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Identifier
Created
Classification
Origin
05KINGSTON2053
2005-08-31 17:19:00
UNCLASSIFIED
Embassy Kingston
Cable title:  

SOARING INFLATION THREATENS JAMAICA'S MACRO-

Tags:   ECON  EFIN  JM 
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						UNCLAS SECTION 01 OF 02 KINGSTON 002053 

SIPDIS

STATE FOR WHA/CAR/ (WBENT), WHA/EPSC (JSLATTERY)

SANTO DOMINGO FOR FCS AND FAS

TREASURY FOR L LAMONICA

E.O. 12958: NA
TAGS: ECON EFIN JM
SUBJECT: SOARING INFLATION THREATENS JAMAICA'S MACRO-
ECONOMIC STABILITY

REF: KINGSTON 386

UNCLAS SECTION 01 OF 02 KINGSTON 002053

SIPDIS

STATE FOR WHA/CAR/ (WBENT), WHA/EPSC (JSLATTERY)

SANTO DOMINGO FOR FCS AND FAS

TREASURY FOR L LAMONICA

E.O. 12958: NA
TAGS: ECON EFIN JM
SUBJECT: SOARING INFLATION THREATENS JAMAICA'S MACRO-
ECONOMIC STABILITY

REF: KINGSTON 386


1. Summary: Less than two months after the IMF gave
Jamaica high marks for stabilizing the economy, spiraling
inflation is again threatening macroeconomic stability.
Inflation, which reached almost 14 percent last year and
has already jumped to 7.4 percent for the first four
months of the fiscal year (Note: Jamaica's fiscal year
runs from April to March) shows no sign of abating, given
the continued rise in food and oil prices and the pending
increases in utility rates and transportation costs. The
price increases have prompted Finance Minister Omar Davies
and Bank of Jamaica Governor Derrick Latibeaudiere to
concede that the single-digit target for the fiscal year
is unlikely to hold. This admission has not gone down
well with trade unions, which have signaled their
intention to seek higher wage increases when the wage
restriction agreement with the GOJ ends in 2006. The
galloping inflation and inflationary expectations have
also halted efforts to reduce interest rates, which could
have repercussions for the MOU and by extension
macroeconomic stability and investor confidence. End
summary.


2. Just six weeks after the IMF gave Jamaica high marks
for stabilizing its economy, spiraling inflation is
threatening to throw the GOJ's financial program off
track. Although inflation galloped to 13.7 percent last
year, the memorandum of understanding (MOU) between the
GOJ and trade unions remained intact because the bulk of
the price increases were blamed on the ravages of
Hurricane Ivan, which dealt a serious blow to the economy.
However, things show no sign of subsiding as inflation has
jumped to 7.4 percent for April to July 2005 and 8.9
percent for January to July 2005. The price spiral has
prompted Finance Minister Omar Davies and BOJ Governor
Derrick Latibeaudiere to concede that inflation could
surpass 15 percent this fiscal year (above 9 percent
target). This would be the first time since 1996 that
inflation would surpass the 15 percent level. Davies and
Latibeaudiere have argued that a number of exogenous
shocks have fuelled the latest bout of price instability,

as core inflation (due to increased money supply) rose by
a meager 1.7 percent during the period. Chief among the
reasons cited are increasing oil prices; higher food
prices; rising transportation and electricity cost; and,
the tax measures implemented in April and May.


3. The admission by Davies and Latibeaudiere has angered
trade unionists, who were promised single digit inflation
as a condition for agreeing to a wage restraint. Unions
have signaled their intention to seek double digit wage
increases when the wage restriction agreement with the GOJ
ends in March 2006. Lambert Brown of the University and
Allied Workers Union has suggested that workers' standard
of living has been significantly eroded and, whenever
salary negotiations commence, unions will push for
sufficient adjustment in salary to meet the needs of
workers. He stated that most employers could afford the
increases, pointing to the healthy profit of the Mirant-
owned Jamaica Public Service (JPS), which reported profits
of USD 8 million for the first three months of 2005, and
most companies listed on the local stock exchange.
However, the Jamaica Employers Federation has countered by
arguing that employers cannot afford the increases
contemplated, as the inflationary spiral was also
affecting them.


4. Inflation could actually surpass the 15 percent mark
suggested by the economic authorities, given that
additional inflationary impulses are expected to emanate
from increased utility rates. The Office of Utilities
Regulation (OUR) has agreed to grant JPS a 7.5 percent
increase in electricity rates effective September 2005 and
a seven-cent increase per kilowatt-hour effective October
2005 to recover rehabilitation costs associated with
Hurricane Ivan. The OUR has also approved a 67 percent
hike in bus fares effective August 2005 to cut the
company's almost USD 41 million deficit, while taxi
operators were granted a 25 percent increase in rates.
There is also a request before the OUR for an increase in
water rates later this year. These announcements have
drawn the ire of trade union leaders who met with GOJ
officials to express their frustration with the general
price increases and the bus fare increase in particular.
The trade unions got the GOJ to agree to an exemption for
public sector workers in the Kingston Metropolitan area.


5. The continued rise in international oil prices is also
expected to provide further impetus for inflation, as
studies conducted by the BOJ show that the country's
inflation rate climbs by a quarter of a percent for every
USD 1 jump in the price of oil. Additionally, rising oil
prices could have a negative impact on the balance of
payments, the exchange rate and economic growth, thereby
fueling another bout of macroeconomic instability. Oil
alone is expected to cost Jamaica USD 1.2 billion in 2005,
and with exports falling this will put pressure on the
stock of reserves (USD 2.1 billion). The surge in prices
will also militate against fiscal policy as the budget was
predicated on oil prices of USD 47 per barrel, but prices
are now USD 67 per barrel and climbing. The runaway
inflation is also hampering the BOJ's efforts to reduce
interest rates, as evidenced by the most recent interest
rate auction when the rate paid on benchmark 30-day
repurchase agreement rose by 0.15 percent.


6. Comment: The inflation spiral is not expected to
subside anytime soon, as additional impulses will come
from the increased price of agricultural commodities due
to supply shortages arising from adverse weather
conditions associated with the last two hurricanes; the
lagged effects of increased taxes; and, increased water
rates later this year. This could impact negatively on
the MOU, which hinges on the moderation in inflation. In
fact, most trade unions have already reacted negatively to
approaches by the GOJ to extend the wage freeze when it
expires in 2006. This will have a deleterious effect on
fiscal policy and investor confidence unless the GOJ can
devise policies during the current fiscal year to temper
the wage bill following the expiration of the MOU in 2006.
However, even if a new pact is negotiated, workers not
bound by the MOU will be clamoring for higher wage
increases to compensate for lost purchasing power. This
will in turn feed into inflation and the attendant
uncertainty will provide further impetus for inflationary
expectations.


7. Comment (cont'd): Rising prices will also impact the
BOJ's plans to further reduce interest rates, as people
will be unwilling to accept the current negative real
rates of interest. This could ignite a bout of
macroeconomic instability, as investors shift from local
to foreign assets building up demand pressure on the
foreign exchange market. The resulting depreciation would
then provide further fuel for price increases. On the
positive side, the BOJ has over USD 2.1 billion in foreign
reserves at its disposal to at least satisfy any build up
in demand for foreign exchange in the short term.
Additionally, if it is any consolation, the recent price
instability has been driven by cost-push factors and not
the problematic core inflation of the early 1990s. End
comment.

TIGHE