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Government of Jamaica

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Government of Jamaica

Building institutions for the future – Part I – An Independent Central Bank

The Hon. Nigel Clarke, D.Phil., MP
The Hon. Nigel Clarke, D.Phil., MP

Minister of Finance and the Public Service

The Restructuring of Public Sector Compensation

Institution building is important for entrenching macroeconomic stability, as well as supporting policy predictability and transparency. Keeping these objectives in mind, and consistent with the COVID-19 Economic Recovery Task Force recommendations, this Government has prioritised two complementary institutional reforms: (i) Tabling legislation for the establishment of an Independent Fiscal Commission to strengthen Jamaica’s Fiscal Responsibility Framework; and (ii) creation of an independent central bank with an explicit mandate for price stability.

Both Houses of Parliament recently enacted the Bank of Jamaica (Amendment) Act (the BOJ Amendment Act), which significantly amends the Bank of Jamaica Act. In addition, the legislation to establish the Fiscal Commission was tabled in late November.

In a two-part series, I want to explain these developments and highlight why they are historic. In this first part, the focus is on the BOJ Amendment Act.

The BOJ Amendment Act – passed without much fanfare, including little coverage in the media – is a historic piece of legislation for Jamaica that benefited from the deliberations of a Joint Select Committee of Parliament.

The reform creates the institutional framework for Full-Fledged Inflation Targeting monetary policy strategy in which the achievement of the inflation target set by the Government will unambiguously be the primary objective of the Bank of Jamaica (BOJ or central bank). It also modernises the BOJ through reorganisation of its governance to support greater accountability, transparency and effectiveness in the discharge of its mandate.

The significance relates to our history. High and pervasive inflation in the past ruined tens, maybe hundreds of thousands of lives in Jamaica and devastated thousands of businesses.

High inflation is the enemy of the poor, those without assets and those on fixed incomes. Meanwhile, those with real assets are insulated from high inflation and large (fixed interest rate) borrowers typically benefit. So, in that sense, high inflation deepens inequity and breeds social injustice. We have lived this. We know it.

Mandate and accountability

The BOJ Amendment Act is a response to our experience. The primary objective of the central bank will now be the maintenance of price stability expressed as the achievement of the inflation target. This clarity will help anchor inflation expectations to guide decision-making across businesses and households.

The Government will set the inflation target, expressed as a range, to be consistent with the Government’s growth and employment objectives. However, the BOJ Amendment Bill empowers the BOJ and grants it the operational independence to achieve this target, without external influence. Once a new target is set, the BOJ is expected to achieve it over the medium term (defined as not less than 36 months).

Such independence also requires that the bank is held accountable to stakeholders for its actions and outcomes and that there is the fullest transparency about its operations. In that regard, the BOJ Amendment Act puts in place several accountability measures, including notifying the public, through the minister, on the reasons for any deviations of outcome from the target and any proposed actions to restore inflation within the target range. This notification will be published on the websites of the central bank and the Ministry of Finance. Furthermore, the public will have access to the minutes of Monetary Policy Committee (MPC) meetings where interest rate and other monetary policy decisions are taken, within four weeks of the meeting. This level of transparency in policymaking is path-breaking for Jamaica.

Moreover, the MPC will be required to submit semi-annual reports that will be tabled in Parliament, on the performance of the BOJ in relation to its monetary policy and achievements in relation to the inflation target. In addition, the governor will be required to appear before the Standing Finance Committee of the House of Representatives to answer queries with respect to the reports.

GOJ prohibited from borrowing from the central bank

Jamaica suffered from fiscal dominance, over a long period of time. Fiscal dominance is defined as an economic condition resulting from unsustainably high levels of debt and persistent fiscal deficits. Under these conditions, monetary policy cannot successfully target inflation but instead is compelled to pursue the objective of keeping the Government from bankruptcy. In effect, the primary objective of setting interest rates under conditions of fiscal dominance is to ensure that they are at sufficiently high levels that ensure that the Government can continue to attract lenders, rather than any independent economic objective such as attaining a target inflation rate.

Jamaicans know this all too well.

While we have banished fiscal dominance through reform and we are institutionalising its exile, another threat remained. The Government could unjustifiably and unreasonably cause the ‘printing of money’ by borrowing from the central bank.

The BOJ Amendment Act now prohibits the Government of Jamaica from borrowing from the central bank, except in declared national emergencies. Even then, the procedure for securing a temporary advance from the BOJ requires transparency: a ministerial order, subject to affirmative resolution. That is, Parliament will have a role if the Government is to temporarily borrow from the central bank.

With an independent central bank mandated to pursue monetary policy that is consistent with the achievement of an inflation target, and with the Government restricted from borrowing from the central bank, the Government will have little choice but to pursue a credible fiscal path in order to finance its operations or risk bankruptcy.

Governance structure

In keeping with the BOJ’s independence and accountability, the board structure has also been significantly amended. It ensures effective oversight of the policymaking and management processes of the bank, and it also devolves the decision-making power of the governor to collective decision-making bodies that incorporate external expertise. The new law establishes two statutory committees for policymaking. The MPC will be responsible for monetary policy decisions, a power previously vested under the governor. There will also be a Financial Policy Committee that will determine the financial policies of the bank, including with respect to prudential supervision and financial system stability.

The board will comprise five external members in addition to three ex officio directors, including the governor. Terms of external board members will be staggered by two years to ensure that the entire board is not replaceable in a single five-year political cycle. Board members will have to pass fit and proper criteria similar to those required for licensees under the Banking Services Act.

Balance sheet solvency

Anticipating the passage of this modernisation bill, the BOJ was given the financial resources, as required by the BOJ Amendment Bill, to ensure that it can engage in monetary policy operations necessary to achieve its mandate without imposing a cost on taxpayers through recurring losses. In other words, the legislation requires the capitalisation of the bank to ensure policy solvency. A well-capitalised and well-managed central bank will be able to generate profits for its shareholder, the Government and people of Jamaica.

Why is this historic?

Recognising that it is insufficient to simply achieve macroeconomic stability, Jamaica is now moving beyond this stage to the institutionalisation of stability. A credible institution is now legally tasked and empowered with the objective of preserving low and stable inflation within an accountable, transparent and robust governance framework.

This institutionalisation reduces risk premia and borrowing costs over the long term, as there is increased certainty about monetary policy into the future. Monetary policy, anchored around an inflation objective, becomes independent of the political cycle. This creates the conditions for longer-term planning, incentivises the deepening of financial markets and supports greater financial inclusion. These in turn allow for higher economic growth and job creation prospects, placing Jamaica on a strong and sustainable economic trajectory.

In the middle of the pandemic, when other countries are scrambling to finance current-year budgets, Jamaica is able to look ahead; to build and strengthen economic institutions for the future. There is certainly more to do. However, by building institutions, Jamaica will undoubtedly recover stronger.

Published in the Gleaner – Dec 13, 2020

Dr Nigel Clarke is Minister of Finance and the Public Service and Member of Parliament for St Andrew Northwestern.  Send feedback to opedjamaica@gmail.com.

The Hon. Nigel Clarke, D.Phil., MP

Minister of Finance and the Public Service
30 National Heroes Circle, Kingston 4
Tel: (876) 932-4656 / 4660 / 4655
Eml: opedjamaica@gmail.com

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