Statement by Paulo Nogueira Batista, Executive Director for Trinidad and Tobago and Anne Joseph, Senior Advisor to Executive Director January 14, 2009

The staff report for the 2008 Article IV Consultation of Trinidad and Tobago highlights economic developments and policies. Faced with a prospective decline in energy resources, the government has embarked on an ambitious development and diversification strategy. External vulnerability is low as a result of large international reserves and low debt ratios, and the banking sector has entered the period of global turmoil from a position of strength and with little reliance on external borrowing.

Abstract

The staff report for the 2008 Article IV Consultation of Trinidad and Tobago highlights economic developments and policies. Faced with a prospective decline in energy resources, the government has embarked on an ambitious development and diversification strategy. External vulnerability is low as a result of large international reserves and low debt ratios, and the banking sector has entered the period of global turmoil from a position of strength and with little reliance on external borrowing.

1. The authorities wish to express their appreciation for the quality of dialogue with staff during the consultation, as well as for the recommendations and advice contained in the report.

Recent Economic Developments

2. The Trinidad and Tobago economy has enjoyed over 14 years of economic expansion, and during this time, the country has established a solid record of macroeconomic stability. The unemployment rate, currently around 5 percent, is the lowest on record. The external position is strong, with very high current account surpluses, reserves of about 11 months of import cover at the end of 2008, and a sovereign wealth fund of approximately 11.8 percent of GDP. The public sector accounts are also strong. There has been a build-up of fiscal surpluses over the last seven years and the public sector debt to GDP ratio has fallen to 27.2 percent of GDP. Consequently, the economy is well placed to weather the present global economic storm, although some adverse impact has occurred and is expected in 2009.

3. Over the past five years, GDP growth has averaged 7.1 percent, with both the energy and non-energy sectors recording buoyant activity with increases of 8.1 percent and 6.1 percent, respectively. Moreover, reflecting the government’s efforts to diversify the economy, the non-energy sector was the main driver of economic activity in 2007 and 2008, with buoyant conditions in manufacturing, tourism and financial services. Moreover, activity in the agriculture sector rebounded sharply with growth accelerating to 8.6 percent in 2008 after years of contraction. Admittedly, GDP growth slowed somewhat in 2008 to 3.5 percent. Growth in energy sector output was only 0.4 because of lower production of crude oil and flat growth in the capacity-constrained petrochemicals industries. In contrast, the non-energy sector recorded stronger growth of 4.8 percent.

4. In 2008, inflation was the major challenge confronting the authorities, as domestic prices increased by 11.8 percent in the first eleven months of 2008, compared with 7.9 percent in January-November 2007. The economy suffered as did the global economy, from escalating international food prices. Core inflation, which filters out the food component, was more moderate at 6.1 percent. However, this was 1.7 percentage points above the rate for 2007, as second round effects had begun to pass through the economy. One of the other major influences on inflation has been the non-energy fiscal deficit, which is estimated at 14.7 percent of GDP in fiscal year 2007/2008. This, together with sharp increases in private sector credit, fueled demand pressures that ran up against supply bottlenecks. Rising inflationary expectations have begun to influence the level of wage demands, as well as decisions to spend rather than save and have also prompted businesses to increase margins as a hedge against rising prices.

5. The central bank has used every available tool at its disposal to tighten liquidity and hence contain demand pressures. The monetary authority raised its key policy rate three times during 2008, supported by open market operations, which more than doubled in fiscal year 2007/08, as well as sales of foreign exchange to the market. Rising inflationary pressures also led the central bank to further tighten its monetary policy stance by raising the primary reserve requirement by 2 percentage points on three separate occasions. In addition, the authorities have periodically been issuing government bonds and Treasury Notes to aid in liquidity absorption. The proceeds from these securities have been sterilized. These measures have begun to have an impact as credit expansion, in particular, consumer lending has slowed considerably, reflecting higher interest rates. On the supply side, the government embarked on a number of initiatives to improve the efficiency of the distribution network for agricultural produce, as well as to increase the supply of these items with the establishment of a number of mega farms, the first of which began harvesting in the last quarter of 2008. It is expected that the increase in the supply of domestic agricultural produce would dampen price pressures. In addition, investment in the sector should improve the linkages with other sectors of the economy and provide an incentive for private sector participation in downstream agri-businesses. Moreover, the government eliminated or significantly reduced import duties and value added taxes on a wide range of food items, which cushioned the impact of higher food prices on vulnerable groups in the society.

6. The fiscal position has been strong over the past seven years, reflecting mainly increased revenues from the energy sector. The government recognizes that the widening of the non-energy fiscal deficit has helped to fuel inflationary pressures, and sees the reduction of the latter as an economic and social priority. To this end, in the 2008/2009 Budget, the government reduced the subsidy on premium gasoline and intends to reduce the fuel subsidy further, over the medium term, with the provision of a viable fuel alternative for the population - compressed natural gas. At the same time, the government sees the growth in the non-energy deficit as temporary and in keeping with its prioritization of investments in education, health, housing, social services and infrastructure. These investments are intended to enhance economic growth and provide impetus for the expansion of the non-energy sector and the diversification of the economy.

Outlook and Measures to Mitigate the Impact of the Global Economic Slowdown

7. The authorities concur with staff that the economy should grow by about 2 percent in 2009, on the back of the impact of the global recession on output of oil, gas and petrochemicals, while activity in the non-energy sector is projected to show a modest increase. The external current account surplus is expected to decline and the fiscal account to balance or record a small deficit. The major challenge remains the control of inflationary pressures, which should recede in 2009 and in the medium term, in response to the fall in international food prices, increased domestic food supply and lower government spending. This fall may be tempered in light of the heightened inflationary expectations in the economy, and the time lag in the response of domestic prices to the fall in international food prices.

8. The government, keenly aware of the impact of the external environment on the economy, and having benefited from similar previous experiences, moved quickly to adjust both recurrent and capital expenditure, in light of an expected reduced revenue stream. The authorities also announced that social spending would not be reduced, in an effort to mitigate the impact on vulnerable groups. Moreover, in negotiating a soft landing for the economy, the government is also intent on maintaining momentum in economic activity. This will be helped by the fact that approximately 60 percent of government revenues are currently derived from natural gas, the price of which has been falling at a less precipitous rate than that of oil. In addition, the government has declared its intention not to tap into the resources of the Heritage and Stabilisation Fund, but to access accumulated savings, if necessary.

9. The central bank’s priority remains the containment of inflationary pressures, the prospect of which appears attainable, especially in light of an expected reduction in government spending, lower international food prices and a projected increase in agricultural production. However, the bank intends to maintain a tight monetary stance in order to further reduce bank credit and rein in demand pressures. Staff has stated that a more flexible exchange rate would provide an additional tool for managing inflation. However, the authorities are of the view that exchange rate stability has served as a solid anchor for the economy’s growth and development.

10. The financial sector is sound and contagion from the global financial turmoil has been minimal. The banking sector is profitable, liquid, well capitalized and does not depend much on foreign borrowing. In addition, a new Financial Institutions Act became law in November 2008, strengthening the regulatory framework. The Act upgrades and improves the oversight of financial conglomerates and makes provision for the sharing of information with other regulators in the Caribbean and addresses the issue of inter-institutional co-operation. The legislation also provides for reporting requirements for financial holding companies on a consolidated basis and with respect to connected parties of licensees. A new Securities Act should be laid in Parliament in 2009, which will establish the foundation for a modern securities market and make the country’s capital market more attractive to both foreign and domestic investors. Plans are also progressing to improve regulatory oversight of credit unions. The authorities have taken note of staff’s recommendation with respect to the identification of contingency measures in the event of tensions in the financial system and have begun work in this area. In this regard, given the fact that some of the country’s banks have a presence in many Caribbean jurisdictions, the authorities are working on a contingency plan with other regulators in the region. Moreover, the limit on deposit insurance was already raised by 50 percent in 2007.

Structural Reforms and Other Issues

11. The authorities are intent on continuing to improve tax administration. To this end, plans to establish the Trinidad and Tobago Revenue Authority are well advanced and the enabling legislation should be passed in 2009. This would enhance efficiency in the areas of tax and customs administration and improve service delivery to the government as well as the population. Work on property tax reform is also ongoing. In addition, the authorities plan to implement a new system for delivery of social services that will involve decentralization and collaboration with civil society. This should enhance efficiency and facilitate the reporting and monitoring process. The authorities are appreciative of the technical assistance provided by the Fund in 2008, to assist them in strengthening macro-fiscal capacity and in setting up a medium-term fiscal framework.

12. The authorities are also advancing their plans for the diversification of the economy. One major project in this area is the establishment of an International Financial Center, work on which is at an advanced stage. The government will work with the private sector to develop other sectors that have been identified. In addition, the government proposes to establish a Business and Investment Secretariat, which should improve administrative efficiency and allow investors to access information on the necessary steps to establish a business. Plans are also afoot to form a National Productivity Council, which would seek ways to improve competitiveness in light of the country’s fall in the ranking of the Global Competitiveness Index. The authorities have also initiated dialogue with business and labor to discuss, in the first instance, the outlook for the domestic economy in 2009. This should lay the foundation for ongoing discussions on many issues including the improvement of the business climate.

Trinidad and Tobago: 2008 Article IV Consultation: Staff Report; Public Information Notice on the Executive Board Discussion; and Statement by the Executive Director for Trinidad and Tobago
Author: International Monetary Fund