As expected, Mauritian policy makers have announced a stimulus package in Keynesian like fashion that is full of promise but will it really deliver? On paper at least, the plan, while far from being a great one, could, if implemented in a timely manner, allow the economy to sustain GDP growth in the high 3 to the mid 4% range in 2009. However, in Mauritius, things that tend to look okay on paper do not always do a world of good in practice.
The whole structure of the Monetary Policy Committee (MPC) also looked good on paper back in 2007 but in practice, its performance has been dismal and its credibility has all but vanished as the Finance Ministry has taken over. In 2008, we found out that the MPC was made up of many unqualified accountants (not economists) and other political nominees that have been able to deliver negative real interest rates to help stimulate an oversold growth miracle and core inflation rates that are above the average of other emerging markets.
The few good members have effectively been sidelined via behind the scenes pressure tactics and their future at the Bank of Mauritius (BoM) remains questionable. In fact just recently, we found out how credibility at the central bank has all but disappeared. While the inflation outlook of the first inflation report talked about how “Inflation continues to be a major macroeconomic challenge for policymakers” with “the assessment of the inflation outlook” entailing “greater ambiguity than has been the case so far and remains highly uncertain,” the monetary policy statement, released just two weeks later, was much less concerned about inflation and downplayed it.
In fact when inflation increases in Mauritius, policy makers talk about headline inflation, which is essentially a 12 month moving average inflation rate, as the official inflation rate. When inflation falls, they switch to year on year inflation because the latter falls faster than the former. Policy makers should not take the financial market for granted but stick to one inflation rate.
The truth about the ever evolving inflation outlook is subject to an uncertain Rupee outlook and below trend growth that could put further downward pressure on core inflation. If all goes well, headline inflation should edge towards 5.5% by late 2009 and hover around the 5% level throughout 2010. Year on year inflation in turn should slow down dramatically and should remain below 5.5% throughout 2009. When the world economy eventually recovers, commodity prices are more likely than not to skyrocket as net short positions turn to net long positions, but that is not for another year in the best case.
Policy makers should certainly not have been cutting the key Repo rate like they have. The cash reserve ratio is another story. Policy makers can afford to be substantially more dynamic on this front, increasing it when excess cash holdings negatively impact the monetary policy transmission mechanism and relaxing it when the money market tightens. Monetary policy should have remained independent. Coordination with the fiscal side should have been a function of a less “ambiguous” inflation outlook, not one that is made to sound good in order to suit the policy of the day.
How would an independent MPC have managed the Repo rate since 2007 then? The Repo rate should have remained at 9.25% throughout 2007 and 2008. The BoM should have set an inflation target sooner and stuck to it. This would have lowered inflationary expectations and would have permitted for substantial cuts in December 2008 and in the first quarter of 2009. Of course Mauritian policy makers face pressure from politicians and powerful lobby groups and MPC members themselves are politically nominated. Hence what needs to be done is not always done.
My views on the recently announced stimulus package can be summed up as follows. The magnitude of the stimulus is appropriate and is a function of the fiscal space that has been created by the pro growth reforms initiated by the Finance Minister, Rama Sithanen, and a bit of inflation too of course. Remember, there are two ways to increase budget revenues: you get either organic growth or inflation. This is one of the main reasons why central banks are supposed to be independent, so that politicians do not abuse monetary policy.
Mauritian politicians from all political parties have relied on this inflation drug for far too long and considering the lack of independence of the BoM, are likely to continue to do so for decades to come. This is why the 14 year average inflation rate for Mauritius remains above 6%. With interest rate expectations a function of political necessities and lobby pressure tactics, you can kiss the creation of a derivatives market goodbye. In fact even in the bond market, the secondary market only sees limited trading. Who would sell you a Treasury note at a reasonable price when elections are near anyway?
Politicians and lobbies stand in the way of the development of the financial market. The development of more sophisticated risk management instruments remains hampered but since those that benefit the most from this sad state of affairs also have influence in formulating public perception via certain media outlets, nothing much is done about it. Let us not forget that in 2008, some media outlets showcased interviews by so called experts that have tried to convince the readers that the tiny upper middle income economy can depreciate its way towards greater competitiveness. With such gems, is it any wonder why the education level of the people remains low when it comes to economics?
...to be continued
By Sameer Sharma
Sameer Sharma is a Canada-based financial analyst.
First Published in Conjoncture, a Bilingual Journal of PluriConseil