This 2016 Article IV Consultation highlights that economic growth in The Bahamas is estimated to have stalled in 2015, as a modest increase in air tourism arrivals was not sufficient to offset a contraction in domestic demand and weak exports of goods. Private consumption and investment were weighed down by headwinds from fiscal consolidation, as well as an end to construction. Inflation was moderate at 1.9 percent on average in 2015. Growth is expected to strengthen to about 0.5 percent in 2016, supported by continued growth in air tourist arrivals and moderating headwinds to private consumption and investment.


This 2016 Article IV Consultation highlights that economic growth in The Bahamas is estimated to have stalled in 2015, as a modest increase in air tourism arrivals was not sufficient to offset a contraction in domestic demand and weak exports of goods. Private consumption and investment were weighed down by headwinds from fiscal consolidation, as well as an end to construction. Inflation was moderate at 1.9 percent on average in 2015. Growth is expected to strengthen to about 0.5 percent in 2016, supported by continued growth in air tourist arrivals and moderating headwinds to private consumption and investment.

Recent Developments, Outlook, and Risks

A. Recent Developments

1. Economic activity stalled. Preliminary estimates suggest that real GDP contracted by 1.7 percent in 2015, as a modest increase in air tourism arrivals (see Figure 1) was not sufficient to offset a contraction in domestic demand and weak goods exports. Private consumption and investment were weighed down by headwinds from fiscal consolidation, as well as an end to construction and uncertainties over the opening of the Baha Mar megaresort. Growth in 2014 was revised down to -0.5 percent, from 1 percent in the preliminary release, thus pointing to two consecutive years of falling real GDP. After repeated construction delays and legal wrangling, the main creditor (China Export-Import Bank) has taken control of the close to complete Baha Mar. Inflation was moderate at 1.9 percent on average in 2015, despite a temporary increase owing to Value Added Tax (VAT) introduction in January 2015 (see Box 1). Unemployment, after a brief dip earlier in the year, rose to 14.8 percent in November, as workers hired for the planned Baha Mar opening were later dismissed.

Figure 1.
Figure 1.

The Bahamas: Growth, Inflation, and Labor Market

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: The Bahamian authorities; WEO; The Federal Reserve (St. Louis); S&P; Moody’s Investor Service; and Fund staff estimates and projections.

Growth and Unemployment

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: Department of Statistics; and Fund staff estimates.

2. VAT introduction contributing to fiscal consolidation. Reports suggest relatively smooth implementation and an efficient VAT regime. While there are some concerns about the accuracy of the registration database, registration, filing and compliance rates appear to have been broadly comparable to regional standards. VAT revenue over the first 12 months, at $536 million (about 6 percent of GDP), has exceeded expectations (Figure 2). As a result, the FY2014/15 (ending in June 2015) deficit is estimated to have declined to 4.4 percent of GDP (down from revised 5.6 percent in FY2013/14). Data for the first seven months of FY2015/16 point to a further decline in the deficit, by about 1 percentage point, compared to the same period a year ago. The central government debt-to-GDP-ratio nevertheless reached close to 66.5 percent in December 2015, pointing to limited fiscal space. State-owned enterprises (SOEs) continue to be a significant fiscal drag, with annual transfers from the budget amounting to about 1.4 percent of GDP in 2014/15. Damage from the October Hurricane Joaquin is estimated at $100 million (about 1.1 percent of GDP).

Figure 2.
Figure 2.

The Bahamas: Fiscal Developments 1/

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: The Bahamian authorities; and Fund staff estimates and projections.1/ Central government fiscal year ending June 30.

Comparative VAT C-Efficiency Ratios 1/

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Source: Fund Staff calculations.1/ Country averages, various years. 2015 for The Bahamas

3. Narrower, but still sizeable, current account deficit. The current account deficit declined significantly, to 15.3 percent of GDP in 2015 (compared to 22 percent a year earlier), driven primarily by lower imports owing to the decline in oil prices and halt to Baha Mar construction (Figure 3). International reserves, supported in part by government external borrowing, increased to $981 million at end–March 2016, equivalent to about 2.9 months of next years’ projected imports of goods and services. Reflecting a sizeable US dollar appreciation, the real effective exchange rate (REER) appreciated by 12 percent in 2015, thus weakening cost competitiveness of goods exporters. The impact on tourism competitiveness is mitigated somewhat by the large share of US tourists in total arrivals.

Figure 3.
Figure 3.

The Bahamas: External and Structural Competitiveness

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Source: The Bahamian authorities; and Fund staff estimates.


(Index 2010=100)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: INS, and Fund staff calculations.

4. Further contraction in private sector credit. Double-digit unemployment, as well as tight bank lending conditions continue to constrain private credit (which fell by 1 percent year-on-year in December 2015) (Figure 4). The share of nonperforming loans (NPLs), mostly mortgages, remains elevated (at 15.2 percent of total loans in February 2016), while provisioning has been increasing. Despite stalling economic activity, available prudential indicators continue to point to a well-capitalized, liquid and profitable domestic banking system as a whole. However, the financial position of one state-owned bank, which represents around nine percent of domestic banking system assets, remains challenged with accumulated losses that continue to erode its capital base.

Figure 4.
Figure 4.

The Bahamas: Monetary and Financial Developments

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Source: The Bahamian authorities; and Fund staff estimates.

Financial Soundness Indicators 1/

(Domestic commercial banks)

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Sources: Central Bank of The Bahamas; and Fund staff calculations.

For 2015, latest available data.

Central Bank target is 17 percent.

In percent of statutory minimum requirement.

B. Macroeconomic Outlook and Risks

5. Prospects tempered by Baha Mar related uncertainties and low potential growth. Real GDP is expected to stabilize, with positive growth of about ½ percent this year, supported by continued growth in air tourist arrivals and moderating headwinds to private consumption and investment. Looking forward, staff projections assume that Baha Mar opening provides a boost to growth in 2018 and 2019, helping to close the still sizeable output gap. Structural impediments continue to constrain potential growth. Staff estimates point to potential growth between 1 and 1½ percent over the medium term, down from close to 3 percent at the start of the century (see Box 2). The still negative output gap and remaining slack in the labor market suggest that domestic inflationary pressures are likely to remain muted over the next few years. VAT revenue is expected to support further fiscal consolidation and help stabilize central government debt over the medium-term, albeit at a higher level (at about 67 percent) than previously expected. Although the current account deficit is expected to narrow further, supported by low oil prices and an expected boost to tourism receipts, it remains elevated (at about 7 percent of GDP) over the medium term. Absent further foreign borrowing, international reserves are therefore likely to increase only gradually.

Medium-Term Macroeconomic Framework

(In percent of GDP, unless otherwise indicated)

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Sources: Central Bank of The Bahamas; Department of Statistics; Ministry of Finance; and Fund staff projections.

Central government only; Fiscal year data (to June).

6. Outlook subject to mainly downside risks. Setbacks in fiscal consolidation and a worsening of the macroeconomic outlook owing to a slowdown in advanced economies could heighten risks to macroeconomic stability and the country’s credit rating. Continued “de-risking” trends, including loss of correspondent banking relations (CBRs), could create an uncertain environment for businesses and have adverse implications for the financial services sector. Other key risks include a longer-than-expected delay in Baha Mar’s opening, U.S. dollar appreciation leading to a further weakening of cost competitiveness, natural disasters, and, over the medium term, the potential emergence of Cuba as a competitor for U.S. based tourists (see Table 6). On the upside, the Baha Mar creditor (through its appointed receivers) has an opportunity to promptly complete and open the resort.

Table 1.

The Bahamas: Selected Social and Economic Indicators

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Sources: Central Bank of The Bahamas; Department of Statistics; Ministry of Finance; UNDP Human Development Report; and Fund staff projections.

The data refer to fiscal years ending on June 30.

Reflects reclassification of capital transfers and net lending, about 1 percent of GDP, to some public entities to current transfers.

Table 2.

The Bahamas: Operations of the Central Government 1/

(In millions of Bahamian dollars)

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Sources: Ministry of Finance; and Fund staff estimates and projections.

Fiscal year ends June 30.

Reflects reclassification of capital transfers and net lending, about 1 percent of GDP, to some public entities to current transfers.

Table 3.

The Bahamas: Outstanding Stock of Public Debt

(In percent of GDP) 1/

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Source: Central Bank of The Bahamas.

Calendar year basis.

Excludes central government debt holdings by public corporations.

Table 4.

The Bahamas: Balance of Payments

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Sources: Central Bank; Department of Statistics; and Fund staff projections.

Includes errors and omissions.

Table 5.

The Bahamas: Summary Accounts of the Central Bank and the Financial System

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Sources: Central Bank of The Bahamas; and Fund staff estimates and projections.
Table 6.

Risk Assessment Matrix 1/

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The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (that is, which is the scenario most likely to materialize in the view of IMF staff). The relative likelihood of risks listed is the staff’s subjective assessment of the risks surrounding this baseline. The RAM reflects staff’s views on the source of risks and overall level of concerns as of the time of preparation of this document

7. Past Fund advice. The last Article IV consultation was completed in June, 2015. The Executive Board called for (i) structural reforms to strengthen competitiveness, raise potential growth and lower unemployment; (ii) continued efforts to strengthen the fiscal position; (iii) efforts to further strengthen financial sector regulation and supervision; and (iv) policies that will address high NPLs. The authorities’ policies have been broadly in line with this advice, although implementation has been gradual. The authorities are moving ahead with finalizing the National Development Plan and have taken steps towards energy sector reform (para 11). Fiscal consolidation continues, although at a more gradual pace than previously envisaged (paras 9 and 13). Authorities continue to advance financial sector reforms (para 17 and box 3). Progress in addressing NPLs has been slow (para 12).

VAT Impact

Consistent with international evidence of incomplete pass-through of tax increases to prices, VAT introduction in January 2015 likely had only a temporary and muted impact on consumer inflation, further dampened by still weak consumer demand and the concurrent decline in international oil prices.

Reform. As part of the VAT reform, the authorities have eliminated the 10 percent hotel room tax, reduced import tariffs on a number of items, as well as adjusted several domestic tax rates including rates on property taxes, business licenses, and stamp duties. Overall, estimates suggest a significant net increase in tax revenue.

Temporary, muted increase in headline inflation. While the tax reform has made an important contribution to maintaining macroeconomic stability and strengthening policy credibility, it is also expected to have temporarily increased inflation and, even with low estimated fiscal multipliers, to have dampened near-term economic activity. The VAT was introduced at a time when consumer demand was already relatively depressed, with a high unemployment rate and a large negative output gap, and coincided with a large decline in global oil prices. Both factors are likely to have dampened the impact of VAT introduction on prices. Estimates based on a simple forecasting model for inflation suggest that after controlling for other inflation determinants, VAT introduction increased annual CPI inflation in 2015 by about 2 percentage points, reflecting less than complete pass-through.1/ The impact on inflation was also likely dampened by the simultaneous reduction in several import duties and excises.

Impact on inflation sub-components. Monthly data on the retail price index and its subcomponents (relative to the average inflation in previous years) shows a temporary spike in headline inflation in January 2015. Headline and median inflation increased by about 2½ to 3½ percentage points in January. Pass-through appears to have been immediate and near-complete for sub-components such as food, beverages, furnishings and household equipment, health, communication and recreation (accounting for about 26 percent of the consumption goods included in the retail price index). Pass-through has been incomplete for other subcomponents, including the largest subcomponent of housing, utilities and energy (more than 30 percent of the total), as well education, restaurants and hotels and miscellaneous services. For some components, such as the tourism related restaurants and hotels, this reflects compensating factors in the tax reform, such as the reduction on the hotel room tax. For others, such as transportation, lower energy prices are likely to have dampened the impact on prices. The remaining differences in pass-through across items could reflect differences in price elasticities of consumption, competition, and the impact of regulated and administered prices. There is little evidence of “inflation smoothing”, i.e. increases in inflation in the months prior to actual VAT introduction, in headline inflation.2/


Impact on Inflation

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Note: Annualized monthly inflation relative to average monthly inflation in previous years. Min and Max refer to lowest and highest monthly inflation among available subcomponents.
1/ The inflation forecast is based on a parsimonious model that relates headline inflation to the change in government debt and US inflation. VAT impact is approximated by the part that is not explained by underlying fundamentals.2/ These results are broadly consistent with international evidence. For example, Benedek et al. (2015) show using European data that only about one third of VAT increases are directly passed through to consumer prices, with most of the increase taking place contemporaneously. Benedek, D, De Mooij, R, Keen, M. and Wingender, P. (2015): “Estimating VAT Pass-Through”, IMF working paper WP/15/214.

Potential Growth

Staff analysis points to a significant decline in potential growth over the last 15 years. Furthermore, the large negative output gap is not expected to be closed before 2019. A comparison with other tourism intensive countries in the region generally shows similar trends.

Methods. Potential growth and the output gap are not observable variables and estimates are subject to significant uncertainty. We therefore use three different approaches to estimate them. First, we use the multivariate filter approach developed by Blagrave et al. (2015).1/ The structure of the filter relates the output gap to changes in inflation (i.e. the Philips curve) and slack in the labor market. This pragmatic approach can be easily applied to many countries, as it only requires data on three observable variables: real GDP, inflation and unemployment. Second, we estimate potential output using a conventional Cobb-Douglas production function approach with constant returns of scale. This approach also allows us to determine the different drivers of potential growth, i.e. factor accumulation (labor and capital) and total factor productivity (TFP) growth.2/ Finally, we benchmark our results against a simple univariate filter. Each of the three approaches have pros and cons. For example, while both the multivariate filter and production function approaches are based on economic theory, they also rely on several simplifying assumptions. In contrast, the univariate filter has no economic theory content, but is simple and widely used.


Potential Growth

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001


Output Gap

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Lower potential growth and a still sizeable output gap. Although there are differences in magnitudes, all three methods suggest that potential growth has declined significantly over the last 15 years. The decline started already in the late 1990’s, with potential growth hitting a low point in the immediate aftermath of the global financial crisis (GFC). Since then, potential growth has recovered modestly, with current estimates suggesting potential growth around ½ percent. Going forward, staff projections suggest a further recovery to about 1 to 1½ percent over the medium term. The results across all three methods also show a sizable negative output gap that has yet to be closed. Actual real GDP contracted by more than 6 percent in cumulative terms in 2008 and 2009, and as a result, the output gap turned sharply negative. Estimates suggest that the output gap is still negative, with an average of -2.5 percent across the three methods, and is not expected to close before 2019.

Decline in potential growth driven mostly by TFP. All factor inputs have contributed to the decline in potential growth. However, the deterioration in growth prospects has been driven mostly by more negative TFP growth, which has been about -1 percent of GDP on average since 2000. These results are similar to those obtained by Thacker et al. (2012), who also find that negative TFP growth has been a persistent feature in The Bahamas since the early 1980s.3/ Furthermore, the large positive contribution of capital has been declining over time, despite temporary effects of large investment projects (for example, Baha Mar related investments boosted the capital contribution between 2011 and 2014). The contribution of labor also declined in the early 2000s, but has been improving modestly since then, in spite of considerable slack in the labor market.

Cross country comparisons. Applying the same approaches to Barbados and Jamaica suggests that potential growth has declined also in these countries. However, the pre-crisis decline in potential growth started earlier and was larger in The Bahamas. Over the last few years, estimates suggest that potential growth has been recovering somewhat faster in Jamaica. All three countries are also still struggling to close the output gap, amid both relatively low actual and potential growth.


Drivers of Potential Growth

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001


Potential Growth

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Source: Fund staff estimates.
1/ See P. Blagrave, R. Garcia-Saltos, D. Laxton and F. Zhang (2015): “A Simple Multivariate Filter for Estimating Potential Output”, IMF Working Paper WP/15/79.2/ We assume a labor share of 60 percent. The capital stock series is constructed using the perpetual inventory technique, assuming a depreciation rate of 6 percent (as in N. Thacker, S. Acevedo and R. Perrelli (2012): “Caribbean Growth in an International Perspective: The Role of Tourism and Size”, IMF Working Paper WP/12/235).3/ TFP is measured as a residual. Thus, any measurement errors, changes in the quality of the capital and labor, as well as changes in capital utilization are attributed to TFP growth.

Policy Discussions

A. Policies Towards Stronger Growth

8. Macroeconomic policies geared towards stability. The nature of The Bahamas as a small, open island economy with a strong commitment to a fixed exchange regime and an extensive capital flow management (CFM) system, as well as limited policy buffers, leaves the authorities with few macroeconomic policy tools. In this context, monetary policy is constrained by the eventual increase in U.S. interest rates and fiscal policy needs to be geared primarily towards ensuring debt sustainability. Against this background, continued fiscal policy tightening centered on reducing current expenditure, while protecting necessary social spending, would be the main policy lever to respond to external shocks.

9. Fiscal consolidation in the low growth environment. The VAT reform has made an important contribution to maintaining macroeconomic stability and strengthening policy credibility. Authorities expect that strong VAT collection, together with reforms to enhance revenue administration raising additional revenue of up to 2½ percent of GDP, will contribute to significant consolidation in the near-term. However, with weaker than expected growth weighing on revenue collection, the authorities’ plan that seeks to reduce the FY2015/16 fiscal deficit to 1.5 percent of GDP and to achieve a near balanced budget by 2017/18 appears too optimistic. Staff projections suggest a still significant, but more realistic and growth friendly pace of consolidation, with the fiscal deficit projected to narrow to 3 percent, in FY2015/16. The fiscal deficit is expected to decline further in FY2016/17, albeit at a slower pace, with debt stabilizing at around the same time. Credible reforms to ensure fiscal responsibility, including decisive steps towards a medium-term budget framework (para 15), would allow fiscal policy to better balance the need for continued consolidation and support for the recovery in the near-term.


Fiscal Impulse and Output Gap 1/

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: Central Bank of the Bahamas and Fund staff estimates.1/ Primary fiscal impulse is the change in the cyclically adjusted primary balance

10. Investing in growth-enhancing infrastructure. To support near-term economic activity, staff sees room for shifting spending away from current spending and towards more productive and growth-friendly infrastructure spending. Priorities include efficient investment in information and communication technology, transportation, public utilities, as well as projects that support economic diversification, increase domestic value added in the dominant tourism sector and enhance resilience to natural disasters. Using responsible public-private partnerships, where relevant, can help reduce the burden of higher investment on government finances.

11. Structural reforms to lift potential, reduce unemployment, and enhance competitiveness. Staff estimates that negative TFP growth and smaller contributions from both capital accumulation and labor have contributed to a significant decline in potential growth since 2000 (see Box 2). Moreover, the non-accelerating rate of unemployment has been consistently increasing over the same time period (see Figure 1). Alternative indicators of competitiveness point to persistent weaknesses, such as elevated energy costs and high costs of doing business. The authorities have completed a comprehensive State of the Nation diagnostic that identifies a broad strategy for structural reforms, a first step towards completing their National Development Plan (NDP). The next steps, expected to be completed later this year, include further national dialogue and development of a comprehensive package of specific reform measures. Many structural measures, such as fundamental state-owned enterprise (SOE) reforms, will take time to bear fruit. Staff therefore argued for an urgent shift towards implementation of growth-friendly structural reforms, focusing on the following main priorities:

  • Strengthening the business environment. Reforms to improve the ease of doing business should focus on strengthening contract enforcement and frameworks for resolving insolvencies and registering property, improving access to credit, and alleviating the administrative burden and time necessary to start a business.

  • Raising human capital and reducing skill mismatches. Enterprise surveys suggest that the main business obstacle cited by firms is an inadequately educated workforce. Policies should aim at improving productivity through better educational outcomes, further strengthening existing apprenticeship and vocational training programs, easing restrictions on labor mobility and seeking to reverse the “brain drain” of skilled Bahamians.

  • Improving competitiveness through reducing costs. Policies should aim at reducing energy and other utility costs and better aligning wages with productivity. Staff urged the authorities to advance state-owned enterprise (SOE) reforms, including reducing the entities’ operational inefficiencies, fostering an enabling regulatory environment and aligning tariffs with costs of service delivery. Regular financial reporting and consistent monitoring are also essential to ensuring accountability. Staff welcomed recent steps towards energy sector reform. An external management company is coming on board and parliament has passed legislation for reforming the loss-making Bahamas Electricity Company, establishing an independent regulator, and refinancing legacy debts and fund capital improvements. Staff argued that reforms should be extended to other SOEs, including Bahamasair and the Water and Sewerage Corporation.


Doing Business Indicators

(Index, from 0 to 100, where 0: lowest and 100: best)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Source: The World Bank

12. Policies to revive credit growth. Staff noted that discussions between the government and banks about placing distressed mortgage assets in special purpose vehicles (SPVs) have been protracted, owing in part to social concerns. Resolving debt overhang in a timely and socially responsible manner would help unlock resources for private sector financing, thereby supporting growth and further strengthening financial stability. In this context, the authorities should consider implementing a comprehensive framework for resolution that may include, inter alia, the establishment of a specialized agency. Work on establishing a credit bureau, which could eventually improve well-grounded access to credit, continues. Prompt finalization of this work is key, given that more time will be required to build comprehensive information regarding existing debt obligations and repayment histories.

Authorities’ views

  • Authorities affirmed that they remain on track to achieve their deficit target in FY2015/16, pointing to tighter spending control and seasonality in the collection of business license fees and property taxes. Authorities expect to reallocate spending items to accommodate costs related to Hurricane Joaquin, with reconstruction spanning several years. They argued that room for increasing capital spending in the near term was constrained by project execution capacity. Authorities expect to achieve further reduction of the deficit to below 1 percent next year mainly through modernization of revenue administration, stronger enforcement efforts and spending control.

  • Authorities were optimistic that new investment projects coming on stream in the near term have the potential to boost growth and lower unemployment. Authorities nevertheless fully agree with the need to design and implement an ambitious growth strategy, acknowledging that weak competitiveness, low productivity and high costs of doing business are hampering growth. They see the NDP as a critical device to strengthen and diversify the economy. Finally, the authorities recognized the need for a decisive and timely resolution of NPLs. They noted that banks have been more aggressive recently in restructuring and other forms of mortgage relief and customer assistance programs. The authorities admitted that progress has been slow, but that they continue to work closely with banks on a new framework for resolution.

B. Ensuring Fiscal and External Sustainability

13. Rebuilding fiscal policy buffers. The pace of fiscal consolidation has been more gradual than previously envisaged owing to both weaker than expected growth and recent revisions in the fiscal accounts. Looking forward, and despite the more gradual pace of consolidation, the primary fiscal balance is expected to return to a surplus over the next two years. As a result, the central government debt to GDP ratio is expected to stabilize at 67 percent of GDP by FY2016/17 and begin to decline gradually thereafter (Annex I: Debt Sustainability Analysis). Fiscal vulnerabilities extend beyond the central government. SOE’s debt amounted to an additional 17.4 percent of GDP in December 2015 and the unfunded pension liabilities of the public pension system, already sizeable at $2.2 billion (about 26.2 percent of GDP), are projected to grow further in the next decades (Annex II: Pension Reform).

14. Following smooth VAT introduction, focus on other fiscal reforms. Further initiatives include a review of all revenue lines, and modernization of customs, property tax, vehicle fees, and immigration fee administration. The authorities recently stepped up revenue administration reform by introducing online payment of business license fees, electronic filing of customs import declaration, and merging the operations of key domestic revenue agencies as a step towards establishing a Central Revenue Agency (CRA). The government is also taking steps to introduce a National Health Insurance (NHI) scheme to be rolled out in phases, with public consultation still under way and with the cost and sources of funding yet to be determined. The authorities released a consultation paper on fiscal responsibility legislation in May 2015, which has yet to be discussed.

15. Combination of growth-friendly reforms to help fiscal consolidation.

  • Revenue reforms. Staff called for standing firm against pressures to weaken the VAT’s efficiency through introducing exemptions to items such as food, medical and insurance services, which could amount to an estimated ¾ percent of GDP in revenue losses. Social concerns should instead be addressed by targeted adjustments to the safety net. In addition, the authorities should comprehensively review other tax exemptions and concessions, including to the tourism sector, and consider eliminating low revenue yielding fees and duties, and further simplifying domestic taxes (such as the business license fee regime) that are not business–friendly. While VAT introduction has increased tax utilization capacity, there is substantial room to raise more revenue through non-distortionary consumption taxes to compensate for revenue losses elsewhere. Staff welcomes recent progress in improving revenue administration. Efforts should focus on moving further towards a fully–fledged CRA with well-defined institutional framework and governance structure empowered to administer most domestic taxes, thereby reducing costs, and improving efficiency and compliance. Further steps to ensure continued success in VAT implementation include more focus on program development, planning and performance monitoring based on operational data and establishing an audit program.

  • Expenditure reforms. Fiscal consolidation has so far focused on the revenue side, while government expenditure has been drifting upwards after the GFC. Staff reiterated that rationalization of current expenditure in the context of a medium–term budget framework (see below) would help preserve the hard-won benefits of the VAT, enhance policy credibility in the low growth environment and strengthen fiscal sustainability. Such a framework should seek to contain further growth in current spending and gradually unwinding crisis related spending increases. The authorities should resist pressure to increase public wages and employment, especially in view of low labor productivity growth, while also strengthening payroll management. Furthermore, enhancing the efficiency of spending on goods and services and transfers and subsidies would generate fiscal savings. Staff urged the authorities to advance SOE reforms to reduce their drain on the budget. Finally, the authorities should begin to take measures to address risks from the pension system, through parametric reforms and over the medium-term, through the introduction of a sustainable defined contribution system.

  • Medium term budget framework and public financial management (PFM) reforms. Weaknesses in the PFM environment, such as out-of-date accounting system and Chart of Accounts, undermine the integrity of financial reporting and spending quality. Capital budgeting is not fully integrated into the annual budget planning process. Staff emphasized that improving fiscal reporting, introducing procedural rules to support expenditure discipline and preparing a medium-term fiscal framework document, submitted to the parliament, are important immediate steps towards adopting a fiscal rule. To strengthen their commitment to fiscal responsibility, the authorities should consider further intermediate steps towards a fully-fledged framework, such as introducing a simple rule to contain volatility in spending growth.


Composition of Primary Spending

(In percent of GDP, 7 year average)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: Central Bank of the Bahamas and Fund staff estimates.

Real Primary Spending Growth

(In percent)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

Sources: Central Bank of the Bahamas; and Fund staff estimates.

16. Structural reforms and fiscal consolidation to address competitiveness challenges. The authorities remain firmly committed to the exchange rate peg (US$1=B$1), which provides an important anchor. They are moving only gradually to reform the CFM system with recent efforts focused on easing personal business transactions and loosening limits on cross-border investments. Staff projections reflect an improvement in the current account over the medium term to around 7 percent of GDP, allowing for modest rebuilding of external buffers. Despite significant uncertainties, the external sector assessment points to an external position that is weaker than suggested by fundamentals and desirable policy settings (Annex III: External Assessment). Other indicators, such as relatively high energy costs and indicators of the business environment show The Bahamas falling further behind its peers, and the declining share of tourism among Caribbean countries that focus on a relatively expensive, higher-end tourism experience point to persistent structural weaknesses. Reserves appear broadly adequate according to standard metrics, but fall short when taking into account small island specific factors, such as exposure to external shocks and natural disasters. To maintain sustainability of the external position and improve external competitiveness, staff continues to call for structural reform (para 11) and further fiscal consolidation (paras 13, 14, and 15).


Bahamas Tourism Index

(2005 = 100)

Citation: IMF Staff Country Reports 2016, 224; 10.5089/9781498356794.002.A001

* Countries are Bahamas, KNA, Jamaica, St. Lucia, Grenada

Authorities’ Views

  • Authorities are committed to further fiscal consolidation to maintain macroeconomic stability and policy credibility. To mitigate the potential impact of the VAT on low-income earners, the authorities have already raised the minimum wage and increased social spending. They continue to review social assistance benefits, and would prefer to increase them further instead of introducing exemptions that would reduce revenues and compromise the integrity of the VAT regime. Authorities are optimistic that disciplined implementation of reforms to enhance revenue administration will raise significant additional revenue. The authorities recognize the benefits of a comprehensive review of concessions, including those to the tourism sector.

  • Authorities noted that efforts to introduce a medium term framework are moving in the right direction. They are taking steps to modernize their public financial management system and remain committed to gradually moving towards a more robust medium-term fiscal framework. They continue to revamp the accounting systems and to advance other budget reforms. They are open, in principle, to adopting a fiscal rule to restrain expenditure growth, but argue that they first need to create the right administrative conditions to ensure fiscal discipline. While acknowledging that SOEs remain a drain on the budget, authorities expect that ongoing initiatives to increase efficiencies and recent investments will reduce government subsidies. The authorities are committed to rolling out NHI, but are mindful of the need to avoid causing economic disruptions. They consider pension reform, including moving to a defined contribution based regime, an important objective and acknowledge the need to commence public consultation soon.

  • Authorities agreed that comprehensive structural reforms and fiscal consolidation would help enhance competitiveness and build external buffers. The authorities pointed out that the current level of international reserves remain within target levels and argued that an expected improvement in tourism earnings and foreign direct investment, together with structural reforms, will facilitate stable and organic accumulation of reserves.

C. Addressing Financial Sector Challenges

17. Building on recent progress. Staff welcomes recent progress in financial sector reforms which address some of the priorities 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 (see Box 3). Nevertheless, pockets of financial sector vulnerabilities remain. Authorities are encouraged to move expeditiously in strengthening their framework for crisis management and bank resolution. Despite active support in the past, further efforts are needed to put in place and implement a comprehensive plan to address financial difficulties and governance of one state owned bank.

18. Additional scrutiny from global “de-risking” trends. The financial system has been exposed to global “de-risking” trends as reflected in, thus far temporary, interruptions of correspondent banking relations (CBRs) in some institutions (see Box 4: Loss of CBRs). While loss of CBRs has not led to significant disruptions thus far, continued measures could have an adverse impact on the financial sector and the economy as a whole. The financial services sector is relatively large and sophisticated, reflecting the country’s status as an offshore financial center, and accounts for more than 10 percent of GDP and 2.7 percent of total employment.1, 2 However, global “de-risking” trends could lead to even more scrutiny, further reducing the sector’s contribution to growth and employment, and thus complicating efforts to diversify the economy.

19. Addressing challenges from loss of CBRs. In addition to strengthening their overall risk-based framework for regulation and supervision, the authorities have taken several steps to address risks from loss of CBRs. The central bank conducted in June 2015 a survey to gain a better view of correspondent banking activities and the impact of recent measures and plans to reissue the survey in 2016. The Caribbean Financial Action Task Force (CFATF) has recently recognized progress made in addressing the deficiencies identified in their previous report. Following the December 2015 onsite mission, an updated report and policy recommendations will be discussed at the CFATF plenary later this year. In advance of the evaluation, the central bank finalized amendments to its AML/CFT Guidelines and introduced new Wire Transfer regulations. The authorities are also actively participating in regional bodies that aim to create collective solutions to loss of CBRs. Looking forward, increased scrutiny calls for effective implementation of AML/CFT regulations and strong efforts to ensure compliance, as well as added emphasizes on the need to keep pace with evolving international standards by promptly addressing any gaps. Continued evaluation of the supervisory and regulatory framework for both banks and non-banks to proactively identify and address risks in a timely and assertive manner is critical.

Selected Financial Sector Statistics, 2010-14

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Sources: Central Bank of The Bahamas; and National Statistical Agency.

Total employment for 2010 is average of 2009 and 2011. Figures for 2012-13 are averages of within-year survey data.

Authorities’ Views

  • Authorities remain committed to further improving their regulatory and supervisory system to ensure financial stability. A state-owned bank engaged a consulting firm to develop and implement a rehabilitation plan for the bank. The plan will be directed at strengthening risk management, enforcing collection, revising market focus and improving governance.

  • The authorities recognize the challenges stemming from global “de-risking” trends, and expressed their commitment to promptly addressing them. They will continue to monitor the industry, provide assistance to banks and encourage them to take a risk-based approach, and work on any remaining regulatory gaps. The authorities will also continue to coordinate with regional counterparts to mitigate any adverse economic fallout. They also pointed to the already strong overall AML/CFT regime in place, and called for more clarity on regulatory expectations and requirements from international banks and from source jurisdictions.

Financial Sector Regulation and Supervision: Update

2013 FSAP. The FSAP found no short-term threats to financial stability, independent and strong oversight, and strict firewalls between the domestic financial system and the offshore sector. Nonetheless, the authorities continue to further improve the regulatory and supervisory system:

  • Risk-based supervisory framework/crisis management. The Central Bank of The Bahamas (CBB) and other regulatory authorities continue to work towards strengthening their frameworks. Following IMF technical assistance in 2015, CBB expects to issue a consultation paper that proposes a hybrid, as opposed to purely judicial, approach to bank resolution.

  • Bank stress tests. The latest Financial Stability Report (June 2015) shows that capital adequacy ratios (CARs) are high on average, in excess of 30 percent, and the banking system is resilient to several shocks. For example, even under a scenario with a 200 percent increase in NPLs, CARs remain above the 17 percent regulatory minimum, with the exception of one bank, whose CAR was still above the trigger rate that would have mandated additional capital.

  • Basel II/III. Implementation commenced in 2016Q1. Most foreign-owned institutions already observe Basel III. The first official reporting under the new framework occurred in January 2016 for commercial banks, and end-March for international firms. CBB analysis suggests that banks’ capital levels remain robust also under the new Basel II/III framework, although some individual institutions are “likely to be stressed” by the new requirements. Assuming full implementation of capital conservation buffer (CCB) and total eligible capital, only one bank would fall short. With respect to CCB and countercyclical capital buffer, four banks would not meet the additional requirement.

  • Credit unions. The CBB has assumed regulatory and supervisory authority for the domestic credit union system comprising nine institutions (with assets equivalent to about 3.5 percent of the domestic banking systems’ assets). Upon adoption, credit union deposits have Deposit Insurance Corporation protection.

  • Credit Bureau. Preparatory work continues. Necessary legislation is expected to be presented to the parliament soon with operations starting 12-16 months after legislative approval.

  • U.S. Foreign Accounts Tax Compliance Act (FATCA). Reporting under FATCA commenced in September 2015.

Loss of CBRs

Like other countries in the region, The Bahamas has been impacted by global “de-risking” trends that have resulted in additional scrutiny of financial institutions and, in a few cases, to temporary interruptions in correspondent banking relations (CBRs). All affected institutions have thus far been able to avoid significant disruptions in their services by proactively relying on multiple service providers, switching to alternative providers or negotiating continuation in CBRs.

Impact on financial institutions. A total of six institutions, mainly domestic commercial banks and standalone international banks, representing about 19 percent of domestic banking system assets, have recently lost CBRs. All of them either had additional CBRs; found replacements; or were able to negotiate a continuation in service (including against an additional annual fee). Canadian banks and other international banks continue to rely on their head offices and parent banks for CBRs. Money transfer business (MTB) has also been impacted. One domestic bank closed its Western Union money transfer franchise in summer 2015, while another MTB provider has been notified about a possible termination of their banking relationship. Adverse impacts on bank operations have been reflected mainly in prolonged clearance procedures and higher investment and staffing costs stemming from additional reporting requirements and scrutiny. Business segments that have been impacted in