The need to deal with the fiscal deficit has forced the Government of St. Lucia to consider the unpalatable dose of a five percent pay cut for public servants. The economists are still not sure that such moves by the largest employer in small island economies actually do work. I also have my doubts. I read with interest, an article in BBC News Magazine which reported that a famous academic paper often used to make a case for austerity cuts contained major errors.
In January 2010 Professor Carmen Reinhart and former chief economist at the IMF, Ken Rogoff presented a research paper entitled – Growth in a Time of Debt. The paper provided academic support to their conclusion that when the size of a country’s debt rises above 90% then economic growth slows dramatically.
The article then introduces Thomas Herndon, a young graduate student at the University of Massachusetts, who took as his assignment, to do research on the Growth in Time of Debt academic paper. Some policy makers had used the academic paper as support for austerity measures. Governments are face with two schools of thought – Do we let the debt increase and hope that we can stimulate the economy or do we increase taxes and cut spending to get the public debt under control?
Thomas Herndon, this young graduate student soon realized that there was a gross error in the academic paper presented by the two famous economists. In local language – it was a ratch. They had presented that their conclusion was based on data from 20 countries, however Herndon found that they had excluded data from Australia, Austria, Belgium, Canada and Denmark. He also found that they had blown out of proportion the data for New Zealand.
When the data from these countries are included in the analysis, the conclusions are vastly different. High levels of debt are correlated somewhat to lower growth, but the relationship is much gentler and not dramatic as stated and there are lots of exceptions to the rule. We need not go far to see this in the OECS, as St. Kitts for years have carried high rates of Debt to GDP ratios and have still shown economic growth.
For the want of not being repetitive, debt to GDP ratio is largely a solvency measure and therefore shows the long run abilityof the country to sustain a given level of debt. The Debt to GDP ratio does not focus on thecomposition of the debt nor its maturity structure. So let us not get too hooked up on quoting Debt to GDP ratio, let us look at our composition of debt and how that debt has to be repaid. It is a cash flow situation.
Now to the alternative proposal to the pay cut of 5%. If there is a cash flow problem and the Government has assets, then these assets can be converted to solve your cash problem. The proposal is to create a special purpose company to which state land is transferred. This company will then issue shares to all civil servants to the value of $ 18.0 million in proportion to the 5 % cut. Shares will be issued per month. This SPC will be managed by a board of Directors appointed by the various Unions representing workers, with the Government and the Opposition agreeing on a Chairman. This new Company will be given a loan of $ 4.0 million to start construction activities on a land development project. Once the development is completed, then any public servant can sell their shares towards the purchase of the lot, or sell the shares to the SPC.
The net result will be the stimulating of the construction sector, the continued future economic activity when houses are built, and the increase in the housing stock on the island. The economy benefits, the public servant benefits and there are no losers. The profit from the sales is flipped and a next project started.
Our strength in the Caribbean is our unique creativity; we have to begin to think differently. It took creativity to take an oil drum and turn it into a fascinating musical instrument. Derek Walcott and Sir Arthur Lewis are creative thinkers who produced new expressions of language and economic thought. The Debt Crisis has provided the greatest opportunity for the Caribbean people to display their God –given creativity. I intend to do my part.