Pyromaniac firefighter

Par Eric Ng Ping Cheun O commentaire

As an international organisation funded by its state members, the International Monetary Fund (IMF) is always indulgent towards, well, governments. Appointing itself central planner for the world, it happens to be the fire chief of economic crises, providing loans to countries subjected to financial hardships. Its complacency prevents it from foreseeing flare-ups, and once they occur, IMF firefighters tend to put out fires with gasoil.

Prior to the Asian crisis of 1997, the IMF had praised the conditions in Thailand, Indonesia and South Korea, downplaying the problem of global capital flows combined with high domestic savings. Under the IMF’s thumb, Russia was compelled in 1998 to create a new 5% sales tax and a 3% surcharge on tariffs, which provoked a massive capital exodus that pushed the country into default. One year before the 2008 banking crisis in Iceland, three IMF economists noted that “foreign currency borrowing has been growing strongly… and this could potentially become an important indirect credit risk for banks”, but the true risks involved in currency mismatching were actually more direct than they thought.

Fortunately not all IMF policy options are taken on board, and better still governments sometimes implement bold measures that are home-grown. In 1999, Malaysia suspended income tax altogether. In 2001, Russia adopted a 13% flat tax on individual income, down from 30%. In the same vein, Mauritius introduced ten years ago a 15% flat tax on both personal and corporate income despite calls from the IMF, in the context of the 2007 Article IV consultation, for “more decisive fiscal consolidation”. Those tax policy actions lifted the three countries out of crises.

Rarely have we seen here government and opposition parties alike, including the far-left Rezistans ek Alternativ, comment favourably on an IMF statement, namely that made in regard to the 2017 Article IV consultation with Mauritius. Yet, no sensible economist can be in total agreement with the views of the IMF mission led by Amadou Sy. They contain many inconsistencies, contradictions and confusions.

Mr Sy states that “the Mauritian economy continues to be robust”, which implies that economic growth has remained strong for the past years. Its annual rate has stayed below 4.0% since 2011. In March 2016 though, the IMF concluded the Article IV consultation by saying that “Mauritius has continued to grow at a moderate rate”. Between moderate and robust, there is a significant difference in substance. And if the Mauritian economy were really robust, how would the IMF qualify its own staff estimates, over the period 2011-2017, of the growth rates of Côte d’Ivoire (6.9% to 10.1%), of Ethiopia (7.5% to 11.4%), of Tanzania (5.1% to 7.9%) and of Togo (4.8% to 6.1%)?

The IMF must know that Statistics Mauritius calculates the headline inflation rate by using the annual average method."

The choice of words is not unimportant. Mr Sy is satisfied that “total public debt remained constant at 65% of GDP”. It may be constant from June 2016 to June 2017, but this is not an achievement when compared to 61.6% of GDP in December 2014. Likewise, nothing has been achieved to warrant his “optimism that the country will successfully manage the reform process”. What reforms? The high level committee set up to look into the pension issue is stalled while sugar planters are still waiting for labour market reforms in their sector.

The IMF mission points out that “real GDP growth in 2017 is projected at 3.9%”. To be precise, it refers to gross domestic product at market prices, the terminology used for international comparison of economic growth rates. In Mauritius, however, the related indicator is gross value added (GVA) at basic prices, and the official growth rate for this year is estimated at 3.7%.

Another blurring of distinction is between headline inflation and year-on-year inflation. The IMF mission is alarmed to see that “headline inflation outcomes in the first half of the year surprised on the upside, and more than doubled to 5.3% year-on-year in July”. While that is true, the IMF must know that Statistics Mauritius calculates the headline inflation rate by using the annual average method. The year-on-year inflation rate is instead defined as the percentage change in the consumer price index for a given month with respect to that for the corresponding month of the previous year. The former is used for adjusting wages and pensions to compensate for loss of purchasing power, whereas the latter is monitored by central banks for monetary policy decisions.

Thus, Mr Sy recommends “tightening monetary policy”. The problem is that the Bank of Mauritius staff considers rather headline inflation, which stood at 2.7% in July. It is unlikely that the monetary policy committee will raise the key repo rate at its meeting next week. The inflation surge largely reflects budgetary measures. A more useful guide for the conduct of monetary policy is the year-on-year core 2 inflation which is a proxy measure of demand-pull inflation as it excludes volatile price components such as food, beverages, tobacco, mortgage interest, energy prices and administered prices. It fell from 3.0% in May 2017 to 2.2% in July.

The IMF position on interest rate does not square with its suggestion for “more flexibility of the exchange rate”. This is an understatement that the Central Bank must devalue the local currency, even if Mr Sy has not expressed any concern about a supposed overvaluation of the rupee. But prices would go through the roof without narrowing the current account deficit, and this would further reduce our cost competitiveness. An abrupt monetary tightening together with a sharp rupee depreciation would amount to the policy of a pyromaniac fireman.

Ironically, the IMF’s original mission, established in 1944, was to promote fixed exchange rates, a mission that should have ended in 1971 when exchange rates were floated. Since there is now no need to coordinate cross-border monetary policies, the IMF is suffering a loss of relevance. Governments should not give it an excuse to intrude in their affairs whenever they do fire fighting.