Friday, September 10, 2010

Reviving consumer demand

Last week I indicated that consumer demand is essential for growth in any economy; and this is whatever market system is in place. In 2008 I had indicated that stagflation was the greatest risk that the economy faced, and still faces. Stagflation results from falling / stagnant prices in the face of rising costs. The risk of stagflation results from depressed consumer demand, which is caused primarily by reduced employment or real income levels.

With estimates of job losses in Jamaica since 2007 up to 80,000, and real income levels falling - through job losses, wage freezes, and fewer working hours - this fear is becoming an increasing reality. Although there have been long-standing cries from the MSME sector, the reality of an increasing stagflationary environment is showing up in the published corporate results. We are seeing where consumer companies such as Salada, Red Stripe, and Caribbean Cement are seeing falling / stagnant revenues while experiencing rising costs of sales and administrative expenses. Even in the Lasco Distributors Prospectus we see where the gross profit margin declined from 20% in 2009 to 14% in 2010.

These performances no doubt result from declining aggregate demand caused by an uncertain jobs market. It is therefore going to be very important, if we are to turn around our economic performance, that new jobs are created. We see that even the US has recognized how important jobs are, and President Obama has gone on an all-out war against unemployment.

Inadequate stimulus
The US is reported to have made the mistake of not providing enough stimulus funds initially, so as to create the multiplier effect necessary to halt the economic slide. In our case, one of our failings was the inability of the funds provided by the government for small businesses to have been quickly disbursed to the productive sector.

I had indicated at the time that those funds should have been disbursed directly by institutions such as the DBJ. While recognizing the risk associated with such an arrangement, I had indicated that the risk to the economy of not doing so would have been much greater as more MSMEs would have started to close their doors. The recently held mock funeral, by the MSME sector, is evidence of this.

But what can we do not to halt this slide in corporate performance? And it must be halted because many small companies are either at the end or are nearing the end of their investment cycle. This simply means that they may be making the decision not to continue in business so as not to face further losses. One example of this type of decision is the recent closure of the Amart chain, and before that we saw places like Sammy's shoe store downsizing their operation.

Some persons have said that because of the 12 consecutive quarters of decline the economy is in depression and not recession. A depression is defined as "a severe and prolonged recession characterized by inefficient economic productivity, high unemployment and falling price levels". We are experiencing inefficient economic productivity and high unemployment ,but falling prices are yet to come. Falling prices will not come in a uniform manner but will start with prolonged retail sale events, or can be evidenced by falling corporate revenues. While there is some evidence of both happening, I don't think that it is sufficient to say that prices are generally falling. The important thing to understand is that we are close to that, and thus the technical definition of a depression.

This is why I have said that while the government's focus on fiscal management was essential, continues to be , and was effectively executed, there must now be a shift in focus to stimulating consumer demand, through not only increased employment but also increased income levels.

Changing options
The option we had up to last year of direct lending to the MSME sector is still necessary but is no longer sufficient. The decline in consumer demand means that even if funds are available at near zero percent, businesses will be reluctant to borrow, as the probability of making a profit will have declined. What you will find is that people will borrow to secure either current standards of living or refinance more expensive debt. This may be a significant factor in the decline in commercial banking loans and increase in building society loans.
The focus therefore needs to be on stimulating consumer demand. This stimulation can only result from increased jobs and income levels, and so this must be the primary focus going forward. The question may be asked, how one can revive consumer demand in a declining economy and a global environment that is fearful of a double-dip recession? While it has become much more difficult than it was a year ago when consumer psychology was not as negatively affected, it is still possible. What it requires, however, proper analysis and swift implementation. And by swift I don't mean at the rate our public sector wheels turn. In fact in 2008, when the government indicated that it would provide a stimulus to the economy, I indicated to Bev Manley that it would be ineffective because of the slow pace of our public sector bureaucracy.
Within the context of our economy, there are two primary avenues where consumer demand can be successfully stimulated. The first is through import substitution in areas such as agriculture, tourism inputs, and energy. The second is through fiscal incentives, such as reduced taxes and the reduced size of the bureaucracy and more market-supported regulations.
In the case of import substitution this needs to be done through (1) the proper organization of the agriculture landscape - standards of production, properly organized division of labour, agro-processing, and land reform; (2) more organized linkages between the tourism, agriculture, and craft sectors; and (3) focus on creating greater renewable energy sources, which would have the effect of creating jobs, lower energy costs, and the side effect of reducing the monopolistic hold of the JPS. In all these cases, the effect is replacing import costs with a more vibrant local economy.

Fiscal incentives will also create a facilitatory environment for businesses to flourish. This includes tax incentives aimed at encouraging local and export production, reduced bureaucracy, infrastructural development, public sector transformation, and a market encouraging regulatory environment.
The government must continue its focus on prudent fiscal management, including the divestment programmes, and its encouragement of improving the export sector. This is the right policy direction but also needs to add a more significant emphasis on consumer demand stimulation.

It is going to be essential for the government to take the lead in doing this, as with the economic crunch that the private sector has been facing a lot of capacity has left, and I get the sense that businesses are more concerned with remaining in business, which means preservation of cash. Again I will make the observation that this initiative will not be effective within the confines of the current public sector infrastructure


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