Attending a World Bank meeting on April 16, I was shocked to hear a senior official of the organization say that, in addressing fiscal deficits, Latin American and Caribbean (LAC) countries should not make “shock adjustments”.
This advice is contrary to the traditional prescriptions handed out by the twin international financial institutions, the World Bank and the International Monetary Fund (IMF), to developing countries that run-up fiscal deficits, namely the difference between total revenue and total expenditure. The traditional guidance is to cut government spending and increase taxes rapidly – in other words, “shock adjustments”.
Wherever that prescription has been applied, the less well-off have suffered the most because social welfare programmes have been the first to be chopped. The result has always been an increase in poverty, reduced health and education facilities and, eventually, an escalation in crime.
When the other element of a “shock adjustment” is applied, alongside cuts on government spending, it has contributed to worsening a country’s economic performance. The other element is applying higher taxes. This again burdens the poor much more than the rich because businesses and rich individuals employ stratagems to avoid paying increased taxes, so the revenue yield to governments from increased taxation regimes seldom enlarges. Additionally, confronted with higher taxes, businesses invariably do two things: they lay-off workers and they increase prices to the consumer.
It seems, at last, that in dealing with developing countries, particularly small ones, the penny has finally dropped in World Bank officialdom that economic theory, applicable in large economies, is simply not transferable to small ones. Experience has now taught them that the economies of small states are too minuscule and undiversified to withstand shock adjustments that are employed in larger countries.
So, the worthy World Bank official cautioned LAC countries to employ “gradual adjustment” by which he meant cutting government spending on “unproductive” projects and increasing taxation only where the overall tax regime is low. Importantly, the World Bank now recognizes that social transfers should not be cut for the elderly, low-income households or to those with low incomes. It also now emphasizes that government spending on infrastructure and income-generating projects are good for medium to long term development and, therefore, should be maintained.
All this good advice is contained in the semi-annual report of the World Bank’s regional chief economist. It is entitled: “Fiscal Adjustment in Latin America and the Caribbean: Short-Run Pain, Long-Run Gain?” Note the question mark. The title is not declared as a statement; it is cast as a question, almost demonstrating a lack of conviction by those in authority about the conclusions of the report.
Be that as it may, the report breaks important new ground in urging “gradual” as against “shock” adjustment for countries with significant fiscal deficits, particularly where the economies of such countries are small and undiversified, and they lack safety nets for the poor and vulnerable.
So, how do Caribbean countries put this advice to good use? All but one of the 15 Caribbean countries, (14 CARICOM countries plus the Dominican Republic), have fiscal deficits. The lone exception is Grenada. All of them, to varying degrees, need to begin a serious programme of gradual adjustment. In the worst cases, the prospect of ending-up in an IMF programme with all its strictures, including laying-off public sector workers and raising taxes, looms large.
The IMF spectre is heightened by the substantial debt of governments that already face big fiscal deficits. The debt to gross domestic product (GDP) ratio is well above 60 percent in all Caribbean countries except, Dominican Republic, and Trinidad and Tobago. It is especially high in Jamaica, Barbados and Belize. In the case of Antigua and Barbuda, it is still relatively high though, over the last three years, it has declined from 102 percent to 79 percent.
Getting the fiscal deficit down in many Caribbean countries should be a priority within the framework of “gradual adjustment”. While Grenada has been outstanding in this regard, Jamaica has also done exceedingly well to reduce its fiscal deficit almost to the point of balance. However, both countries achieved that performance after years of exercising stringency in the clasp of IMF programmes.
To improve their situation without the iron hand of the IMF, Caribbean countries have to adopt a prescription of reducing borrowings, except for productive projects and needed infrastructure; growing their economies; increasing revenues and reducing fiscal deficits.
The present global situation offers Caribbean countries an environment in which they could implement gradual adjustment programmes that are beneficial. But, the environment is fragile. Already, exposed to the harmful effects of climate change, and punishing incursions into their financial services sector that have cost them revenues and jobs, they now face two worrying developments – a creeping rise in oil prices (up to US$76 a barrel as this commentary is written) and a slowdown in global economic growth that, in 2017, was driven principally by two countries – China and the United States of America.
The present trade war between these two giants could adversely reduce significantly last year’s global economic growth of 3.8 percent. Roberto Azevedo, the director-general of the World Trade Organization, has warned: “This important progress could be quickly undermined if governments resort to restrictive trade policies, especially in a tit-for-tat process that could lead to an unmanageable escalation. A cycle of retaliation is the last thing the world economy needs.”
The realization of the Caribbean Single Market and Economy – the dream of 1992 – would go a very long way to helping all Caribbean countries to achieve fiscal adjustment and to answering the World Bank’s question as to whether it would be ‘short-run pain, long-term gain?’ But that is wishful thinking. Sadly, it may no longer be even “a work in progress” as the CARICOM Secretary-General Irwin LaRocque, dutifully and optimistically stated.
If it is that Caribbean countries will pursue economic stability and growth individually, then there is something in the World Bank’s new “gradual adjustment” advice. Policymakers should heed it.