Mon | Dec 11, 2017

Briefing | Climb of Jamaica’s foreign currency debt cause for concern

Published:Wednesday | September 27, 2017 | 12:06 AM


What is Jamaica's foreign currency debt?


Jamaica's medium and long-term public and publicly issued foreign currency debt stood at approximately US$9.4 billion or an estimated 67 per cent of GDP as of June 2017. Over the last 30 years, approximately 11 per cent of the nation's external debt on average is owed to the Inter-American Development Bank, nine per cent of Jamaica's debt on average is owed to the International Bank for Reconstruction and Development of Canada, and three per cent is owed on average to other international institutions.

Six per cent of the external debt is owed to the international government institution, the United States Agency for International Development , while the Canadian International Development Agency and Export Development Canada hold one per cent on average. Bonds increased in popularity after 1996; they account for 47 per cent of the debt on average.

Other government institutions, including the International Monetary Fund (IMF) and the World Bank, hold 17 per cent of the debt on average, while commercial banks and other commercial entities hold five per cent and one per cent of the debt, respectively.



Why is the debt a concern?


The ascendant trajectory of Jamaica's foreign currency debt is a cause for concern because Jamaica sought assistance from the IMF through an extended fund facility in 2013 and further through the standby arrangement (SBA) in 2016. For a country's debt burden to fall, its economy must be growing at a faster pace than its interest rate payment obligations. If interest rates are higher than the growth rate of GDP, then a country's debt situation will worsen. This questions the sustainability of the nation's foreign currency debt over time. Real GDP growth reduces the debt in the first two periods.


What is the impact of currency depreciation on Jamaica's foreign currency debt?


The results indicate that exchange rate depreciation causes increases in Jamaica's foreign debt obligations each year. Jamaica's debt-servicing requirements increased by US$56 million on average per annum; US$33 million in principal payment and US$23 million in interest as a result of currency depreciation. An increase in the exchange rate causes the debt to increase in the first period. The effect disappears after the first five periods. Since liberating its financial sector in 1992, Jamaica has accrued approximately US$753 million of debt per annum. Of this, US$449 million represents principal and US$304 million in interest is owed on average each year to international lenders.


What is the impact of imports on the foreign currency debt?


The results indicate that a one-standard deviation increase in imports results in an instant increase in the external debt obligations in the same period. The effect falls in the second period, but increases again in the third period even more than it did in the first. This lagged effect insinuates that consumers borrow to consume and debt obligations become due after two periods. Imports account for the largest portion of the variation of the debt other than the debt itself. After the third period, imports account for more than 18 per cent of the variation in foreign debt. These results are congruent with expectations; it is no secret that Jamaica borrows to supports its high import consumption bill. This pattern of behaviour has a real medium-term effect on debt repayments.


What is the impact of real interest rates on the foreign currency debt?


A one-standard deviation increase in the real interest rate results in an increase in the external debt in the first period. The debt subsequently falls the next three consecutive periods as the effect disappears gradually. The variance decomposition indicates that the real interest rate accounts for approximately 2 per cent of the variation in the external debt.


What is the impact of inflation on the foreign currency debt?


The data shows that a one-standard deviation increase in inflation results in a minor decline in the external debt servicing. Subsequently, as the model adjusts the debt increases over the next two years. The effect disappears after about eight periods. The Consumer Price Index accounts for two per cent of the variation in the debt for the period and approximately five per cent after



What does this mean for policy?


Policy recommendations would suggest that keeping the exchange rate stable can reduce Jamaica's foreign currency debt obligations. Policies supporting fewer imports will also reduce the country's foreign debt obligations. Jamaica's policy under the IMF promotes a depreciation of the currency to materialise fewer imports, but policies like these are counter-intuitive on their own and should be supported by a strong push towards import substitution.