraint of achieving single digit inflation, the staff encouraged a willingness to accept a somewhat faster rate of depreciation of the Jamaican dollar to boost the competitiveness of the economy. Staff noted that Jamaica suffered a significant loss of competitiveness—of between 40 and 60 percent—between 1995 and 1998, from which the economy has not yet recovered.29 Exports in US dollars have declined continuously in the last five years and exports in US dollars in 2001/02 are projected to be 20 percent below that of 1995/96. The current account deficit widened to 8 percent of GDP from 3 percent in 1998/99, and external financing was heavily dependent on FDI and remittances. The authorities said they placed greater weight in maintaining low inflation, while observing that Jamaica had not lost its share in the tourist market to other Caribbean countries, and pointing to the recent weakness of the US dollar as permitting some boost to competitiveness.

27. The staff urged early action by the authorities to strengthen the balance sheet of the BoJ to limit its losses. The authorities acknowledged the need to tackle this issue, and various plans are under consideration to strengthen the BoJ balance sheet.30 The BoJ is committed to abolish the foreign currency surrender requirement (currently at 5 percent) when market conditions permit.31 The staff encouraged that this be done quickly, which would not only help foster the development of the foreign exchange market, but also signal the end of an era of foreign exchange scarcity in the Jamaican economy, and help to eliminate the multiple currency practice noted in footnote 12.

28. The staff questioned the preferred credit scheme under which banks provide subsidized loans equivalent to half the reduction in cash reserve requirements at a preferential interest rate of 9 percent to selected sectors such as tourism through the Development Bank (guaranteed by the government) and pressed for a commitment that it would not be renewed in the context of any further reserve requirement reductions. The authorities saw this scheme as providing support to productive sectors, but noted that as no further reductions in the cash reserve requirement were planned in FY 2002/03, the scheme would lapse in the current fiscal year.

Revenue Measures in the FY 2002/03 Budget

The authorities have proposed the following revenue measures, with a total revenue impact of around 2.5 percent of GDP.

  • Amendments to the General Consumption Tax (GCT) Act (0.23 percent of GDP).

    The amendments will provide for recovery of GCT payable from third parties; require full payment of GCT payable by motor vehicle dealers at clearance from the Customs; enable the collection of tax payable in respect of services rendered by a nonresident to a registered taxpayer; and limit the exemptions of GCT to apply only to persons operating under a license granted under the Betting, Gaming and Lotteries Act.

  • Amendments to the Customs Act (0.1 percent of GDP).

    The amendments will provide for seizure of equipment from an importer’s premises, seizure of goods that are cleared through the customs and are not in the possession of the importer, and admission into evidence of certain documents.

  • Linking tax compliance with the granting of licenses and certification (0.5 percent of GDP).

    All individuals requiring licenses or permits issued by Government agencies will be required to present a valid Tax Compliance Certificate prior to the issue of the license. Also, all professionals requiring certification or licenses will be required to present a valid Tax Compliance Certificate prior to the issue of such certification or licenses by their respective professional bodies.

  • Reduction in waivers on taxes and fees (0.37 percent of GDP).

  • Increases in administrative fees and fines (0.006 percent of GDP).

  • Cancellation of tax exemption (0.66 percent of GDP).

    Exemptions for Public Enterprises from the transfer tax, the property tax, the stamp duty, the income tax, the customs duty, and the general consumption tax to be removed.

  • Auditing of financial institutions (0.24 percent of GDP).

    Local brokers who purchased or acquired Government of Jamaica Eurobonds have issued derivatives as tax-free instruments. Although the Eurobonds were issued free of the transfer tax, the stamp duty, and the income tax, interest income on these derivatives is subject to tax. The Tax Audit Department has been conducting audit inspections of these transactions to ensure that taxes due on these securities are paid.

  • Sale of one cellular phone license (0.23 percent of GDP).

D. Growth and Competitiveness

29. Higher growth is critical to address the social problems of unemployment, crime, and poverty (see Box 4 for impediments to growth) The authorities’ policy approach is to maintain low inflation, take anti-crime measures to improve business confidence and maintain social order, strengthen infrastructure and adopt sector-specific growth-oriented policies such as support for the agricultural sector on marketing, research, training and technology transfer). In the staff’s view, these policies should be complemented by more ambitious structural reforms in the labor market and public sector, and more flexibility in the exchange rate regime (as described above).

30. The government plans to continue labor market reforms. Major initiatives planned in FY 2002/03 include launching a labor market information system to facilitate job searching and training, continuing the legislative effort to introduce flexible work arrangements and establishing a tripartite national productivity center which would help the assessment of national developments in productivity.32 The staff suggested the encouragement of productivity related pay in both public and private sector wage settlements, as well as of consideration of further steps—such as a reexamination of redundancy payments—to promote labor market flexibility. The authorities plan to contain public sector wage growth to boost competitiveness. Staff noted that the increases in the minimum wage in recent years were significantly above the rate of inflation and expressed concern about their impact on future wage growth in Jamaica. The authorities observed that the national minimum wage only affected workers in restaurants, shops, and the garment industry, and is lower than most industry minimum wages. Hence, the authorities did not see these increases as leading to larger generalized wage settlements.

Structural Impediments to Growth in Jamaica

Jamaica has had low GDP per capita growth (of less than 1 percent per annum) for the last 40 years, with a marginally worse performance in the last decade. Beyond macroeconomic factors (such as the loss of external competitiveness and the very high level of public debt), the principal structural impediments to high growth in Jamaica include:

  • Endemic violence, linked to underground and drug activity, is considered by many to be the most significant impediment to faster growth. It imposes high security costs on formal economic activity, as well as discouraging tourists and FDI inflows. High levels of poverty maybe a significant factor behind the endemic violence in Jamaica: the number of people living below the poverty line stood at 16.8 percent in 2001.

  • Strong trade unions push for high minimum wages and high wage growth despite unemployment. Real unit labor costs have risen over the last decade. The growth in real labor compensation has exceeded the growth in real output per worker in 6 out of the last ten years, significantly so in 1993 and 1995. Encouragingly, this trend was reversed in 1999.

  • The reluctance of the banking sector to resume private sector lending in the wake of the mid-1990s banking crisis, along with high public sector demand for financing has slowed domestic private sector investment.

  • The tax system is complicated and imposes too much red tape on the private sector: tax administration and voluntary tax payer compliance would greatly be helped by simplification of the tax system, which could also encourage higher FDI inflows. Revenues would also be bolstered by steps to increase the coverage of the informal sector which at present largely escapes the tax net.

  • Trade protection, particularly in agriculture remains high. For agricultural products, the average tariff rate for 2002 was 19.4 percent and for industrial products 6.4 percent. While the need remains to protect Jamaican agriculture from dumping, high tariff barriers have led to high domestic food prices and higher nominal wages—food and beverages have over a 50 percent weight in the CPI basket and so domestic food prices play a significant part in wage negotiations—which have reduced Jamaican competitiveness.

  • The continued emigration of qualified Jamaicans erodes the economy’s skill base, though this is partially counter-balanced by the positive effect of emigration on remittances, which reached 12.4 percent of GDP in FY 2001/02.

31. The staff encouraged the authorities to build on the progress in recent years in the public sector to strengthen governance, efficiency and accountability.33 The staff also encouraged the government to take actions to strengthen and make more transparent the regulatory regime governing utilities, and simplify the tax and regulatory burden on small enterprises to encourage their move from the informal to the formal sector.

E. Other Structural Reforms

32. Jamaica’s trade regime is rated 4 out of 10 on the Fund’s trade restrictiveness index. This reflects Jamaica’s moderate tariffs—with average tariff rates at around 9 per cent—and moderate nontariff barriers. Amendments to tariff rates on a small number of agricultural products came into effect on June 3, 2002 taking the maximum tariff rates from 75 per cent to 100 percent or, in ten cases, 260 per cent, in the context of moving from a reference to an actual price system. While the combined effect of the change on prices is still being analyzed, it is not expected that it will result in significant price increases to consumers because the new tariffs will be applied to actual import prices which tend to be much lower than the reference prices used before for assessing import duties. Moreover, Jamaica’s average tariff rate is broadly unchanged since the last Article IV despite these changes. The authorities defended agricultural protection as necessary to protect the sector—where a large proportion of the poor tend to be employed—from cheap imports (sometimes reflecting under-invoicing) which can flood the domestic market. They also pointed to the adverse impact on Jamaican agriculture of recent agricultural support legislation adopted in the US. The staff encouraged the authorities to establish a program of quickly reducing the new tariff rates consistent with WTO rules and consider alternative means, such as through strengthening the social-safety net, to achieve their social objectives which would be both less distortionary and more effective.

33. The government plans to participate in the General Data Dissemination System (GDDS) by January 2003 and is currently assessing what would be required to subscribe to the Special Data Dissemination Standard (SDDS) in the future to facilitate Jamaica’s access to international capital markets. The main statistical agency, the Statistical Institute of Jamaica (STATIN), has embarked on an ambitious plan to improve the efficiency and quality of statistics production, and technical assistance is being provided by the Fund and other donor agencies. The staff welcomed the planned publication of quarterly GDP estimates in July.

F. Medium-Term Outlook and Policies

34. The Jamaican economy has emerged from the financial crisis of 1996 with restored macroeconomic stability, a reemergence of growth, and a healthier banking system, but also a significantly higher public debt which places a heavy burden on public finances and increases economic vulnerability (Table 7). In the medium term, sustained high growth is needed to make substantial headway in reducing the debt burden, curtailing unemployment and alleviating poverty; and a continued strong fiscal effort is also indispensable in reducing the debt burden.

Table 7.

Jamaica: Indicators of Macrocconomic Liquidity Risks

(In millions of Jamaica dollars)

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Sources: Bank of Jamaica; and Fund staff estimates and projections.

External debt due within a year, including debt service of medium- and long-term loans.

In weeks of next year goods and services imports.

Currency in circulation plus local currency demand, time and savings deposits at banks.

Short term external debt, plus legal domestic and foreign currency reserves, current account of commercial banks, open-market operations, and 30 percent of the currency.

35. The authorities’ macroeconomic objectives over the medium term to FY 2006/07 are to reduce inflation to the level in major trading partner countries, accelerate growth in output (to 3–4 percent a year), while maintaining a sustainable external position (Table 8). To achieve these objectives, the central government budget is planned to move into a balanced position by FY 2004/05 and to moderate surpluses thereafter. This is mainly achieved by maintaining a high primary surplus at around 11 percent of GDP, with declining interest expenditures as debt reduction takes effect. Such a deficit reduction is projected to lower public sector debt from 123 percent of GDP at end FY 2002/03 to below 100 percent by FY 2006/07.34 A tight monetary policy and a stable exchange rate will help achieve the inflation targets. The authorities expect that, as a result, real interest rates will decline significantly which, together with a continued structural reforms, should spur economic growth. This, in turn, will help alleviate high unemployment.

Table 8.

Jamaica: Selected Baseline Macrocconomic Medium Term Projections

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Sources: Bank of Jamaica; Ministry of Finance; Planning Institute of Jamaica; and Fund staff estimates and projections.

Including net factor income and current transfers.

Including inventory accumulation.

Including FINSAC interest payments on a full year basis.

36. The medium-term scenario is subject to a number of possible downside risks. The Jamaican economy is very vulnerable to natural disasters and an adverse international environment. Financing the current account deficit also remains heavily dependent on flows of remittances and FDI. Other risks include escalating communal violence or another world event impacting on tourism leading to a slower than anticipated growth and a less rapid decline in interest rates. Fiscal slippages, or the guaranteeing of additional public sector debt by the government, will also lead to a smaller reduction in the debt-to-GDP ratio.

37. In particular, the debt dynamics in Jamaica are very vulnerable to adverse shocks. The sensitivity analysis presented in Annex II for debt sustainability shows that under a variety of scenarios the debt to GDP ratio rises sharply. This indicates that the authorities have a very limited room for maneuver. Consequently, the primary surplus has to be kept above 10 percent of GDP over the medium term to stabilize and reduce the debt to GDP ratio.

IV. Staff Appraisal

38. In the past fiscal year, the Jamaican economy has achieved economic growth despite major negative shocks. In this respect, it has performed better than many of its Caribbean neighbors which are also heavily dependent on tourism. Inflation was kept in single-digits and there has been a marked decline in interest rates. The authorities deserve considerable credit for such economic performance in the face of such shocks.

39. However, the sizeable deterioration in public finances and the slow progress in the reduction of public sector debt burden are very worrisome. Partly as a result of measures responding to shocks, the government’s fiscal position worsened significantly in the past year by large margins over the SMP targets. The progress in reducing the public sector debt burden has continued to be below expectations, in part because of the higher fiscal deficit and in part because of debt assumed through deferred financing schemes and contingent liabilities that materialized. The BoJ losses also increased significantly during the year as costs of sterilization and open market operations mounted.

40. The key short-term priority is to reverse the fiscal slippages and continue the strong fiscal effort necessary to escape the debt trap. The central government budget for FY 2002/03 has targeted a 2½ percentage points of GDP improvement in the primary surplus and a 1½ percent of GDP decline in the cash deficit. However, the public sector deficit remains very high at close to 7 percent of GDP, reflecting worsening BoJ losses. It is imperative that the authorities implement rigorously the proposed revenue measures and avoid expenditure slippages (with the exception of reconstruction spending post floods). The staff welcomes the government’s intention to limit public sector wage increases and encourages further actions to reduce the public sector wage bill. The staff also urges early implementation of BoJ recapitalization plan being worked out with the World Bank to reduce the central bank’s losses and to preserve its credibility.

41. Achieving sustained higher economic growth is the overarching goal. The authorities should build on their anti-crime measures and sector-specific policies with flexibility in the exchange rate to boost competitiveness without jeopardizing the single digit inflation target (see paragraph 44) as well as public sector wage restraint. Efficiency in the public sector will be strengthened by speedier implementation of the public sector modernization project, including further steps to improve governance and accountability. Early implementation of the flexible working week and the encouragement of productivity-related pay will reduce labor market rigidities.

42. There remain significant downside risks to achieving the authorities’ policy objectives in FY 2002/03. Jamaica’s economy remains susceptible to shocks. Heavy damages caused by recent floods and the recent slowdown in tourist arrivals could reduce growth in FY 2002/03; the scope for further significant reduction in interest rates is limited by strong government financing needs and is subject to investors’ sentiment; financing the current amount deficit remains heavily dependent on remittances and FDI flows. There is little scope for policy slippage particularly given the uncertainties created by pending elections.

43. Achieving higher growth and a lower public debt burden over the medium term will depend on mutually reinforcing fiscal consolidation and structural reforms. The authorities’ plan to shift the central government deficit to surplus by FY 2005/06 is welcome although it requires an unwavering fiscal effort in maintaining the primary surplus at a high level of 10–11 percent of GDP over the medium term. Such effort could be helped by an improvement in tax compliance (in part through a simplification of the tax system) and continued restraint in non-interest expenditures, including wages.

44. The BoJ deserves considerable credit for its implementation of monetary policy which has (i) achieved single digit inflation for six consecutive years despite very large financial demands of the public sector, (ii) brought down domestic interest rates and (iii) contributed to the recent resumption of growth. The build up of NIR has also underpinned Jamaica’s access to international bond markets. Given the policy credibility provided by these achievements, and consistent with the objective of single digit inflation, more flexible exchange rate policy could boost the competitiveness of the Jamaican economy and also help reduce BoJ losses. Such a policy will be consistent with the BoJ paying more attention to domestic conditions in setting domestic interest rates in response to pressures on the Jamaica dollar. The BoJ should also consider acting on very short-term rates (below its signal 30 day rate) to reduce liquidity rather than longer-term maturities. The authorities should eliminate the foreign surrender requirement quickly, which would help remove the multiple currency practice associated with this scheme. The staff does not recommend approval of the multiple currency practice because a time frame for its elimination has not been established.

45. The staff commends the progress made in restructuring the financial sector particularly through FINSAC, and welcomes the prospective early winding up of the institution. The strengthening of the regulatory framework and supervisory capacity of the banking system is also praiseworthy including the progress made in nonbanking financial sector supervision. The banking system has emerged strong and healthy.

46. On trade issues, the staff welcomes the switch from reference to actual prices. The effect of the recent sharp increase in tariffs on a few agricultural imports are still being analyzed. At the same time, the government is encouraged to establish a timetable for quickly reducing the new high tariff rates consistent with WTO rules and examine alternative means such as through strengthening the social safety net, to achieve its objective in a less distortional and more effective manner.

47. Jamaica provides adequate and timely economic statistics for surveillance purpose. Statistics on international reserves and other key statistics conform to international standards. The staff welcomes the government plan to participate in the GDDS and encourages the authorities to subscribe to the SDDS in the near term to facilitate Jamaica’s access to international capital markets. STATIN’s plan to improve the efficiency and quality of economic statistics is welcome and the staff urges the authorities to provide STATIN with sufficient resources to achieve this objective.

48. It is proposed that the next Article IV consultation be held on the standard 12-month cycle.

APPENDIX I: Jamaica: Fund Relations

(As of May 31,2002)

I. Membership Status: Joined February 21, 1963; Article VIII

II. General Resources Account:

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III. SDR Department:

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IV. Outstanding Purchases and Loans:

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V. Latest Financial Arrangements:

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