WILL FINANCIAL CRISIS ROCK JAMAICA?

UNCLAS SECTION 01 OF 02 KINGSTON 000883 SENSITIVE SIPDIS STATE FOR WHA/CAR (ACADIEUX)(VDEPIRRO)(WSMITH) WHA/EPSC (MROONEY) SANTO DOMINGO FOR FCS AND FAS TREASURY FOR ERIN NEPHEW E.O. 12958: N/A TAGS: ECON TRYS ENRG EFIN EINV ETRD XL JM SUBJECT: WILL FINANCIAL CRISIS ROCK JAMAICA? REF: A. KINGSTON 867 ¶B. KINGSTON 770 ¶C. KINGSTON 726 ¶D. KINGSTON 542 SUMMARY -------------- ¶1. (SBU) Jamaica's heavy dependence on global economic fortunes exposes the country to the ongoing financial meltdown, a serious concern for the year-old Golding administration. Finance Minister Audley Shaw, in an apparent move to avoid a crisis of confidence, has been reassuring Jamaicans that the local financial system is not endangered by the unfolding crisis in the U.S financial markets. Similar sentiments have been expressed by Prime Minister Bruce Golding. Although there is no apparent systemic financial risk, the country will likely see some fallout in the macro-economy and particularly in GDP growth. Jamaica is still recovering from the collapse of several alternative investment schemes and damage caused by Tropical Storm Gustav. Those financial losses coupled with a potential slowdown in tourism and remittances to the island could exacerbate the crime situation and further weaken moribund economic performance. End summary. Shaw On Defensive -------------- ¶2. (SBU) Finance Minister Audley Shaw has sought to downplay the potential fallout from the current global financial meltdown in Jamaica's economy. In order to avoid a crisis of confidence, Shaw has been reassuring Jamaicans that the country's financial system is not in danger. Shaw told Parliament that depositors, policyholders and pensioners can rest assured that the domestic financial system remains well capitalized, well supervised and has the strong backing of the Central bank and the government. Shaw also indicated that government's external capital requirements were being supplemented by policy-based loans from multilaterals at interest rates as low as five percent. Similar sentiments have been echoed by Prime Minister Bruce Golding during his recent visit to Washington D.C. On September 30, Golding said the country had secured between USD 100 million and USD 200 million in loans per year over the next three years from the Inter-American Development Bank (IADB). ¶3. (SBU) But the year-old administration has come in for much criticism. Member of Parliament Ronnie Thwaites (PNP) has publicly bashed the GOJ for what he calls a misconception of the likely impact of the global financial crisis. Thwaites, who is less concerned about the systemic risks being addressed by Shaw, has gone to the extent of warning Jamaicans that they will have to make radical lifestyle changes due to the negative effects of the global economic crisis. His position appears to be resonating with the populace, including government financial advisor Dennis Chung, who is predicting that the crisis will have a devastating impact on Jamaica. Chung thinks the fallout is likely to result in economic stagnation for at least two years. GDP and External Sector at Risk -------------- ¶4. (SBU) Chung's argument is not difficult to accept given that Jamaica was already on the brink of economic malaise. Even before the passage of Tropical Storm Gustav in August, real GDP was declining on the back of weak agriculture, manufacturing and mining performance. This fallout is expected to intensify in upcoming quarters as agriculture and in particular export agriculture sectors were decimated by Gustav (reftels). So bad was the shock to banana exports that the sole exporter, Jamaica Producers Group, decided to ;Q(YtYmeexit the banana export business. Add to this the likely impact of the slowdown in consumption precipitated by the collapse of the alternative investment schemes (reftels) and the economic forecast look bleaker. ¶5. (SBU) Most of the effects from the crisis are expected to take place in the external sector with the export of goods and services most at risk. Commodities prices are likely to decline and the country could see a fall off in earnings from traditional exports like bauxite, alumina and sugar, while banana earnings will totally disappear. Although declining world oil prices will lead to reduced import costs and moderating inflation, it might not be steep enough to offset falling export earnings, leading to a worsening current account position. Tourism, Jamaica's number one foreign exchange earner, might not go into freefall, but the sector will face serious challenges going forward. Emboffs visiting hotels on the north coast are finding far fewer guests than normal for this time of year. At best, growth rates should wane as potential visitors postpone vacations amidst job losses and declining wealth. That KINGSTON 00000883 002 OF 002 said, those willing to travel will choose cheaper and closer destinations making a diversion of visitors from Europe and Asia more likely. The GOJ in a bid to mitigate any fallout has also embarked on an aggressive advertising program while shoring up airlift to the island (reftels). ¶6. (SBU) Even more important is the likely effect of the financial crisis on the flow of remittances from the Jamaican diaspora, particularly the United States. Remittances of USD 1.4 billion up to August 2008 have been growing by double digits and now account for almost 20 percent of GDP. The private transfer has become the core income for a number of Jamaicans and has also been credited with moving large numbers out of poverty. There has been a slight slowing in the overall rate of growth in remittances. Noel Greenland of Grace Kennedy Remittance Services (partly owned by Western Union),told emboffs on October 8 that they recorded the first decline in September (2 percent). A steep decline is not expected, unless the financial situation becomes more severe. However, anecdotal information in the Jamaican press suggests that Jamaicans in the U.S. diaspora who are facing home foreclosures may be forced to curtail remittance flows. This view is predicated on the fact that the flow has remained resilient during past recessions and shocks due largely to the obligatory nature of the transfer. Additionally, most Jamaicans are concentrated in the services sector (healthcare and education) which has not been affected yet by the current economic downturn in the U.S. economy. Credit Crunch Could Affect Confidence -------------- ¶7. (SBU) The most significant effect of the global crisis, in the short term, is expected to emanate from the attendant credit crunch. Although there is apparently no systemic financial risk given the low level of exposure to U.S. investment banks, a number of financial institutions are set to record losses associated with the fallout (Note: Financial institutions can invest a maximum of five percent of their capital in foreign assets. End note.) A number of entities are also feeling the effects of the financial storm as their lines of credit have been withdrawn or drastically reduced. Financial players and importers appear to be hardest hit with some investment houses already subject to margin calls from overseas lenders. This has led to a corresponding tightening in credit from local financial institutions which are also holding a significant bad debt portfolio following the collapse of alternative investment schemes. This could precipitate a rise in domestic rates with all its attendant ramifications for investment and fiscal policy. These entities, in addition to having to stave off rumors about their level of exposure to the crisis, have also seen a steep decline in their stock prices as confidence wanes. ¶8. (SBU) Although the GOJ will be able to close part of its USD 250 million budget financing gap with a loan from the IADB, it will have to raise the remainder on the capital market. Given the international capital market tightening, the GOJ will, at best, be forced to pay a premium on the eight percent it paid on USD 350 million raised earlier this year. As tax revenues slow on the back of declining consumption, the GOJ will be forced to adjust its spending plans downward to meet its fiscal deficit target. Capital expenditures required to rehabilitate infrastructure destroyed by Gustav is likely to suffer the brunt of the adjustment. The GOJ could also find that its plan to divest the loss-making national airline, Air Jamaica, by March 2009 might falter as the sale becomes increasingly unattractive in the current global environment where more attractive assets are going at a discount (reftels). The GOJ's vision to establish an offshore financial center will also be challenged, particularly given the competition from energy rich Trinidad and Tobago currently embarking on a similar project. Comment -------------- ¶9. (SBU) It is highly unlikely that Jamaica will escape the ravages of the current global financial meltdown given its heavy dependence on the external economy. But most of the economic difficulties that will arise in the near term would have arisen even without the onslaught of the external crisis given other underlying domestic weaknesses. GDP was already stagnating on the back of an agriculture sector prone to natural shocks and low productivity. Exports were also heading south and if oil prices had not moderated in response to the global crisis the country would have faced a balance of payments crisis, which might yet well materialize. As the economy is already near the bottom, the GOJ might well be advised to use the current opportunity to affect the institutional reforms required to prepare the country for the next global rebound. End comment. JOHNSON