JAMAICA: MONETARY GAINS, FISCAL PAIN, AND

UNCLAS SECTION 01 OF 04 KINGSTON 000613

SENSITIVE
SIPDIS

STATE FOR WHA/CAR (JMACK-WILSON)(VDEPIRRO)(WSMITH)
WHA/EPSC (MROONEY) (FCORNEILLE) (AWONG)
EEB/IFD/OMA
WHA/PPC (JGONZALEZ)
INR/RES (RWARNER)
INR/I (SMCCORMICK)
SANTO DOMINGO FOR FCS AND FAS
TREASURY FOR ERIN NEPHEW
EXPORT IMPORT BANK FOR ANNETTE MARESH

E.O. 12958: N/A
TAGS: ECON ENRG EFIN EINV ETRD PGOV PREL IADB
IBRD, IMF, TRYS, JM, XL
SUBJECT: JAMAICA: MONETARY GAINS, FISCAL PAIN, AND
DOWNGRADES

REF: A. KINGSTON 581

B. KINGSTON 551

C. KINGSTON 601

D. KINGSTON 245

E. KINGSTON 422


1. (SBU) SUMMARY: After a series of austere monetary
measures, led by record high interest rates, the foreign
exchange market has been showing signs of stability,
reflected in the marginal depreciation of the Jamaican
dollar during the June quarter. The stock of Net
International Reserves (NIR) also has stabilized at USD
1.6 billion as demand pressures for foreign currency
appear subdued and inflation moderates to four percent
for the first half of 2009. These gains come at a
significant cost to the fiscal accounts. The fiscal
deficit was USD 403 million, USD 46 million more than
budgeted, because of falling revenue collection.
Government of Jamaica (GOJ) spending had to be slashed by
USD 87 million. This fiscal situation triggered a second
downgrade in Jamaica's credit rating to CCC+ by Standard
and Poor's on August 5, drawing the ire of the GOJ. The
economy has not been in such dire straits since the
economic stagnation referred to as the "lost decade" of
the 1970s. End summary.

Central Bank Updates Nation
--------------


2. (SBU) On August 12, Bank of Jamaica (BOJ-Central bank)
Governor Derick Latibeaudiere hosted a press briefing,
attended by Emboffs, to update the country on recent
financial and economic developments. He noted the
concern many Jamaicans felt about returning to the
International Monetary Fund (IMF),but said it was
necessary to address structural reforms in a sustainable
manner (Reftels A and B). He assured the press that the
BOJ continues to keep monetary policy focused on
maintaining macro-economic stability. He stated that
most economic indicators were pointing in the right
direction, with inflation moderating, the exchange rate
stable, and the current account deficit improving.


3. (SBU) Inflation for the June quarter was 2.7 percent,
well below the GOJ's target of 5.5 percent. Inflation
for the first half of 2009 was four percent, well below
the 11.5 percent recorded during the similar period of

2008. Latibeaudiere attributed the moderation to the
bank's tight monetary policy stance.

BOJ Defends Policy Actions
--------------


4. (SBU) The BOJ has come under significant public
criticism, particularly from the business community, for
its high interest rate policy (Reftel C). Latibeaudiere
defended his policy actions saying, "Whatever interest
rate path the bank pursued was absolutely correct." When
one journalist at the briefing remarked that the country
now had to "suffer under the impact of overly aggressive
measures" by Latibeaudiere, he responded, "you mean we
are now reaping the benefits of my actions."


5. (SBU) Latibeaudiere noted that the IMF commended the
bank for its monetary policy stance, saying it was a
miracle the BOJ was able to maintain stability amidst the
resource constraints. He argued that making policy
decisions in an extraordinarily difficult environment
involved tough choices. He told the audience that he was
committed to never taking actions that could compromise
sound monetary policy or actions that might undermine the
bank's mandate of price and financial stability.


6. (SBU) He noted that the bank's policy actions had
yielded some positive results, noting that the Jamaican
currency had depreciated by only 0.3 percent during the
June quarter. Although this might appear impressive,

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given that the currency had lost 22 percent of its value
between September and February, it came against the
background of a 24 percent hike in interest rates. This
was augmented by frequent injections from the Net
International Reserves (NIR) to augment supplies. These
measures resulted in a contraction in the need for
foreign currency to purchase imported goods. This in
turn, led to a marked improvement in the current account
deficit, which is projected to move from 21 percent of
GDP in 2008/09 to 12 percent of GDP in 2009/10, despite
the fall out in bauxite, tourism, and remittances (Reftel
D). At the end of June, the stock of NIR had stabilized
at USD 1.6 billion or about 13 weeks of goods and
services imports-- up from USD 1.5 billion a few months
ago, but still well down from 2.2 billion when the global
recession began.

Stablization Gains Cause Fiscal Pain
--------------


7. (SBU) The BOJ's measures have not been without cost to
the fiscal accounts; the high interest rate policy has
increased debt serving costs in the June quarter by USD
25 million. For the June quarter, central government
operations also generated a deficit of USD 403 million;
USD 46 million more than budgeted. The continued
deterioration was due to declining revenue collection, as
spending was slashed by USD 87 million to bring
expenditure closer in line with falling revenues. The
BOJ's demand management program (depreciation and
interest rate hike) has reduced consumption and thus
reduced import taxes. The GOJ is not able to cut all
spending, notably obligatory expenditures (interest
payments and wages),and thus its goal of a fiscal
deficit of 5.5 percent of GDP has been shattered.

Economic Contraction, Fears of Another Lost Decade
--------------


8. (SBU) The BOJ's measures have also impacted the
already moribund Jamaican economy, which is estimated to
have declined by a further 3.5 to 4.5 percent during the
June quarter. This was the sixth consecutive quarter of
decline and is the sharpest contraction in ten years.
The fall off continues to be led by the Mining and
Quarrying sector, as lost output from the closure of
three of the country's four bauxite plants continue to
take its toll (reftel D). The stagnation in the
construction industry also impacted output growth. The
contraction in GDP continues against the background of
weak external and domestic demand from the lingering
global economic downturn. Jamaica is facing its worst
economic situation since the 1970s--referred to as a
"lost decade" of growth marked by economic setbacks and
job losses.

Hard Decisions Must Be Taken
--------------


9. (SBU) Deteriorating economic conditions, led by the
weakening fiscal dynamics, have forced an abandonment of
the medium term economic framework. Prime Minister (PM)
Bruce Golding has already announced the tabling of a
revised budget (Supplementary Estimate) when Parliament
resumes in September. This revised budget could increase
the deficit to over seven percent of GDP, unless the GOJ
is successful in negotiating an interest rate concession
this year (Reftel E). The economic contraction is
expected intensify, meaing the projected three to four
pecent contraction of GDP could rise to five or six
percent. On a brighter note, the 2009 inflation target
has been reduced to between 11 and 12 percent, while
interest rates have begun to decline, albeit slowly.

To Consider Terms For IMF Return
--------------


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10. (SBU) PM Golding also announced that his Cabinet had
considered the terms on which his government will return
to the IMF when it met on August 17. He said once the
terms are decided by Cabinet it will be open for public
discussion, and constructive concerns will be taken on
board. However, Golding was quick to point out that some
of the terms of the agreement will not be pleasant.
"When you are sick, you have to take medicine", said
Golding. The country could be in for some immediate
relief, as the BOJ is set to pick up USD 328 million in
Special Drawing Rights (SDR) from the IMF in September.
This should strengthen the bank's stock of NIR, thus
furthering stability in the foreign exchange market.

Standard and Poor's Delivers Body Blow
--------------


11. (SBU) As Jamaica contemplates a return to the IMF,
ratings agency Standard and Poor's has announced a
downgrade of the country's credit ratings from B- to
CCC+. This second downgrade in less than a year was based
on what S and P considers Jamaica's vulnerable fiscal
profile, combined with difficult financing conditions,
amidst a weak debt profile. The ratings agency said this
could well compel the GOJ to undertake a debt exchange
that could be regarded as a distressed debt exchange
(default). With 25 percent of debt maturing within a
year and with 50 percent of the debt foreign-exchange
indexed, S and P suggests that debt servicing costs will
rise to 60 percent of the budget in 2009, up from 48
percent in 2008. The agency also is forecasting that
debt-to-GDP will jump to 120 percent by the end of 2009.

GOJ Hits Back - Dispels Default Rumor
--------------


12. (SBU) Responding to the downgrade, Audley Shaw,
Minister of Finance and the Public Service(MFPS),stated
that the ratings agency ignored the positive economic
developments led by foreign exchange market stability and
declining interest rates. He also emphasized that the
GOJ does not intend to pursue any transaction with its
creditors that could be viewed as a distressed
transaction. Latibeaudiere called the downgrade "pre-
mature" and in echoing Shaw's comments said the GOJ
"continues to maintain its resolve to honor all
obligations, as contracted, and therefore the rating
action was unwarranted." PM Golding also maintained that
there was absolutely no chance of Jamaica defaulting on
its debt, as Jamaica was one of the few countries where
the prior claim on budgetary expenditure of debt
repayment were guaranteed by a provision in the
Constitution.

COMMENT
--------------


13. (SBU) The S and P downgrade has dealt a major
psychological blow to the already beleaguered Jamaican
Labor Party (JLP)-led administration, but it might not
have any material impact in the short-term, given that
Jamaica has been frozen out of the private capital
market. In fact, it is the investors who already hold
Jamaican bonds who will most likely be affected, which
could explain the outrage coming from this sector. Even
if the ratings action was premature, as a starting point,
the GOJ must acknowledge the fundamentals of the S and P
findings--that the country has a vulnerable and
precarious fiscal situation. Consequently, the
downgrade, coupled with the imminent return to the IMF,
should be viewed as another perfect opportunity for the
PM Golding and his party to finally address the
structural impediments to growth and development.
Although this move will be riddled with political risks
due to difficult choices, any further postponement of the
pain, in order to maintain political capital, could well
result in another lost decade. END COMMENT.

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MOSS