The Tribune

By NATARIO McKENZIE

Tribune Business Reporter

nmckenzie@tribunemedia.net

THE Central Bank will gradually reduce its lending to the Government to help address the potential risk posed by $1.737bn in excess commercial bank liquidity, its governor has revealed.

John Rolle speaking at the opening of a recent forum held by The Government and Policy Institute of the University of The Bahamas, acknowledged that there was a medium-term concern about liquidity levels in the Bahamian financial system.

“To address this, the Central Bank’s forward-looking strategy is to gradually reduce the outstanding lending to the Government. This would absorb any excess liquidity that had its origin in accumulated past Central Bank financing of the Government,” he said.

Mr Rolle added that, over the medium and longer term, the Bahamian economy “has to do a better job” of retaining the foreign exchange that it earns. “More bank lending has to reach productive enterprise activities that forge linkages with tourism, provide competitive substitutes for imports and expand our export reach,” he said.

“The Central Bank’s targeted liberalisation of capital controls has also allowed such categories of enterprises direct access to financing in foreign exchange. We believe that it is a strategy that will bear fruit over the medium-term.

“The fiscal policy framework has to bolster support for the currency. Deficits, when they arise, should anchor public investments with positive net returns to economic growth, and have a positive foreign exchange bias. More fundamentally, for our present circumstances, deficit reduction and eventually budget surpluses should become the order, with more public investments sustained from savings on recurrent expenditures.”

Mr Rolle added that fiscal deficits and growing debt can make it difficult to wean the Government off borrowing from the Central Bank, and can expand foreign currency debt in ways that cannot be easily repaid.

“Better foreign exchange retention and confidence engendered by fiscal policy takes us to the topic of exchange controls,” he said. “Some rebranding is necessary to make this more of a conversation about capital controls and capital flow management. This is essentially where our policies are more binding, but where scope for very gradual targeted easing is possible over the medium-term.

“The limit, though, is to understand that liberalisation cannot happen out of a sequence of first having in place lasting policy and accountability frameworks that bolster investor confidence. Where these frameworks are missing or nascent, liberalisation must impose a distinction between how we deal with direct investments versus very liquid, and highly sensitive, portfolio flows.

“If the end goal is to have fully liberalised capital flows, then we must accept that it would come with a floating Bahamian dollar. If we float, we should want to avoid the exchange rate volatility that arises when investors become jittery,” added Mr Rolle.

“If we dollarise to eliminate currency volatility concerns, then fiscal and private sector savings will remain important to provide the buffers needed to make our economy resilient. Dollarisation will not provide a short-cut out of reforms that are needed - in terms of utilising less direct means of influencing credit and investment behaviour to safeguard financial stability; having more comprehensive real time data on economic activity, including fiscal indicators; having a larger stock of foreign reserves to cushion against shocks, and the like.

“Dollarisation would still be premised on a target value for the exchange rate at the time of the domestic currency’s abandonment. This again raises the question of whether such an outcome could be achieved absent an effective capital flow management regime. There is much more than can be said on this topic, and on other dimensions of the Central Bank’s role, beyond the protection of the currency.”