Notes From a Native Son: It is Urgent We Discuss What to do About Our Foreign Reserves

Hal Austin

Hal Austin

One of the challenges of a small economy in a global landscape that is deep in crisis is the need for news ways of thinking. And, a self-inflicted deadweight that has fallen upon most small economies is the over-whelming desire to accumulate excess foreign reserves. The debate that is taking place among leading economists and policymakers about a more sustainable use of excess reserves and the social cost of warehousing such piles of money has created its own library of literature.
(For those of you who are interested, see, for example: Cedric Achille Mezui, Uche DuruCedric: “Holding Excess  Foreign Reserves Versus Infrastructure Finance: What should Africa Do?” African Development Bank Group. Wijnholds and Kapteyn: “Reserve Adequacy in Emerging Market Economies”, IMF, 2001. #Dr Courtney Blackman, “Managing Foreign Exchange Reserves in Small Developing Countries,” Group of 30, 1982). There is a strong case against the fetishising of foreign reserves when a stagnant economy is crying out for urgent and strong stimulation.

Financing infrastructure, for example, which in an economy like Barbados is badly in need of upgrading, there must be new ways of raising funds without adding to national debt and without entering private/public partnerships which would only hold the nation to ransom. What is badly needed is deeper financialisation, particularly from non-banking sources, to fund small and medium enterprises and, more so, infrastructure developments. One possible source of such funding is excess foreign reserves, the build up of which has attained an almost obsessive cult following among some policymakers. However, to clarify this there is a need for a widespread national debate on what is an adequate level of foreign reserves.

Foreign reserve policy is usually based on two theoretical methodologies: import hedging and the so-called Wijnholds and Kapteyn method (see above). There are two other equally attractive ways of managing foreign reserves: first, by estimating the social cost of warehousing such large sums of cash, based on the opportunity cost of investing in infrastructure and their percentage of GDP; and, investing in the commodities and currencies Futures Markets.

Infrastructure investments – funding the key structures important for the smooth running of the economy and society – are the key ways of increasing growth and productivity in an economy. Better roads mean that delivery trucks can travel farther and with relative safety to make deliveries to the far corners of the nation; better homes and schools, water and electricity supply, but by far the greatest loss to the economy is the lack of state-of-the-art technology right across government and the statutory bodies. Technology with the appropriate functionality, it can be guessed, could add anything from 0.5 per cent to 4 per cent to GDP in terms of productivity and efficiencies.

It is generally conceded that to stimulate growth it is important to invest strategically and put in place high-quality governance. Admittedly, infrastructure funding is usually prohibitively costly, but with careful planning this can often be met through a combination of sources, including a percentage of foreign reserves, bonds (institutional and retail), and the private sector, such as insurance and occupational pensions.

In Barbados, there are two major hindrances to progressive infrastructure developments: a lack of ideas by policymakers, and the reluctance of foreign-owned local banks to open a credit stream to for such developments. The other hindrance is the lack of fiscal incentives to lenders, banks and non-banks, for funding such important development projects. There is also the question of competence in terms of project appraisal methodologies and decision-making which can also delay projects.

For example, the government is spending over Bds$200m on acquiring Almond Resorts, and a further $160m on road works. This is money that could better be spent on improving the slum conditions in the City, rather than use more land, a scarce resource, in building roads to encourage greater motor vehicle ownership and use. It is a classic example of the need for strategic thinking since a well thought out urban plan would enhance the quality of life for those living in the City and, indeed, for visitors, including tourists, and small businesses such as the entertainment sector. One danger in funding an infrastructure project is the risk of asset/liability mismatch, since an infrastructure development -is a medium to long-term project.

Missed Opportunity:
In the final analysis, the August 13 Budget presentation by minister of finance Chris Sinckler was an exercise in failure. He abandoned any attempt to rebalance the economy, preferring instead to spoon-feed the private hotel sector on the misleading principle that since tourism is important to the economy these too form a major part of the economy. However, he missed an important principle. For example, agriculture has been important to humankind for the last 10000 years, but the productions methods have changed: we now have tractors in place of flint stone or wooden ploughs, we now have a highly scientific sector instead of trial and error.

Interestingly enough, there was nothing about household and corporate debt in his proposals, nothing about home ownership, nothing about job creation. In the absence of official figures – from the central banks, the banks trade body or the ministry – or unofficial ones from academics and policymakers, one is left to assume that household debt is multiples of annual salaries and we know about the non-performing corporate debt. All this is taking place against a backdrop of incredibly official inflation numbers – at under three per cent, including a massive commodity import bill, inflation export from China and above-inflation prices for good and services by local tradespeople. Further, as is generally known, inflation impacts on demographic groups differently, with the elderly coming off worst.

What clouds the Barbados economic landscape is that generally during a downturn there is a drop in productivity, but with 30,000 people on the public sector payroll, and a culture of minimal production, there is clearly no productivity improvement now or at anytime in recent years from the Barbadian public sector. The argument, often put forward by trade union apologists for this over-manning, is that the public sector is hoarding labour ie there is not enough for workers to do because of low demand, but no redundancies.

This is disingenuous. The continuing low productivity rate and inefficiencies are deep historical structural flaws in public sector management, mainly because since the Second World War, and in particular since constitutional independence, the public sector payroll has been used to soak up the unemployed queue. This became even more important since the migration routes to the UK, Canada and the US, have been greatly reduced. There is nothing about this that improvements in management systems, including the introduction of state of the art technology, could not remedy.

Analysis and Conclusion:
Although the key source of funding for major banks should be banks, other non-banking enterprises, such as Sovereign Wealth Funds, hedge funds and private equity, should not be ruled out. Another invaluable stream is the development of household savings, similar to that in the Asian economies. Of course, the main driver of Asian savings is because there is no expectation that the state will provide the generous social safety net that we have come to expect in the West. So, people are under no illusions that they have to save to provide for themselves and their families.

As Mezui and Duru (see above) have observed about the African economies: “….excess foreign reserves held by African countries can meet the infrastructure financing needs of the continent which has been estimated at US$93bn per annum,… “Investing just about 30 per cent of the excess reserves ($165 or $193bn) in investment vehicle for infrastructure will go a long way in meeting the financing needs of infrastructure in the continent…”

It is my case that we have to look long and hard at the foreign reserves and think of more socially and economically sustainable ways of using at least aw percentage of that money, including the servicing of national debt. The opportunity costs of stockpiling huge amounts of foreign reserves when compared with the developments such reserves could fund, is a decision for the people as a whole. But, as policy, when such reserves could be used to pare down debt, fund infrastructure or even a small retail bank which could help fund new businesses and households, it appears to be flawed.


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