Is rating agency Fitch maintaining its B+ rating of Jamaican early dividend of good policy?

The mantra of the current budget has been “good policy pays dividends”, a reference to the $33 billion special dividend to be paid by the Bank of Jamaica in the first week of April out of three years profits.

This dividend is what allows the budget for the new fiscal year, beginning in April, to project a small surplus of 0.3 per cent of gross domestic product (GDP), and a primary surplus, meaning the surplus of revenues over expenditures when excluding interest costs, of 6.1 per cent of GDP, making interest costs 5.8 per cent of GDP.

The debate about what represents good policy has centred around whether the primary surplus target could be relaxed by one per cent (as recommended by the Opposition) or two per cent of GDP to increase social spending and support for businesses, which appears low using international comparisons.

In fact, this relatively low spending is implicitly confirmed by ratings agency Fitch, who maintained our B+ rating with a stable outlook (released as the prime minister was still finishing his budget speech), noting that Jamaica is expected to be one of the few Fitch-rated sovereigns to post a primary surplus last year (they estimate Jamaica’s will be 2.6 per cent of our GDP).

Fitch also estimate the general government deficit at 4.3 per cent of GDP for fiscal year 2021 ending in March 31 from a surplus of 0.9 per cent a year ago, noting this compares favourably with the median deficit for 2020 of 7.6 per cent for other B-rated countries.

Expenditure growth is projected at only 3.8 per cent year over year (compared to an average of 7.8 per cent between fiscal 2017-2018 and fiscal 2019-2020) as the Government reallocated planned capital expenditure (CAPEX) to pandemic-related support.

The rating company also noted that revenues declined by a projected 12.3 per cent year over year pushed down by a fall in consumption and the downturn in the tourism sector.

Fitch projects a deficit of 0.8 per cent of GDP for the fiscal year ending March 2022 rather than the 0.3 per cent surplus, no doubt reflecting a view that the tax revenue target may be aggressive and the uncertainty of the timing of the tourism recovery.

They note that in fiscal 2021/2022 the Government plans to cover 70 per cent of its funding requirements locally, but believe local banks will be willing to lend to the Government at relatively low rates owing to ample liquidity, as the supply of government paper has fallen in recent years and the number of local investment opportunities have decreased during the pandemic. External financing will come from multilaterals as the Government has stated that it is not planning to issue an external bond in the upcoming fiscal year.

Fitch notes Jamaica’s debt-to-GDP is projected to reach 110.9 per cent by end-March 2021 from 94.8 per cent a year before, largely reflecting exchange rate depreciation and GDP contraction (61 per cent of total government debt is in foreign currency). They assume that debt-to-GDP will return to a clear downward path reflecting cross-party political consensus around the fiscal stance. Fitch notes that before the pandemic, Jamaica recorded one of the largest primary surpluses of any sovereign rated by Fitch, averaging 7.4 per cent of GDP between fiscal 2013-2014 and fiscal 2019-2020.

Fitch expects that the economy will grow by 4.5 per cent in 2021, with risks to the downside stemming from uncertainty around the vaccine roll-out and a possible third wave of the virus. Fitch expects that growth will accelerate in 2022 to 5.2 per cent assuming that the tourism industry will have a better 2021-2022 winter season than the one that is just ending. They note our GDP contraction in 2020, at 10.2 per cent is much worse than the median of the ‘B’-rated peers at 4.2 per cent.

They estimate that the current account deficit narrowed in 2020 to 0.9 per cent of GDP, from two per cent of GDP in 2019 despite a halving of services credits (mostly tourism), reflecting a contraction in imports for tourism and lower energy prices, and a jump in inflows from remittances. Jamaica’s 2020 deficit compares favourably with the ‘B’-median of 3.7 per cent. Fitch expects the current account deficit to widen to 1.2 per cent of GDP in 2021, despite an improvement in tourism revenues, as imports increase.

They cite approvingly Bank of Jamaica’s limited interventions in the foreign exchange market, and that our reserves now provide 7.1 months of current external payments cover, better than the ‘B’-median of 4.9 months. Fitch expects that the reserve coverage will converge to the ‘B’-median in 2021 and 2022 as imports recover. They note also that the BOJ Amendment Act passed last year makes price stability the only and explicit target of the bank, and makes the BOJ accountable only to Parliament.

They observe that our banking sector is well capitalised and while non – performing loans (NPL’s) showed an uptick they remain relatively low, with NPLs to total loans in December 2020 at 2.9 per cent, a tiny rise from 2.2 per cent a year earlier. They don’t, however, note that this low number probably reflects the impact of the moratoriums on principal and interest in the financial sector.

Getting back to the issue of whether Jamaica’s budget is overly austere, based on global comparisons, it is important to note the risk issues mentioned in the footnotes of Fitch’s sovereign rating model (SRM).

Their rating committee downgraded us by one notch to reflect our high dependency on the US economy, exposure to shocks in tourism revenues, relatively high probability of a natural disaster and net external debt that is about twice that of our ‘B’ rated peers.

Fitch then added one positive notch as an adjustment to offset the deterioration in the SRM output driven by volatility from the pandemic shock, including on GDP growth. Noting that while the deterioration of GDP growth and the volatility variables reflects a very substantial and unprecedented exogenous shock, Fitch believes that Jamaica so far has demonstrated the capacity to absorb it without lasting effects on its long-term macroeconomic stability. The strengthening of fiscal and monetary policy frameworks contributes to this macro policy notch.

In summary, Fitch, with perhaps masterful timing from our budget debate perspective, has rewarded our minister of finance’s fiscal prudence and recent institutional strengthening by not downgrading us as might normally be expected (and has always occurred in the past) after such an enormous shock.

The minister of finance, who clearly signalled Jamaica’s high risks in his budget speech as a reason for fiscal prudence, will no doubt feel vindicated in his approach.