It’s a fact: capital inflows are slowing down

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One of the key ideas emanating from the American revolution was that in framing the government which is to be administered by men over men, the likes of Madison argued that “the great difficulty lies in this: you must first enable the government to control the governed; and in the next place oblige it to control itself.”

It was thought democracy could only effectively function within a system of checks and balances that would limit the space for policy miscalculation. In the modern era, a successful democracy is incarnated by one having a decentralized government, by one having a strong and independent free press, an efficient justice system, and independent institutions such as an independent central bank, an independent budget office, police force, etc., just to name a few.

In the case of Mauritius, power has over the years grown even more concentrated in the hands of a few or in the hands of The Leader who, surrounded by opportunistic advisers, yes-men and political appointees, runs the show more like an absolute monarch than a wise man. What happens when we get a leader who is not so wise but who, surrounded by an opportunistic lot of yes-men wields immense power over the state and its fate? The recent tendency of governments across the political spectrum to hand out pre-electoral populist goodies remains a dangerous and unpatriotic gesture that is more driven by self-interest than by virtuous motives.

Today, the present value of unfunded liabilities of the government (Basic Retirement Pension, civil service pension, etc.) stand at close to 100% of Gross domestic product (GDP) (source: Bloomberg:World Bank Data) which, when added to both public debt to GDP and domestic private sector debt to GDP at around 100% (see the 2017 World Bank Mauritius domestic private debt to GDP data), all add up to obligations that surpass more than 260% of GDP in present value of future cash flow outlay terms. It is plain irresponsible and dangerous to believe that a low tax jurisdiction that does little targeting can sustain such liabilities in the coming decade and even add to it without dire consequences to the economy.

One of the key challenges that policy makers have faced over the past decade has been the fact that high capital inflows emanating from a booming offshore sector, higher tourism receipts and revenues from the gradual opening up of the real estate sector to foreigners has kept the trade weighted real effective exchange rate of the Rupee much higher than it should have been given the high current account deficit.

According to the author, power has over the years remained concentrated in the hands of a few or in the hands of The Leader who rules more like an absolute monarch..

With net exports estimated at negative 12.5% of GDP in 2018, the Rupee should simply not be as strong as it is today were it not for strong capital inflows. À strong Rupee, when compared to our export competitors over the years, coupled with higher wage growth than labour productivity growth allowed has gradually eroded the competitiveness of our export-oriented manufacturing base. The declining trend in the number of export enterprises and weak export data over the years has rendered the Mauritian economy increasingly dependent on its ability to sustain capital inflows to plug the deficit creating a vicious cycle over the years of strong currency, weaker export sector and more sops to encourage even more capital inflows to keep the unsustainable party going. Policy makers have wasted a decade of easy global liquidity by doing precious little to either create new export engines or to save existing ones. The Mauritian economy may appear to be more diversified today on paper than it was two decades ago but the reality is that from the real estate sector, tourism to the offshore sector, it has become more vulnerable to exogenous shocks and to capital inflow volatility from say the next global economic slowdown in the cycle. What will happen when foreigners try to sell their expensive villas and can’t get the price they expected?

We have put our eggs in different baskets but put all the baskets into the rat’s cage! As recently highlighted by the former Governor of the Bank of Mauritius, the drop in interbank foreign exchange market activity in the later half of 2018 when coupled with peaking levels of international reserves all point to signs that capital inflows are slowing. Should this trend continue or worsen as the global economy slows (especially if more than expected in 2020), the only tool which would stand in the way of a significant devaluation of the Mauritian Rupee to reflect the reality of an unsustainable current account deficit would be the more than USD 6.2 Billion of international reserves.

If Mr Basant Roi’s argument is right about the potential for GDP growth to actually be lower than we think given peaking or falling capital flows, what does this mean for our fiscal deficit figures? If the GDP estimates are moderately above where they really are then what does that mean for the appropriate stance of monetary policy and fiscal policy into 2019 and 2020 as the risk of a global slowdown increases? The combination of higher liabilities fuelled by populism and politics, slowing capital inflows and the risk that the allpowerful Leader and his appointees miscalculate remains a risk that can only be ignored at our own peril.

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