The Tribune

By NEIL HARTNELL

Tribune Business Editor

nhartnell@tribunemedia.net

“Greater efforts” will be needed from the Central Bank of the Bahamas to contain and monitor the inflationary impact from Value-Added Tax (VAT) and other structural economic changes, a multilateral lender has warned.

The Inter-American Development Bank (IDB), in its latest quarterly bulletin, said low inflation was vital to maintaining Bahamian economic stability - particularly the one:one exchange rate peg to the US dollar.

While this objective had been achieved in each of the five years since the 2008-2009 recession, the IDB said the Central Bank will have to “focus more” on containing inflation due to VAT’s implementation.

It added that the initial inflationary impact from the Government’s key tax reform could be “as high as 3 per cent” above historical levels, although this was likely to moderate from the second year onwards as the economy adjusted.

“Low inflation is important for the Bahamas because it allows the country to keep the fixed peg with the US dollar, while avoiding a real appreciation that would hurt competitiveness,” the IDB said.

“Inflation has indeed been relatively low in comparison with other regional counterparts. However, the Bahamas is experiencing several structural economic changes, particularly the implementation of VAT and the restructuring of the [Bahamas Electricity Corporation] that are likely to have inflationary impacts on the economy.

“As a result, greater efforts from the Central Bank to contain excessive price pressures are expected, while simultaneously managing the effects of the VAT implementation.”

Suggesting that the Central Bank will have to work on containing short-term inflation resulting from VAT, the IDB paper added: “On the basis of results from an econometric model conducted under the technical corporation with the Government of the Bahamas, it is likely that the initial effect on inflation stemming from the implementation of the VAT could surge as high as 3 percent above historical values.

“Inflation should taper to below historical levels from the second year of implementation onward.”

Both the Government and private sector observers have forecast that the 7.5 per cent VAT’s initial inflationary impact will be between 3-5 per cent, with the impact subsiding in subsequent years as businesses and consumers adjust.

However, Kendrick Christie, the immediate past president of the Association of Certified Fraud Examiners (ACFE) Bahamas Chapter, warned via Tribune Business on Monday that the tax’s inflationary impact might be greater than initially predicted.

This, he explained, was because many Bahamian retailers and merchants had increased their own prices (margins/mark-ups) to coincide with VAT’s introduction, exacerbating the 7.5 per cent levy’s impact.

“We see a lot of businesses trying to factor in price increases with the VAT. Even though the VAT as a cost of doing business is passed through to the consumer, they’re trying to put increases in,” Mr Christie said.

He added that this was something that “needs to be watched closely” and, while he had predicted that VAT by itself would have an initial 5 per cent inflationary impact, when combined with merchant price increases this was likely to be “greater”.

But, on the positive side, the IDB acknowledged that the Bahamas “has among the lowest inflation rates in the region, and it is projected to remain this way during the next few years”.

Its quarterly bulletin said Bahamian inflation closely followed its US counterpart, due to the exchange rate peg and this nation’s dependence on its northern neighbour for the majority of its commodity/goods imports.

“However, the pass-through of commodity price changes is higher than in the United States,” the IDB said.

“During the recession, consumer price inflation fell swiftly and reached a low annual inflation rate of 1.34 per cent in 2010, picked up in 2011 and reached 3.2 per cent by December 2011, then fell again to 0.4 per cent by the end of 2013.

“Yearly inflation as of May 2014 stood at 0.7 per cent, as gains softened for housing, water, gas, electricity, water, and other fuels (heaviest weighted component) and for the clothing and footwear component.”

The Central Bank’s monetary policy instruments, including interest rates, reserve requirements and capital controls, had joined with relatively low inflation to “underpin” the Bahamas’ one:one peg for the past five years.

But, with the Bahamas importing more than 90 per cent of what it consumes, the IDB reiterated that this nation was vulnerable to international food and oil price volatility.

It added that the long-promised BEC restructuring, and wider energy reform, would “relieve some inflationary pressure” in the Bahamas if the Government can finally deliver and implement.

“Energy costs in the Bahamas are one of the highest in the region, with average tariffs increasing by 44 per cent to $0.40 kilowatt hours for residential customers, and by 76 per cent to $0.44 for non-residential customers between 2009 and 2012,” the IDB said.

“Electricity in the country is governed by the Electricity Act of 1956, which established its institutional framework, responsibilities, and its rights. Legislation, equipment, and technology around energy are outdated.”