Inflation rate differential declines faster than expected

The Bank of Jamaica (BOJ) has attributed the sustained fiscal consolidation under Jamaica's economic support programme with the International Monetary Fund (IMF) to the faster-than-expected decline in inflation since April 2013.1

The inflation rate differential - the difference between the rate in the United States and the rate in Jamaica - was projected to fall to 6.2 per cent by 2017, the end of the four-year programme with the IMF, but as at September 2015 it was 1.8 per cent, the BOJ said in its September 2015 quarterly monetary-policy report released last week.

Other factors contributing to the faster-than-anticipated decline included a slow-down in the pass-through of exchange rate depreciation to domestic prices, weaker gross domestic product (GDP) growth than previously expected, but was mainly due to favourable supply shocks to oil and other commodities which contributed to a significant decline in commodity prices, particularly towards the end of 2014.

In the report, the central bank noted that a medium-term goal of the programme under the IMF's Extended Fund Facility (EFF) is to bring inflation in line with that of Jamaica's main trading partners, particularly the United States of America.

At the start of the programme in 2013, it said, annual inflation was 9.1 per cent and was forecast to gradually decline to 8.5 per cent at end-March 2017.

Concurrently, US inflation was 1.5 per cent and the IMF forecast inflation of 2.3 per cent. In that context, the inflation differential was 7.6 per cent at end-March 2013, and was forecast to gradually decline to 6.2 per cent at end-March 2017.

However, annual domestic inflation at end-September 2015 was 1.8 per cent. Inflation in the USA, Jamaica's main trading partner, has also declined sharply consequent on the fall in commodity prices. At end-September 2015, the USA recorded annual inflation of 0.0 per cent relative to 1.5 per cent at end-March 2013, the BOJ said.

NORMALISATION EXPECTED

"The faster fall in domestic inflation, relative to foreign inflation, resulted in a narrowing of the inflation differential to 1.8 percentage points, as at September 2015, from 7.6 percentage points as at the start of the EFF programme," the report said.

The differential is, however, expected to normalise to approximately 5.0 percentage points at end-March 2016, consistent with the projections for domestic inflation.

The central bank said concurrent with the fall in the inflation differential, the annual depreciation of the exchange rate has slowed to approximately 6.0 per cent at end-September 2015 from 13.2 per cent at the start of the IMF programme.

Although the rate of depreciation of the exchange rate was above the inflation differential as at September 2015, the depreciation should moderate as the inflation differential continues to trend downwards, it said.

Real GDP growth for fiscal year 2015/16 is projected to remain within the range of 1.0 per cent to 2.0 per cent, while average quarterly growth over the near-term is expected to be within the range of 1.5 to 2.5 per cent. Further, the pace of expansion in economic activity is expected to increase over the medium term.

"It is envisaged that growth for FY2015/16 will occur in the context of continued recovery in the economies of Jamaica's major trading partners, improvements in business and consumer confidence as well as a further improvement in net external demand," said the BOJ.

"Furthermore, the domestic economy is projected to benefit from the ongoing reforms under the IMF-EFF programme which are expected to improve the business environment," it added.

The report also noted that the weighted average selling rate of the Jamaica dollar, vis-a-vis the US dollar, closed the September 2015 quarter at J$119.06 to US$1 reflecting an increased pace of depreciation to 5.67 per cent from 4.26 per cent at the end of the previous quarter.

The faster pace of depreciation reflected a reversal of the trend observed since the September 2013 quarter.

The uptick in the pace of depreciation occurred in the context of higher net demand for foreign currency to satisfy balance of payments current account transactions. The higher net demand reflected increased payments as well as lower receipts. Higher payments were associated with increased demand for non-fuel imports.

Lower receipts reflected a decline in non-traditional exports, in particular, mineral fuel, the impact of which was partly offset by higher inflows from tourism and remittances. Private capital inflows were also estimated to have been lower for the same period.

There was an estimated gain of 3.3 per cent in Jamaica's external price competitiveness, as measured by the real effective exchange rate at end-September 2015, compared to the estimated gain of 1.1 per cent at the end of the previous quarter.

The gain in competitiveness reflected the faster pace of depreciation of the domestic currency as well as a lower rate of domestic inflation.

mcpherse.thompson@gleanerjm.com