Developing Sustainable Balance of Payments in Small Countries (eBook)

Andre Haughton is Lecturer at the University of the West Indies, Mona in Jamaica. He earned his PhD from the University of Essex in the UK. He is a KPMG Peat Marwick Scholar, a Thomas De La Rue Scholar, and a British Commonwealth Scholar. He is a member of the Private Sector of Jamaica’s Economic Policy Committee and the Inter-American Development Bank’s Civil Society Consulting Group.

Developing Sustainable Balance of Payments in Small Countries 3
Foreword 6
Preface 8
Acknowledgments 15
About This Book 17
Contents 18
List of Abbreviations 20
List of Figures 22
List of Tables 25
1 Foreign Currency Flows and the Jamaican Economy 26
1.1 Prelude: What is the ‘Deadlock’ Issue? 26
1.2 Jamaica Foreign Currency Liquidity Management 1962–Present 27
1.2.1 How has Jamaica Managed its Foreign Currency Liquidity? 28
1.2.2 How Did Jamaica Find Itself in This Position? 30
1.3 Background: The Jamaican Exchange Rate Conundrum 32
1.3.1 The Crawling Peg and Dual Exchange Rate System 32
1.3.2 The Auction and Allocation Exchange Rate System 35
1.3.3 Free-Floating Exchange Rate 35
Notes 36
2 Foreign Currency Borrowing and Foreign Debt Sustainability 38
2.1 Foreign Currency Borrowing 38
2.1.1 The PetroCaribe Arrangement 44
2.1.2 Debt Exchange and the Extended Fund Facility (EFF) 47
2.2 Jamaica’s External Debt Sustainability Analysis (DSA) 51
2.2.1 Data and Methodology 51
2.3 Results: External Debt Sustainability 52
2.3.1 Impulse Response Functions 52
2.3.2 Variance Decomposition 53
2.3.3 Existing Policy Analysis 55
2.4 Conclusion 56
Appendix 57
Notes 61
3 Determinants of Current Account Imbalances 62
3.1 The Current Account Balance 62
3.1.1 Literature on Current Account Sustainability 68
3.2 Bounds Test for Cointegration 70
3.2.1 Model Specification 71
3.3 Bounds Test Results 72
3.3.1 Political Stability 72
3.3.2 Total External Debt 73
3.3.3 Openness and Trade 74
3.3.4 Real Effective Exchange Rate (REER) 74
3.3.5 Investment 75
3.3.6 Economic Growth 75
3.3.7 Foreign Exchange Reserves 75
3.3.8 Corruption Control 76
3.4 Conclusion 77
Note 78
4 Current Account Subgroups and Real Exchange Rate Dynamics 79
4.1 Introduction 79
4.2 Analysis of the Current Account Components 84
4.2.1 Current Transfers 84
4.2.2 The Services Balance 85
4.2.3 The Income Balance 86
4.2.4 The Goods Balance 86
4.3 Analysis of Jamaica’s Imports 87
4.3.1 Correlation Analysis of Imports 88
4.4 Analysis of Traditional Exports 89
4.5 Jamaica’s Economic Position: Import and Export Strategy 91
4.6 Conclusion 94
Notes 97
5 Currency Depreciation and Economic Growth 98
5.1 Background and Literature 98
5.2 Data and Methodology 103
5.2.1 Assumptions 103
5.3 Results 104
5.4 Conclusion 109
6 Balance of Payments and Capital Account Sustainability 111
6.1 Introduction 111
6.2 Balance of Payment Sustainability: Optimal Capital Account 114
6.3 Results from the Dynamic Optimal Capital Account Model 117
6.4 Capital Account Drivers 118
6.5 Results of the Capital Account Drivers 120
6.5.1 Capital Account Vector Autoregressive (VAR) Analysis 121
6.5.2 Results 122
6.6 Conclusion 124
Notes 124
7 Net International Reserve Adequacy and the Optimal Reserves 125
7.1 Background 125
7.2 Literature on NIR Adequacy and Optimality 128
7.3 Reserve Demand 132
7.3.1 Model Specification 132
7.3.2 Unit Root Test 132
7.4 Preliminary Results 133
7.4.1 Assumptions 135
7.4.1.1 The Consumer 135
7.4.1.2 The Government 136
7.4.2 Optimal Reserve Formula 138
7.4.3 Guidotti–Greenspan Rule of Thumb 140
7.5 Adequacy of Reserves 141
7.5.1 The Model 141
7.5.2 Opportunity Cost of Holding Reserves 143
7.5.3 Reserve Imbalances 144
7.5.3.1 Probability of Balance-of-Payment Surplus/Deficit 144
7.6 Data and Analysis 146
7.7 Results 146
7.7.1 Rate 149
7.7.2 Sensitivity Analysis 149
7.8 Conclusion 153
Notes 155
8 Foreign Direct Investment, Savings, Investment and GDP Growth 156
8.1 Introduction: FDI and Real GDP 156
8.1.1 Saving,Investment and GDP 160
8.2 Empirical Analysis 162
8.3 Results of FDI Flows on GDP Growth 163
8.4 Conclusion 165
Notes 167
9 Commercial Banks and the Monetary Transmission Mechanism 168
9.1 Introduction 168
9.2 Interest Rate Pass-through 172
9.3 Literature Review 176
9.4 Data and Methodology 181
9.5 Results 182
9.6 Conclusion 184
Appendix 185
Unit root Tests 185
Notes 189
10 Concluding Remarks and Policy Recommendation 190
Note 198
References 199
Index 205