Central Bank warns of exchange rate dangers posed by deficit
The Central Bank of Barbados today gave its strongest hint yet of a possible currency devaluation if Government fails to control the country’s massive fiscal deficit.
In a statement to announce a panel discussion on the economy on September 8, the bank warned that in order to continue to safeguard the current exchange rate of BDS$2 to US$1, a smaller deficit was critical.
“On the downside, we have to bolster our levels of productivity and reduce our fiscal deficit either by raising more revenues or reducing expenditure. A smaller deficit would stabilize our foreign reserves, safeguard the peg and arrest the growth of debt so that it falls below the growth of GDP [gross domestic product],” the bank said.
Professor of Economics at the Cave Hill Campus of the University of the West Indies (UWI) Winston Moore was hesitant to mention devaluation.
However, he told Barbados TODAY this afternoon that there was a direct link between the island’s fiscal deficit and the exchange rate.
“Essentially, if you are supposed to maintain a peg, we have to maintain enough foreign exchange reserves to defend the peg . . . and what defend the peg means, is that whenever one of your citizens, businesses, whatever the case may be, wants to convert two Bajan dollars into one US dollar . . . the Central Bank has enough reserves to facilitate that conversion,” Moore explained.
The UWI economist is one of the panellists for next week’s discussion which will be carried on local radio and television and streamed on the bank’s website.
“If you think about one of the reasons the deficit is so high right now, it is that . . . lots of money [is] spent on transfers, subsidies, goods and services and so on. Essentially all of those have some foreign exchange component,” the top university economist told Barbados TODAY, adding that when Government’s expenditure budget was large there was a greater demand for foreign exchange.
Like the Central Bank, the economics professor advised the Freundel Stuart administration to reduce the demand for foreign exchange if it wanted to protect the peg of the Barbados dollar with the US currency. He said while Barbados’ foreign reserves of 13 weeks import cover were presently above the international benchmark of 12 weeks, a persistent deficit problem could jeopardize that position.
“If you have a fiscal problem, you know that at some point in time, the reserves would get pretty close to that international benchmark. So you got to make sure that you make the adjustment, sooner rather than later,” he warned.
Meanwhile, a noted economist who preferred not to be identified, told Barbados TODAY it was “silly” for the authorities to publicly hint at a possible threat to the Barbados dollar.
“To me it is such a silly thing for a country to do. We have achieved so much as a country and it makes no sense as educated individuals in a country to be throwing around a term like that. If you go in town and you ask any Barbadian how much money they want for one US dollar, everyone would say two Barbados dollars. No one would say three, four . . . so everyone believes in the peg. So why would you want to do anything to cause or put that peg in trouble? I think it is a little bit silly on both sides,” the leading economist emphasized. However, political scientist Peter Wickham disagreed.
“I don’t know that it is a significant issue though. It could very well be coincidental [being mentioned by the bank]. I honestly would not read anything into it. I mean it is a public discussion and the defence of the peg is something that has been mentioned repeatedly of late as a key part of the strategy of the DLP Government. I don’t think there is any significance to it one way or the other,” Wickham told Barbados TODAY. The respected Caribbean pollster also gave Government a passing grade on the issue of the peg.
“It is not anything different to what the Minister of Finance was speaking about the defence of the peg as a priority,” he said.