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From sub-prime to sublime disaster:

Implications for the Caribbean Region of the Current Financial Crisis in the USA
Presentation made by Dr Maurice Odle, Economic Adviser to the Secretary-General of CARICOM at a Staff Seminar on Thursday, 18 September 2008, at Turkeyen, East Coast Demerara.

Part II

Tourist Arrivals

The energy crisis and related high oil prices continue to cause serious air-lift problems for the Caribbean tourism sector as a result of a collapse of certain airlines, elimination of certain destinations, reduction in the frequency of flights and increases in airfares. In addition, there is the adverse effect of a reduction in the baggage allowance. The situation is now further aggravated by the financial crisis with fewer persons being able to afford holidays abroad. This coming winter season is therefore expected to be a rather bleak one for the hotel and entertainment industries.

A double whammy is that the increasing trouble for the tourism industry will come on top of the adverse impact of the spate of natural disasters that some Caribbean countries have been experiencing this hurricane season. Those who contribute the least to global warming are the ones most adversely affected and the time has come for the setting up of a World Bank Grant Disbursing Facility for disaster relief purposes.

Other Export Earnings

The intensification of the crisis adversely affects USA demand for Caribbean manufactured goods whether these enjoy preferential market access (CBI/CBTPA) or not. The Caribbean dollar tends to be tied to the USA dollar and so when the latter fell in the early stages of the crisis Euro and Pound earnings from commodity (and tourism) sales to Europe partially compensated; however, now that there is tending to be a currency realignment, this is no longer the case. In any event, if the deepening of the crisis is prolonged, European demand for our traditional exports (bananas, sugar, rice, etc) will fall, as well as demand by China, Russia, etc for bauxite resources. Two other commodities worth mentioning are petroleum and gas, and gold; Trinidad and Tobago’s earnings have fallen from the dizzling heights reached during the energy crisis, whereas, Guyana and Suriname would have benefited from a rise in the price of gold, a commodity to which speculators gravitate in times of financial crisis.

One other export adversely affected is that of capital. For decades, there has been an unspoken low intensity flight of capital (‘reverse remittances’) to mainly the USA, Canada and Britain by businessmen and individuals wishing to hedge their bets against socio-economic and political instability in the Caribbean. Such holdings of stocks, bonds and real estate would have experienced a drop in earnings during the crisis, although these assets are typically held for the long haul and should eventually recover in value. Whether the capital flight slows down is left to be seen.

Foreign Direct investment

The year 2008 is expected to show a decline in foreign direct investment (FDI) as occurred after the 9/11 event in 2001, particularly since the USA accounts for a large share of FDI in the Caribbean. Because of the credit crunch (and fall in the level of economic activity) investors would not have the level of capital or business confidence that would be required to engage in large projects of a natural resource or hotel construction and infrastructure nature. One exception would be exploration and drilling activity in the area of petroleum and natural gas. Accordingly, FDI in the Caribbean in 2008 is likely to be less than the 2007 estimate of US$4.5 billion or the actual 2006 figure of US$3.8 billion.

Although FDI per capita has been relatively high in the Caribbean, there is now need for a redoubling of investment promotion efforts and greater geographical diversification of the sources of investment inflows. In addition, intra-Caribbean investment should be more vigorously encouraged.

Growth Rate

Because of the abovementioned factors, economic growth in the Caribbean is likely to be significantly lower than what it was in 2007. For the year 2007, the Caribbean Development Bank (CDB) had reported that economic growth slowed in nine (9) territories and accelerated in only four (4). For the Caribbean as a whole, therefore, economic growth fell from 6.9% in 2006 to 3.9% in 2007 as a result of rising oil and commodity prices, slower growth by major trading partners, depreciation of the USA dollar and the high cost of intra-regional travel. When we factor in the worsening global financial and economic woes, the growth rate in 2008 will likely show a 1-2% fall.

Conclusion

The current crisis is not the only one that has occurred in the USA in recent memory. In 1989-91 there was the Savings and Loans Crisis and in 1998 there occurred the Long Term Capital Management Crisis which involved hedge funds, another exotic derivative type product. But the current crisis is the first since the 1929-33 Depression to involve simultaneously many countries in the developed world, a product of both globalization and post Bretton Woods regulatory laisser faire.

But it is in the emerging market economies of the semi-developed world that financial crises have been most frequent, yet almost invariably localized. Crises occurred in Mexico in 1982, in Chile in 1985, in Turkey in 1994 (and again in 2000), in Mexico again in 1995, in S.E Asia (starting with Thailand and spreading across the sub-region) in 1997-98, in Russia in 1998 and in Argentina in 2001-2. Almost without exception, a factor contributing to the crisis was the herd like withdrawal by rich country investors of short-term capital (portfolio investment) from these emerging market economies at the first sign of economic instability. These crises have prompted calls for a New International Financial Architecture but the emphasis by the IMF has been on trying to introduce rules to restrict the economic policy space of decision makers in the emerging market and developing economies (eg. prevention of exchange control on capital account and mandating “tax havens” to have transparency and effective exchange of information) rather than to curb the footloose nature of foreign capital. The systemic weakness of today’s financial system, with its boom and bust propensities, is therefore at two levels – within domestic jurisdictions and cross-border.

In the current circumstances, all that the Caribbean can do is to act prudently and defensively, utilize whatever counter cyclical measures are available, explore further avenues for product and market diversification to mitigate external shocks, and deepen the regional integration process so as to both maximize strengths/minimize weaknesses and reduce our excessive exposure to the outside world.

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