“Mauritius is already in a hole

Interview: Sameer Sharma, Chartered Alternative Investment Analyst & Certified Financial Risk Manager

and the longer we avoid making the tough decisions, the more bitter the pill shall eventually be”

* ‘The youth should spend more time explaining to their parents why the way they vote matters and why meritocracy matters’
* ‘It is important for the Prime Minister, who wields significant power in Mauritius, to rethink about key posts in his Cabinet and in key institutions’

Sameer Sharma is a Chartered Alternative Investment Analyst & Certified Financial Risk Manager and we have asked for his views regarding our macro-economic situation and related concerns, particularly with the Sri Lankan collapse in mind. The independence, credibility and role of the BOM and its subsidiary MIC in handling our monetary reserves and currency depreciation comes under the scanner but so do the sustainability of our public debt situation and the pursuance of policies that are not up to the alarming situation of the country. Nepotism and favouritism at all levels have compounded matters and our guest minces no words to slam the consequences at policy level or the resulting dismal perspectives for our youth. 

Mauritius Times: Many local businessmen and traders one comes across with these days are of the view that they do not see how we shall be able to avoid going the Sri Lanka way; their worst fear is that in the wake of economic and financial chaos that, they think, is bound to ensue, it will be pretty bad on the social front. Does this sound too alarmist an outlook?

Sameer Sharma: We are not yet in such a sorry state. Mauritius is a much smaller country than Sri Lanka and benefits from large foreign exchange flows through the offshore banking system relative to the size of its economy. It has a moderately better balance of payment situation than Sri Lanka and, given its size, it is an easier fix if we put the right people in the right places as soon as possible and also understand that we need to be more competitive and live within our means. 

That said, like Sri Lanka, public debt in Mauritius is now above 100% of GDP, and its current account deficit of Mauritius is very high just like in Sri Lanka. Both Sri Lanka and Mauritius have unsustainable public debt profiles and have had to resort to central bank financing of the fiscal deficit via what is known as helicopter money. Both countries seem to have preferred central bank money printing vsengaging in meaningful wasteful spending cuts, better targeted fiscal support, proper private sector debt restructuring and asset sales and significant public sector structural reforms. 

In the case of Mauritius, the central bank has increasingly resorted to off-balance sheet foreign borrowings which totalled more than Rs 35bn in December as per the latest external debt stock statistics. Including these off- balance sheet liabilities would mean that, unlike in Sri Lanka, the net worth of the Bank of Mauritius is certainly already negative. The economic capital of the BOM was already very weak before these off-balance sheet adjustments relative to the risks it has to cover.

Our Finance Minister has also recently stated in Parliament that net international reserves when you exclude commercial bankforeign currency deposits held at the central bank and the increasing foreign borrowings by the Bank of Mauritius stand at a mere USD 4.1 billion vs the official gross amount of close USD 8 billion. 

This also means that between December 2021 and now, the Bank of Mauritius has resorted to more foreign loans. The foreign debt stock of the government in general has likely risen further. 

From a reserve adequacy standpoint, Mauritius on its own right has rising external vulnerabilities. Furthermore, the deteriorating balance sheet of the central bank is a rising financial stability risk requiring significant recapitalization which will increase public debt. I know that there are some policy makers who want to make us believe that we are Singapore and that all this debt does not matter, but we should be worried about the sustainability of our current credit rating because our debt metrics are worse than similar rated peers.

By my calculations, we are talking about the need to inject three times more capital into the Bank of Mauritius than it currently has given the myriad of risks on its balance sheet inclusive of the risks from the MIC which would lead to a significant increase in public debt if we want to ever have a functional and credible central bank again. In a rising inflation environment, the worst idea on earth would be for the central bank to bloat the level of its economic capital via a reliance on Rupee depreciation. That is a recipe for increased wealth inequality and social tensions. 

It is encouraging that on the 13th of April, the Bank of Mauritius sold some USD 200M at Rs 42.90 post the depreciation we saw after Friday’s USD 25m intervention. This is likely being funded by the increased foreign borrowings which go to international reserves and the Rs 5.8bn decrease in the outstanding value of BOM monetary policy instruments last week which offsets the decline in economic capital when the central bank sells dollars and the currency appreciates. As long as the central bank is not meaningfully recapitalized, the market will continue to accumulate and hoard dollars because it will anticipate that such big moves cannot be sustained especially when US interest rates are going higher up.

* Are you suggesting that we are already stuck in a hole, and no matter whether the war in Ukraine escalates or not, we will still remain in troubled waters?

The global economy is slowing as Covid-driven fiscal stimulus effects cool off. The current Chinese Covid lockdowns and the Russia/Ukraine conflict are equivalent to a negative supply-side shock to the global economy. The risk of stagflation for about two to three quarters in Europe in particular is rising. Still high inflation pressures in the United States are also very likely to make the US Federal Reserve increase rates more aggressively than they planned to last year.

In an environment of slowing global growth, rising inflation and rising US interest rates, import dependent, highly indebted and weakly competitive emerging and frontier market economies are at greater risk of a more meaningful slowdown to their growth rates and to further currency weaknesses. The risk of a European stagflationary shock infecting such markets is high. 

Inflation pressures, which are increasingly supply-side driven globally, will only start to cool off later in the year but will remain at elevated levels when compared to pre-pandemic levels thereafter. 

Mauritius is one example of a weak frontier economy. Growth in Mauritius, which was engaged in a modest and uneven recovery, will start to slow again post the second quarter of the year as 2020- and 2021-driven base effects wane. Inflation pressures locally will remain high. The central bank’s weak capital position means that there is little it will be able to do beyond some large one-time foreign exchange interventions, some limited cash reserve ratio increases which will then allow it to increase local interest rates in order to partially offset the expected rise in the differential between US short-term treasury bill rates and Mauritius short-term treasury bill rates. 

The bank of mauritius will only be able to slow down the pace of depreciation in the hope that global inflation has enough time to cool off as global growth slows and supply-side disruptions get fixed. This is a tricky and risky bet.

In many ways the Bank of Mauritius is behind the curve and is stuck with choosing between maintaining the current dovish monetary policy approach which will lead to more inflation and inevitable depreciation and becoming more hawkish post recapitalization and stabilising the currency and longer-term inflation expectations at the expense of less growth when it is already slowing. Remember that budget revenues depend more on inflation today as well. It is about choosing the least bad option and that is the latter’s quandary.

On the fiscal side, the government with the current public debt situation has run out of ammo and will also not be able to rely on the central bank as it did last year although there is still Rs 43 billion of MIC money left. With a central bank with negative net worth – when you include off-balance sheet foreign liabilities and given a lack of a credible and quantifiable monetary policy framework – monetary policy is severely constrained. One way a country can reduce debt is by allowing inflation to remain at levels which are high enough to reduce the real value of the debt. When inflation is so high however, the cost benefit do not make sense.

Fiscal policy is constrained given already high debt levels and high levels of private debt also stifle domestic private investment. The patrimonial non-financial private sector is allergic to majority shareholder equity dilutions, asset sales or structural reforms and is still dependent on inflation and low interest rates in order to deflate its high debt to free cash flow ratios.

Mauritius is already in a hole and the longer we avoid making the tough decisions we needed to have made yesterday, the more bitter the pill shall eventually be. We are in a situation where the central bank needs to be recapitalized and be made much more independent than it is today. We have more barristers and accountants on its board and Monetary Policy Committee than experts on monetary policy.

Monetary policy is highly constrained and the market understands that with net reserves of usd 4.1 billion and rising external liabilities the central bank does not have a lot of ammunition to increase rates significantly or to sustain large foreign exchange sales. When a central bank starts to publish media releases with titles like “largest foreign exchange sales ever”, you know that this is more about the politics and that the market will look past this and focus on the Bank of Mauritius balance sheet impacts in order to gauge the quantum of ammunition left. The market has evolved over the years and the central bank must realize that the level of its economic capital matters more than its press release titles.

* Even if the hostilities were to be brought to an end in Ukraine in weeks ahead, there is a larger battle that has been engaged against the dominance of the US dollar in trade and finance and to dislodge it as the world’s reserve currency. If uncertainty and greater instability will continue to prevail, what would be the consequences on the world economy and on small economies like ours?

The coming demise of the dollar is quite exaggerated. The reality is that US capital markets are deep and very liquid and even now the dollar is gaining strength because investors, including the Chinese, are wanting more of it, especially when US interest rates are rising and when US companies have solid balance sheets and large pools of cash.

The Chinese capital markets are not very deep and do not have the same level of transparency as that of the US. Such things matter to international reserves managers and sovereign wealth fund managers. 

That said, the freezing of the Bank of Russia’s international reserves assets by the Americans and Europeans will have some longer-term consequences because holding dollars and euros is no longer as risk-free given that they can also freeze your assets. We are likely going to continue to move towards a world of competing global currencies – be it the US dollar which will remain dominant albeit less so than before, apolitical digital assets like bitcoin, the Chinese yuan, the Canadian and Austrian dollars, the Swiss franc, Norwegian krone and some strong East Asian currencies like the Japanese yen and Korean won. 

* Do you get the feeling in the meantime that the government is telling the truth about the current economic predicament to the people, and that it has a credible plan to dig us out of the hole we find ourselves in after years of neglect, according to most economists, and lack of necessary structural reforms?

The truth is out there for anyone who wishes to take their heads out of the sand. I am very worried about the near-term economic outlook let alone the longer-term outlook which smells of secular stagnation. 

The continued multi-decade decline of the rupee exchange rate is also hard to miss. The balance sheet of the central bank is severely compromised, amateurism in the MIC is a major risk factor, the large conglomerates are back to business as usual while the government has too much debt for a low tax jurisdiction to afford and sustain. This setup won’t end well for us if we don’t make major changes soon. It is important for the Prime Minister, who wields significant power in Mauritius, to rethink about key posts in his Cabinet and in key institutions. Competence matters and on the economics side at least he is not well-surrounded. 

* What more can the government do given that it has used up most of the reserves of the BOM (as well as most of the funds of the MIC) and those of many parastatal bodies such as the CEB, MPA, STC and FSC and in light of its narrow room for manoeuvre with high debt and rising debt servicing? 

Let us not ignore the high levels of corporate and household debt which is also close to 100% of GDP. First, we need to have the right people in the right places in key areas of policy making and in key institutions. Amateurish, ‘yes-manism’ and a preference for loyalty to the Prime Minister over merit is costing the country dearly. 

The government needs to bite the bullet and engage in significant structural reforms of the economy which includes not just reforming the public sector but putting more pressure on the private sector to change its ways as well. We need to push the private sector to make more use of capital markets including the equity markets, asset sales at realistic prices closer to fundamentals vswhat the valuers have put on paper on the balance sheet and remove the notion that the government is here to bail them out or keep real interest rates low for long.

We need to revamp the Competition Commission and counter oligopolistic tendencies as pointed out by the World Bank itself. We need more fair and open competition. 

We need to link a large portion of salaries of key public officials and nominees to clearly defined KPIs; we need to be open to privatization of state companies in order to increase efficiency and raise much needed funds., 

We need to re capitalize the central bank in the tens of billions despite what it will do to public debt. We need to look to commercial banks which have benefited from lower loan loss provisions, higher foreign revenues translated in Rupees given depreciation and balance sheet cleansing from MIC risk transfers to help partially foot the bill.

We need to completely revamp the MIC and take it out of the balance sheet of the central bank. We need to see better risk-sharing between the state, commercial banks and the central bank than it is currently the case. There is still at least half of the MUR 80 bn in MIC left to spend but unless we make major changes to this entity, this can be more of a liability than an asset. Having people with relevant experience and with successful track record in the field of investments matters.

We need to revamp the Bank of Mauritius Act, board and Monetary Policy Committee. We need to hire globally if we do not have specialized skills locally. The worst thing we can do at this stage is to replace the current lot of pretend experts with other pretend experts. 

We also need wasteful spending cuts, more targeted spending including in pensions given ageing demographics and high levels of unfunded liabilities – all in a low interest rate environment. We need to diversify away from our reliance on real estate which has a low growth multiplier. It also seems that beyond turning Mauritius into a giant retirement home for foreigners and selling high-end villas, strategically we lack ideas. We need to reprioritize spending towards education, focusing on quality, collaborative work and creativity given the quality of our workforce as the digital era will not be forgiving to us. 

We need to be more open to immigration and create the right kind of venture cap funding ecosystem which will encourage young African and Indian start-ups to move here.

* Will the measures you have just mentioned be adequate to contain the crisis?

We need to fix the central bank first, cut wasteful spending and offer targeted relief to the poor. A more solid central bank with a clearly defined and quantifiable inflation target will bring back medium-term price and financial stability. At the same time, it will push the public and private sectors to rely less on easy money and make the necessary structural reforms. 

* In light of the higher cost of living with the prices of essential commodities and petrol going up and negatively impacting the poor and the middle class, how could the government support these latter categories of people in that case?

Bank of Mauritius act needs to be amended to make it more independent and it is high time that we have a clearly defined and quantifiable monetary policy framework. Price stability over the medium-term is good for everyone. 

We need to break down the population into income quartiles, better understand how their cost of living has increased and offer targeted spending on the weakest quartiles and even deciles if the quartile volume is too large and unaffordable.

 * We started off with the worst fears of businessmen and traders. On the other hand, it would seem that an increasing number of our young people are rather pessimistic about their future here, and many are looking at migration as an alternative option. What would you tell the young? 

Bluntly put, there is no future in this country so long as meritocracy remain secondary to nepotism and favouritism. 

Furthermore, if you look at economic policies and where the focus of policy making is, Mauritius is becoming a country for the old, by the old and for the rich, especially the luxury villa buying foreigners. We hardly rank well in the African venture capital start-up and Fintech spaces. Our labour force, including the large pool of accountants working in the offshore sector, are ill-prepared for the fact that artificial intelligence can already do much of what they do. We won’t need so many accountants as we used to and this is already happening globally. 

Some will say that with the development of the metaverse, greater opportunities and flexibilities in remote work in general will be beneficial because where one lives physically will become less important. We need to be careful. The metaverse will be open to the world, but it will also be much more competitive. That’s not something our system is good at fostering. Perhaps the youth should spend more time explaining to their parents why the way they vote matters and why meritocracy matters.

Mauritius Times ePaper Friday 15 April 2022

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