JAMAICA'S INTEREST RATES DROP TO RECORD LOW

UNCLAS KINGSTON 000830

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: JAMAICA'S INTEREST RATES DROP TO RECORD LOW



1. The Bank of Jamaica (BOJ),on March 7, reduced the
rates on open market instruments for the second time this
year. This is a continuation of the trend started in
2004, when interest rates were slashed eleven times.
Interest rates have now moved from a high of 36 percent on
365-day instruments at the end of March 2003 to 14.95
percent in March 2005. The overall rate cuts, which range
from 0.5 percentage points to 0.55 percentage points have
brought interest rates to their lowest levels since
February 2003. Declining interest rates are an important
ingredient in the GOJ's medium term program as, in
addition to reducing debt-servicing costs, it sets the
stage for increased private sector borrowing and, by
extension, economic expansion. Reduced interest rates
should also boost consumer credit, thereby stimulating
demand for goods and services.


2. According to the Bank of Jamaica (BOJ),the interest
rate adjustments were underpinned by steady improvement in
Jamaica's macroeconomic indicators. In particular, the
exchange rate has remained stable since the beginning of
the year reflecting buoyant foreign exchange inflows from
tourism and remittances. Tourism receipts amounted to USD
1.4 billion in 2004, up 6.4 percent, while remittances of
USD 1.5 billion increased by 15.5 percent over 2003.
These combined with strong bauxite/alumina earnings led to
a USD 8.5 million improvement in the country's current
account balance. These inflows have led to a build-up in
the stock of net international reserves, which remain
around USD 1.8 billion, a level the BOJ argues is adequate
to underwrite near term stability. Prices are also
expected to moderate in the upcoming fiscal year, which
begins in April. Going forward, the Bank expects the
macroeconomic fundamentals to continue, if not improve.
The central bank also said it remained firmly committed to
preserving orderly conditions in the money and foreign
exchange markets.


3. Financial analysts have traditionally argued that
investors would switch to US Dollars once Jamaican
interest rates reached 16 percent. However, despite the
reduction in risk premium accompanying the lower interest
rates, investors have not rushed to the foreign exchange
market. This suggests increasing levels of confidence in
the Jamaican economy. In addition, the stock market has
not reacted to the reductions in interest rates,
indicating that investors had already factored the lower
interest rates into their investment decisions. The
improvement in the economic fundamentals and interest rate
reductions in particular could very well strengthen
veteran Minister of Finance and Planning Omar Davies'
increase his chances of making a serious bid for the
presidency of the People's National and, ultimately,
Prime Minister.

TIGHE