Oil and food price threats

Last week I spoke to economic challenges in 2011 and businesses in particular. There are two primary reasons for this, one of which is the threat of oil and food prices increasing in 2011 beyond the reach of income levels of consumers and businesses. As a matter of fact, oil prices at US$100 to US$110/bbl today is more of a threat to the global and local economy than when oil prices reached US$147/bbl in 2008. The reason is because relative prices today would be greater than 2008.

The fact is that since 2008, economies and income levels in real terms have seen significant declines, and unemployment has increased. Despite growth seen in the global environment there has not been commensurate growth in employment. Spending has therefore not returned to 2007 levels. In Jamaica, for example, we have seen significant job losses and in the last quarter of 2010 job losses amounted to 21,000.

Added to the slow global economic recovery, the following factors will also negatively affect global growth:

1. Oil and food price hikes will have a negative impact on consumer spending and business costs. Although I anticipated increases in these two areas, I never expected it to occur so quickly. It was always expected that there would have been social unrest caused by declining costs of living, but the turmoil seen in the Middle East has come earlier and with a greater force than expected.

2. The expected pull-back in economic stimulus in the US will result in a slowdown in consumer spending.

3. The inflationary pressures globally will no doubt lead to increased interest rates, which will pull liquidity from the system and put the brakes on consumer spending and growth. In fact we have seen interest rate increases in China, which has been leading global growth.

4. There is still a lot of debt in the system that will have to be pared back with expenditure cuts.

So although growth is expected I believe food and oil prices will cause a slow-down.

The charts show oil and food price movements over the past year. In both cases we see significant increases, and if coupled with the fact that there has been a real decline in consumer disposable incomes then one can see the dilemma economies face. The oil chart shows that volumes are greater when prices are going up than when coming down, implying there are more buyers than sellers.

In Jamaica, we see the challenges of (i) job losses since 2007; (ii) business profits declining; (iii) high cost of energy and crime; (iv) relative inefficient agricultural production costs; (v) fiscal deficit; and (vi) very high dependency on imported oil.

These challenges are compounded by the fact that food and oil account for 46 percent of imports, and this is before the impact of the rising costs. This simple analysis shows the significant impact to be felt in Jamaica from oil and food price increases.

It is therefore evident that the greatest possible return is from a focus on dealing with the impact of food and oil on the economy. The impact of high energy costs on businesses in Jamaica, for example, makes our produce uncompetitive, whether it is from manufacturing or the tourism product. And tourism gets a double hit here, as food is also a significant cost component. This is important when we remember that tourism is our number one productive foreign exchange earner. So even though the number of tourist arrivals has increased (thanks in part to the efforts of the Tourism Ministry), the fact is that this has been achieved with (i) significantly discounted room prices; and (ii) increased costs, resulting in a lower retention of earnings in the country. One could therefore say the tourism industry has been facing its own stagflation.

So how do we deal with these global price increases? Clearly they will affect local demand as it means real disposable incomes will decline even further, if left unchecked. One can already see that reported business profits have declined, and anyone monitoring the real estate market can also see that prices have been getting lower.

The fact is that the most effective way of dealing with this situation is to focus on the domestic economy. This is not to say that there will not be opportunities for exports, but that the greater return on investment will come from focusing on the domestic economy infrastructure. As a start we if we focus on reducing our imports of oil and food, this will not only help our foreign exchange situation but will also create jobs and income income in the process. The problem is that it is important to find short-term solutions, which is possible, but necessitates the support of the bureaucracy.

One of the things I would like to add is how important it is for businesses at this time to engage the assistance of professionals; and among them importantly is a chartered accountant. And I use the term chartered accountant very carefully, because one of the things we recognised at the ICAJ is the need to ensure that our members are current with their knowledge and that the highest ethical standards are maintained amongst our membership, as in these difficult times employers need this assurance.

One of the initiatives we have therefore taken is to provide for employers a list of all ICAJ members on the website (www.icaj.org), which tells whether they are compliant with continuing professional development or not. This is not to be glossed over, as it is going to be very important for businesses to have good analysis in charting the economic climate.