JAMAICA SINKS FURTHER INTO RECESSION

UNCLAS KINGSTON 001050 SENSITIVE SIPDIS STATE FOR WHA/CAR (VDEPIRRO) (WSMITH) (JMACK-WILSON) WHA/EPSC (MROONEY) (FCORNEILLE) EEB/IFD/ODF (MSIEMER) EEB/ESC/IEC (GGRIFFIN) EEB/ESC/IEC/EPC (MMCMANUS) INR/RES (RWARNER) INR/I (SMCCORMICK) SANTO DOMINGO FOR FCS AND FAS TREASURY FOR ERIN NEPHEW EXPORT IMPORT BANK FOR ANNETTE MARESH USTDA FOR NATHAN YOUNG AND PATRICIA ARRIAGADA OPIC FOR ALISON GERMAK E.O. 12958: N/A TAGS: ECON ETRD ENRG EFIN EINV PREL PINR SOCI TRSY OPIC IBRD, IMF, XL, JM SUBJECT: JAMAICA SINKS FURTHER INTO RECESSION REF: KINGSTON 914; KINGSTON 634; KINGSTON 922 Summary -------------- ¶1. (SBU) The Jamaican economy sank deeper into recession during the July to September time frame, chalking up the seventh consecutive quarter of economic contraction. Real GDP declined by 3.1 percent on the back of continuing declines in the goods producing sectors, and bauxite/alumina in particular. The deepening recession comes amidst fears of a fiscal crisis brought on by the country's gargantuan stock of public debt. The fiscal deficit deteriorated to USD 345 million, making it almost impossible for the Government of Jamaica (GOJ) to implement a stimulus package. Options are narrowing as an International Monetary Fund (IMF) Standby Agreement is months behind schedule and international rating's agencies, Moody's and Fitch join Standard and Poor's in downgrading Jamaica's credit rating. The economic crisis could intensify in the near term as any recovery in the global economy will impact Jamaica with a lag effect. Sustainable recovery in Jamaica will also hinge on a resolution of the fiscal situation in general and the debt overhang in particular. End Summary. Economic Depression Deepens -------------- ¶2. (SBU) The global recession has been particularly harsh on Jamaica due to its prolonged battle with structural problems such as declining production and productivity and high debt (Reftel A). Real GDP declined by 3.1 percent during July to September 2009, the seventh consecutive quarter of contraction. The third quarter decline also contributed to the 3.2 percent downturn in the economy for the nine month period to September. There was also a commensurate fallout in unemployment which rose to 11.3 percent at the end of July 2009. (NOTE: Employment data has a four month lag, END NOTE). Almost 40,000 persons have been displaced since July 2008, and the situation would have been worse but for the 6.3 percent (13,700) jump in employment in the agriculture sector. ¶3. (SBU) The fallout in economic activity continues to be most evident in the goods producing sectors, which declined by 10.3 percent. Mining output, down 59 percent, was the major contributor to the downturn in the real economy. Alumina production fell by 65.7 percent, while bauxite output was down 21 percent. This is not surprising, as bauxite and alumina have been major casualties of the global economic meltdown, with world demand for both commodities waning. This, combined with Jamaica's high energy costs have led to the closure of three of the country's major bauxite/alumina operations (Reftel B). This has had a multiplier effect on output, as these high earning workers have curtailed their consumption of goods and services. Commercial banks operating near these operations already have observed a fall out in business as well as an increase in loan delinquency (Reftel C). The Construction and Manufacturing sectors were also down 5.8 and 4.0 percent, respectively. The fallout in construction has been dire as the sector employs a large number of unemployed youths and had been growing by double digits prior to the onset of the global recession. At the end of July 2009, unemployment in the sector was up 13.5 percent (14,800 jobs lost). Agriculture Grows -------------- ¶4. (SBU) Agricultural production, up 10 percent, was the only segment of the real economy to record growth during the September quarter. This is the fourth consecutive quarter of growth in the sector and signals a marked recovery following Tropical Storm Gustav, as well as years of moribund performance. However, production levels still lag 1996 levels. The return to buoyancy in the sector has been attributed to a productivity program initiated by the Ministry of Agriculture. Domestic and export demand for agricultural products increased on the back of stable prices and more consistent supplies and quality there also has been a jump in financing to the sector. The two largest commercial banks have established special loan windows for small businesses, with a focus on those in the agriculture sector. Agriculture also has come in for a disproportionate amount of attention because of the drive to replace part of the country's near USD 1 billion food import bill in order to close the external financing gap. And Tourism Resilient -------------- ¶5. (SBU) Tourism, the mainstay of the services sectors, also remained resilient during the first eight months of 2009. Stop-over arrivals to August 2009 increased by 4.1 percent to 1.3 million visitors. At this rate of growth, Jamaica's tourism industry remains the best performing in the region. While arrivals from the U.S. market were up slightly at 2.1 percent, the lion's share of the increase was attributable to a 28 percent spike in arrivals from Canada. The surge in Canadian visitors is likely due to the resiliency of its economy during this current downturn coupled with the advantages of an appreciating currency. Jamaica also has marketed aggressively to Canada, and discounts being offered by some of the major hotels have drawn a number of Canadians to the island. Although discounted prices will stymie earnings in the short term, they could bear huge dividends when the travel industry recovers in the form of repeat visitors. Fiscal Crisis Intensifies...Thwarts Fiscal Stimulus -------------- -------------- ¶6. (SBU) The deepening recession could not have come at a worse time, as the deteriorating fiscal dynamics make it almost impossible for the GOJ to implement a fiscal stimulus package. This injection of government spending is required to compensate for the significant decline in private consumption, observed since the beginning of the fiscal year in April 2009. (NOTE: Consumption taxes have lagged targets by up to USD 78 million for the first half of the fiscal year, END NOTE). On the contrary, the fiscal malaise has forced the GOJ to slash spending on recurrent and capital projects to maintain its fiscal deficit below 10 percent. It is this reduction in public investment which has contributed to the contraction in economic growth over the last two years. Debt --- GOJ's Achilles Heel -------------- ¶7. (SBU) During the July to September quarter, central government operations generated a fiscal deficit of USD 345 million, USD 88.3 million more than planned. The result would have been worse, but for the USD 94 million cut in spending on recurrent operational costs (rent, utilities, etc...). The greater than budgeted for deficit was due to a combination of rising debt servicing costs, increased wages, and declining revenue flows. Revenue flows were USD 18 million below projections, as production and consumption taxes continue to suffer in the down economy. However, it is the massive debt overhang which continues to be the GOJ's Achilles Heel, as debt servicing costs place a disproportionate burden on the expenditure budget. (NOTE: PM Golding has given the public repeated assurances that his administration will not renege on the country's debt paying obligations, most recently at the November 22 Jamaica Labour Party (JLP) conference, when he told attendees, "The holders of government bonds are assured that our commitment to them is inviolable ...We will continue to pay our debts and maintain our proud record." END NOTE. ¶8. (SBU) For the first six months of the fiscal year, interest payments on the debt accounted for forty-two and sixty-three cents of every dollar of expenditure and revenues, respectively. The deterioration in the fiscal situation in general, and the debt dynamics in particular, have led Moody's Investor Service and Fitch to downgrade Jamaica's debt ratings to Caa1 and C respectively. According to both agencies, the downgrade reflects the country's increased macroeconomic pressures and the sharp fiscal deterioration, which has resulted in unsustainable debt dynamics and heightened the risk of some form of debt restructuring. With the degrees of freedom narrowing with each passing day of inaction, the three ratings agencies are of the opinion that Jamaica might well be forced to enter into discussions with local creditors for a debt restructuring program. The protracted delays in finalizing a Stand-by Agreement with the IMF have only added to the rising levels of uncertainty. Inflation Moderates -------------- ¶8. (SBU) Inflation, which moderated to 3.1 percent, continues to be one of the few success stories in the Jamaican economy. The return to stability comes amidst a number of policy-induced measures, including two tax packages and increased user fees. And while prices for the quarter remain high by international standards, they were still below the 4.8 percent registered in the corresponding quarter of 2008. Inflation for the calendar year to September 2009 was 7.3 percent, well below the 16.9 percent registered for the same period in 2008. A combination of domestic and external factors provided the underlying impetus for the moderation in prices. Chief among these was the relative stability in international energy and food prices. This was aided by the stabilizing of the Jamaican currency. Increased supplies of domestic agricultural products also had a tempering effect on prices, particularly as food has the highest weight (almost 50 percent) in the basket of goods and services. Foreign Exchange Market Stabilizes -------------- - ¶9. (SBU) Despite rising uncertainty and waning confidence, the foreign exchange market also remained stable during the third quarter of 2009, with the real exchange rate appreciating by 2.2 percent. This is a major turnaround from the steep depreciation, which started in the same quarter last year. The foreign exchange market also has reacted calmly to a series of negative developments such as the recent lowering of the country's credit ratings. Although external bond prices have fallen, local investors have been slow to switch assets because of the: (1) attractive rates of interest being offered locally (up to 9 percent in real terms - aided by falling inflation); (2) recent build-up in the stock of Net International Reserves (NIR) to USD 1.9 billion, following a spike in official financing; (3) likelihood of a Stand-by Agreement with the IMF; and, (4) improvement in the country's Balance of Payments (BOP),with the current account deficit narrowing to below 14 percent of GDP from 20 percent a year ago. Comment -------------- ¶10. (SBU) The Jamaican economy could plunge further into crisis, given the weak economic fundamentals led by the worsening fiscal situation. With confidence hanging by a thread, only the successful conclusion of an IMF Stand-by Agreement stands between Jamaica and a full blown crisis. However, a favorable IMF deal should not be viewed as a panacea to the country's economic ills, as any lasting solution will largely depend on the fortitude of the current JLP-led administration to effect the structural changes required to arrest the economic and social malaise. The timing of these changes is critical: as time passes the range of options begins to narrow even further, making the necessary adjustments much more painful. However, Jamaica has become so weakened by its long history of bad choices and inaction that, even if the right choices were to be effected, they might not produce any green shoots in the near term. End Comment. Parnell