Tinkering at the edges
(Published in L'Express August 2013)
As we go through another round of downward revision in our GDP growth rate, the easiest explanation for our lack of resilience is to blame the adverse conditions of the global economy -- the aftermath of the recession and the ongoing euro crisis that has affected growth across the world. The growth slowdown now deeply entrenched across most of the sectors of the Mauritian economy is merely a symptom of what ails Mauritius -- not the problem. A large part of the problem is the policy inertia on the domestic front.
Today the Mauritian economy seems to be in a depressing morass with low growth, sagging savings and investment rates, increasing unemployment especially among the young, unproductive FDI inflows, yawning trade and current account deficits, declining export competitiveness, declining aggregate profits of our top 100 companies, financial scams and reform fatigue. Moreover, public sector investment is expected to contract by 6.4% in 2013. Private sector investment rate is chalked out to decrease to 17.2% from 17.5% in 2012 and that of the public sector to 5.0% from 5.5%.
It is against this background that the two main protagonists -- the Ministry of Finance (MOFED) and the Bank of Mauritius (BOM) exchanged their distinct views at the 30th Monetary Policy Committee meeting on the appropriate monetary stance to address the growth risks. To arrest the slide in GDP growth and the underlying inflation risks, the choice to the MPC members can be summarized mainly to be either an aggressive cut in the Key Repo Rate (KRR) or a small increase in it or no change at all on the basis that structural impediments to GDP growth should be removed first of all and that there are limits as to what interest rates can do to boost up the economy.
The tension between these two main policy makers, which has flared up some time back, continues to simmer. The tone of confrontation between the two seemed to have moved beyond the limits of decency and decorum for such an august forum. One of the protagonists, rather than seeking to convince through facts and arguments, had recourse to the bludgeon of invectives, accusing the central bank of: “blindly following models”, not showing enough “responsibility to history”, “an increase (in the KRR) that will be suicidal”… to drive his point for a lowering of the Key Repo Rate. (We doubt whether the Minister, who is usually so polite, would have given the representative of MOFED carte blanche for such an astonishingly presumptuous and stupefying arrogance).
We were gratified with one of the most bizarre pieces of economic analysis to justify the incapacity of fiscal policy to support growth. We are told that “the room for fiscal manoeuvre was much more limited if debt targets were to be met”. We are not in Greece here. The budget deficit for 2013, inclusive of the PRB awards, is not likely to exceed 2% of GDP, and the projection of public debt as a percentage of GDP in the 2013 budget documents is 56.5% -- it is much lower for the purpose of keeping to the prescribed debt ceiling; it is a mere 53.7%. With a budget deficit targeted at 2.2% of GDP for 2013 and some Rs 10 billion lying idle in Special Funds, we believe that there is more than enough room for an expansionary fiscal policy without any risk of exceeding the debt ceiling.
As for the arguments that “Government programmes, which were supposed to boost investment, were slow in taking off” and that the Road Decongestion Programme has encountered significant delays, these are nothing new. For the past six years, MOFED has had a poor track record on capital spending. The implementation rate for capital projects remains abysmal. Despite high allocation year in year out, execution has been poor and is fraught with issues. What is this logic of passing the buck to monetary policy for the Ministry’s failure to meet the capital expenditure targets year after year, something which, had it been duly carried out, would have boosted the economy? This is the remit of fiscal policy ; it is not a monetary policy problem, especially during a slackening of the growth momentum.
Perhaps the Governor will create history by resisting to pick up the slack left behind by fiscal policy but others will occupy history’s footnotes for their dismal record of an annual average capital expenditure of only 2.5% of GDP over the past five years. Similarly, as in past years, only 28% of the total earmarked capital expenditure has been spent during the first five months of the present fiscal year. It is the essential economic infrastructure -- roads, ports, airports, schools, health, etc., -- and human capital formation that have been sacrificed in the process.
Although headline inflation has eased, inflation, a regressive tax on the poor and voiceless, continues to remain the main concern of the Bank of Mauritius. The Central Bank believes that we should be careful not to fan up inflation which it believes is still in the process of being tamed. Even the IMF was recently cautioning some emerging market economies not to lose sight of inflation creeping back unnoticed. The Central Bank is convinced that there were still upside risks mainly from the public sector wage award and possible spillovers to private sector wages. The inflation expectations survey conducted in May 2013 has forecast the y-o-y inflation for 2013 within a range of 5.3-5.8%. The BOM’s focus is on controlling increasing inflationary expectations. The MPC, however, voted with a majority of 5 to 3 to cut the Key Repo Rate by 25 basis points to 4.65 per cent per annum..
But will this be a game changer for the economy?
The representative of MOFED should be careful of what he says about models because it is his friends at the IMF (who seems to be unaware of structural breaks), using the findings of their Working Paper, ‘Monetary Policy Transmission in Mauritius Using a VAR Analysis’, who is warning us in the recent Article IV documents that our monetary transmission mechanism shows that the changes in policy rate (of interest, i.e., the KRR) has a statistically insignificant impact on output. The findings of the working paper show that the transmission mechanism of changes in the repo rate, exchange rates and money supply is stronger for nominal variables (inflation) than for real variables (output).
The Working Paper notes that “... the lack of a transmission to real variables may reflect bottlenecks and structural problems in financial markets. Traditional analyses of monetary policy assume complete markets which are free of frictions. However, various models in the credit channel and bank lending literature suggest that financial market frictions and rigidities may be manifested in a variety of ways, and are likely to introduce uncertainty into the magnitude and timing of the economy’s response to changes in the monetary policy.” In less technical language, because of market imperfections, monetary policy changes do not get directly reflected in targeted changes such as more credit being granted by financial institutions when interest rates are relaxed.
How many of the people who voted on the MPC are aware of these aspects of our monetary transmission mechanism and the rigidities and frictions that are present in our financial market. ? Moreover, the asymmetries of monetary policy in conditions of excess liquidity and business pessimism due to weak external demand render the effects of expansive policies less certain. Investment may remain stagnant in response to easier monetary conditions, i.e., lower interest rates. Monetary policy in these situations is like pushing on a string.
This marginal change in interest rate will not on its own have much of an effect on the economy; “It's very marginal, it's tinkering at the edges. It's not a monetary policy problem." The momentum of the timid reforms initiated in 2006/07 has long petered out and it is not monetary policy that will get the country out of the prevailing below potential 3-3.5 % rut of economic growth. The financial crisis originating from the collateral derivative obligations in the US in 2008 and the sovereign debt crisis have had their negative impact on the Mauritian economy. It is in such uncertain conditions that policymakers have opportunities to show their mettle. These are opportunities for those with drive and gut to cash in but we missed the bus due to our policy ineffectiveness, a lack of forward-looking ideas and our failure to critically examine what we should be doing in the circumstances.
A competitive interest rate will not be not sufficient; structural reforms are necessary now more than ever. The structural issues consist, among others, of wage increases that are not in line with gains in productivity, skills mismatch, the need for diversification of markets and products, addressing supply-chain bottlenecks – efficiency in port, airport, road congestion, cost of energy and telecommunications, reviewing spreads and charges and commissions in the banking system, for a targeted human capital formation programme, ensuring food and energy security and meeting the need to develop the "hard" and "soft" aspects of the infrastructure for a sustainable, diversified premier financial centre.
The economy needs a whole package -- a whole variety of new initiatives, which taken together, will address the various weaknesses that presently threaten the growth story. Our fiscal policy should be reoriented to make the economy globally competitive, revive investment and unleash substantial growth via productive public investments ( not wasteful spending ) in people, technology ,infrastructure and new sectors
A new big bang is needed, that is fresh policy initiatives to put growth back on track. This will include the improvement of business confidence, maintaining exchange rate stability, a fiscal stimulus, development of new opportunities for new sectors, a well-conceived manufacturing policy that will allow our commodities to move up the value chain, a rethinking of the tourism and real estate sectors, a new road map for the financial sector and a new focus on the FDI front towards productive investment. In the absence of such policies for reviving growth, all we appear to be doing is to want monetary policy to bear the burden! Galloping cancer requires surgical treatment, not Band Aid
But we believe that MOFED has an agenda of its own. It is playing politics with the budget deficit. If the economy does not pick up by the time of the next elections, they will be proved right for they will claim to have been saving for the rainy day. The budget deficit is deliberately being kept as low as possible (especially by siphoning funds, outside the budget, to the Special Funds like the National Resilence Fund) preserving the resources for end 2014 and 2015 when it will then open up the fiscal tap to massively spur the growth of the economy. What’s the point of doing it now, it thinks?
Hiking the budget deficit or depleting the Special Funds by end 2014 and beginning of 2015 entails political benefits and ensures that the anti-incumbency sentiments and the impact of the flurry of scandals and mismanagements will be overtaken by fiscal give-aways. It is just too bad that we are succumbing to poltical expediency rather than choosing pragmatic economic policies that look forward to a longer horizon.
Fiddling with the HBS figures
You will recall that at the time of the last budget, we had uncovered the tortuous accounting in the budget figures. We had reworked the doubtful arithmetic in the budget numbers to highlight the fact that the budget deficit as a percentage of GDP in 2012 and 2013 were actually -2.9 and -3.5% rather than -2.5 and -2.2% respectively. Now MOFED is at it again: it is fiddling with at the latest Household Budget Survey (HBS) figures.
The proportion of poor persons increased from 8.5% in 2006/07 to 9.8% in 2012; the number of poor persons rose from 104,200 to 126,200. The proportion of poor households increased from 7.9% in 2006/07 to 9.4% in 2012. In absolute terms, the number of poor households rose from 26,400 to 33,800.
The half-median monthly income per adult equivalent in the table above is evolving over time. The concept of poverty is relative poverty and it must be reckoned that 2012 is therefore different from 2006/07 involving a different bundle of goods and services to set out the poverty level. I cannot arbitrarily choose the poverty line of Rs 3,821 for the year 2006/07 and adjust if for inflation to calculate the proportion of persons below this inflation-adjusted poverty line for 2012. This means I am mixing up relative and absolute concepts just to be able to show that the proportion of persons below this arbitrary poverty line for 2012 has decreased. I could as well choose Rs 2,804 in 2001/02 as the poverty line and adjust for inflation over the periods to 2006/07 and 2012, and the number of people below this arbitrary line would be significantly lower. It’s great to fiddle with figures to prove our point, but this is a doubtful methodology! What the use of Household Budget Surveys then?
As pointed out by one of our eminent economists: « La mesure de pauvreté absolue est déterminée non pas arbitrairement comme le fait le ministère mais sur la détermination d'un panier de besoins essentiels - nourriture, et autres, ce qui n'a jamais été fait par le département de statistiques, à ma connaissance. Il est probable que sur la base de ce panier, on peut toujours démontrer qu'après avoir pris compte de l'inflation, la pauvreté a effectivement baissé. Mais il faudrait aussi accepter que la constitution de ce panier doit être revisé périodiquement car les besoins essentiels changent avec le temps. Les difficultés d'estimation d'un panier de besoins essentiels et de sa révision ont poussé les statisticiens à développer des mesures de pauvreté relative, tel que 1/2 du median income. Choisir le seuil relatif de 2006/7 comme seuil absolu est arbitraire, est motivé par des raisons politiciennes. Statistics Mauritius devrait réagir à cette distorsion de l'évolution de la pauvreté a Maurice. »
Similarly, when analyzing the GINI coefficient, MOFED mixes up the relative and absolute concepts. It argues that the increase in the GINI coefficient gives the wrong perception that poverty has increased. It is MOFED that is having the wrong perception, because everything is defined here in relative terms. With relative poverty, it means that people are relatively impoverished if the customary (average) standard of living in their society requires more spending or income than the income they have available. If my income in 2012 is below the half median monthly income per adult equivalent, it means I am relatively poor though my standard of living is higher than in 2006/07 but in 2012 I have less consumption options than the one with average income of Rs 5,660. That’s why GINI measures income dispersion -- the inequality of income, nothing more, nothing less.
This time MOFED did not only burn its fingers, it tried to carry along Statistics Mauritius. Too bad for the credibility of this institution !!!
