The Jamaica Bankers Association

Finance minister, Omar Davies, yesterday defended the central bank's decision to jack interest rates to 30 per cent in a bid to slow the helter-skelter devaluation of the Jamaican dollar and said that administration's plan called for the slashing of the fiscal deficit by up to two percentage points in the coming financial year.

The finance minister also restated his intention to return to a balanced budget by 2006 and said the deficit for the fiscal year, ending March 31, will now be eight per cent of gross domestic product (GDP), rather than the 8.4 per cent that was projected in December.

The deficit was projected at four per cent of GDP when it was first cast in April, but doubled due in part to government expenditure leading up to the general elections in October, and flood damage.

The government had considered the higher deficit "unacceptable", Davies told Parliament.

"The programme for the medium term is to eliminate this deficit over a three-year period," Davies told legislators. "This programme was presented to the Cabinet retreat which was recently concluded and it calls for a significant first step in the fiscal year 2003/2004 -- that of a reduction of the deficit to between five per cent and six per cent."

There would be further reductions in the succeeding two fiscal years "leading to a balanced budget by March 2006".

"Full details of the programme to bring about these targets in the medium term will be provided during the budget debate in mid-April," the finance minister said.
Davies' promise to reduce the fiscal deficit comes in the wake of a projected $70-billion increase in government's debt mountain this fiscal year to nearly $570 billion, coupled with increases in interest rates over the past few months. The debt service is by far the biggest cost to government, and the most significant contributor to the yawning fiscal deficit.

But yesterday, Davies apparently felt compelled to assuage the markets about the government's commitment to take strong fiscal action to deal with its deficit in the face of the disquiet caused by the central bank's decision to issue a 150-day reverse repurchase (Repo) instrument at 30 per cent -- a jump of about 10 percentage points on existing interest rates.

The move, the Bank of Jamaica (BOJ) said, was a temporary measure to cool instability in the foreign exchange market, which would be removed "as soon as corrective fiscal action being developed by the government takes effect".

Davies gave a similar undertaken, but insisted that "stability and predictability in the foreign exchange market will not be compromised".

The Jamaican dollar had, up to Monday, devalued by over five per cent since the start of the year as investors -- concerned about the fiscal deficit and the government's strong appetite for debt in an environment of economic stagnation and weak public sector revenues -- converted their cash to Jamaican dollars.

Investors have also been spooked by the December change by the rating agency, Standard & Poor's, of its outlook for Jamaica's sovereign debate from stable to negative, a signal that the government had to take action or face a downgrade.

The central bank's action had the immediate impact of strengthening the Jamaican dollar against the greenback, with the market closing on Monday at J$53.19 to US$1, from J$53.78 to US$1 on Friday. Yesterday, the Jamaica dollar closed at J$51.4 to US$1.

But there were doubts among analysts that the measure, the latest in a series to stabilise what Davies called "the erratic movements and wild swings" in the Jamaican dollar, would work for long.

For as the finance minister himself admitted that previous upward ticks in interest rates and a special five per cent deposit requirement imposed on bank had only shown initial success and then a return to instability.

But the instability, Davies argued, was being fuelled by speculation, which, left unchecked, would become a self-fulfilling prophecy.

"Our recent history provides us with enough evidence of what unchecked depreciation can do to the economy and the society -- unbridled inflation, instability in the labour market, increase in debt-servicing requirements and an erosion in the standard of living of the general population," he said.

Davies conceded that there were negative consequences to Monday's interest rate hike, but said that those relating to instability in foreign exchange market and a rapid depreciation of the Jamaican dollar "are far worse".

"The administration realises that apart from speculative tendencies there are genuine concerns at home and abroad about the commitment of the administration to address the problem of the fiscal deficit and the burden of servicing the national debt," Davies said. "Let me once again state that not only does the administration recognise the problem but it has taken, and will further take steps to return to a balanced budget in fiscal year 2005/2006."

He said that the actions taken by the central bank were being complemented by fiscal adjustments.

"Already, expenditures are being kept to a minimum even whilst an aggressive programme of revenue collection has been launched," he said.