January 25, 2008No. 2/08 -G HIGHLIGHTS OF CDB'S ACTIVITIES IN 2007AND ECONOMIC BACKGROUND AND PROSPECTS I. HIGHLIGHTS OF CDB'S OPERATIONS IN 2007 The Financial Programme The Caribbean Development Bank performed strongly in 2007. The Bank approved USD210 million (mn) in loans, grants and equity contributions to governments, private financial institutions and regional organisations and institutions. Disbursements totalled USD148 mn. In 2006, USD127 mn was approved and USD132 mn disbursed. The main purposes for which funds were allocated are: (i) transportation, infrastructure and services (USD81 mn), notably USD61 mn for LIAT and USD20 mn for highways and roads in Jamaica and in St. Vincent and the Grenadines; (ii) education and training (USD50 mn) of which USD26 mn for the University of Technology in Jamaica, USD10 mn for an Education For All project in Haiti, USD7 mn for school re-habilitation in Grenada, USD5 mn for student loans in the British Virgin Islands, and training in demographics USD1 mn. (iii) natural disaster relief, rehabilitation and capacity building (USD27 mn), including USD20 mn for relief and rehabilitation occasioned by Hurricane Dean and USD5 mn contributed to the Caribbean Catastrophe Risk Insurance Facility (CCRIF); (iv) direct and indirect private sector development (USD45 mn) of which USD25 mn for industrial and agricultural credit, USD10 mn in equity participation and USD10 mn for the OECS secondary mortgage market; and (v) economic governance (USD3 mn) for strengthening the capacity of countries for macro-economic management, fiscal management (including customs), statistical services and regulation of financial institutions. Widening Support for CDB Two significant developments which signaled an expansion of international support for the work of the Bank were brought to finality or near finality. In May 2007, the Government of Spain pledged a contribution of 2.5 mn Euros to the Special Development Fund, the Bank's poverty reduction window. In December, the Govern-ment of Brazil formally agreed to become a member of the CDB. The entry of new contributors and new shareholding members into the Bank is indicative of the continuing importance of this institution as a catalyst for economic development in the Caribbean. Haiti The Bank was very pleased to admit the Republic of Haiti to its membership in 2007. Operations in Haiti were quickly initiated, starting with a mission led by the President of the Bank in January, and a USD10 mn grant as part of an Education For All project co-financed with the World Bank. Staff are being familiarized with the Haitian economy and society through a structured programme of visits, lectures and other professional interactions. A project for strengthening the capacity of public service training institutions was initiated by an assessment of training needs and will be starting in 2008. The Bank will maintain an office presence in Port-au- Prince courtesy of the Caribbean Community (CARICOM) Secretariat. CARICOM Development Fund and Regional Development Agency The Bank continued its efforts to bring the CARICOM Development Fund (CDF) into existence. Two consultancies were financed: one to prepare the operating guidelines for the CDF and the other to prepare its legal framework. Both sets of recommendations were accepted by Heads of Government in July 2007. Following upon the decision of Heads of Government to establish a Regional Development Agency (RDA), the bank financed another consultancy to advance that process. It is expected that the RDA will operate as a special window of the CDF and that both the RDA and the CDF will have a close working relationship with the CDB. II. REGIONAL ECONOMIC PERFORMANCE The year 2007 was an active year for economic managers in the English-speaking Caribbean region. The challenges that presented themselves included: (i) continued rise in the price of petroleum and related products;(ii) inflation;(iii) slowing global growth, the consequences of the efforts to deal with the mortgage crisis which emerged in the US, and the effects of the US Western Hemisphere Travel Initiative;(iv) consolidation in the Caribbean air transport industry;(v) fiscal management and debt restructuring;(vi) natural disaster risk;(vii) managing Cricket World Cup 2007;(viii) regional integration; and(ix) the effort to complete the Economic Partnership negotiations with the European Commission before the year-end deadline. Preliminary data suggest that the overall impact of the challenges on the region was a slower rate of economic expansion than during 2006, mainly reflecting slower growth in Tourism activity and in Construction, although all countries except Montserrat experienced positive growth. For the Caribbean as a whole, the economic growth rate fell from 6.9% in 2006 to 3.9% in 2007. Of the 13 CARICOM countries for which information is available, economic growth slackened in 9, and only in 4 did economic growth rates accelerate or remained constant. The slow down was substantial in Antigua and Barbuda, Dominica, St. Vincent and the Grenadines and Trinidad and Tobago. Issues related to global warming and environmental conservation increasingly engaged public discussion, given the level of dependence of the region on its coastal zones for Tourism, transportation, residential accommodation, and the location of other kinds of business operations, and given the vulnerability of these coastal zones to climate change and sea-level rise. The year also saw general elections or the start of general elections campaigns in a number of countries, with the usual concomitant rise in the level of public and private spending. Oil Prices During the year, the price of petroleum and petroleum products continued its upward climb, contributing substantially to inflation, given the importance of fossil fuels to all aspects of consumption and investment activity in the English-speaking Caribbean region. Only in Trinidad and Tobago, the region's major exporter of petroleum products and natural gas, were issues of managing oil revenue inflows also of major importance. While most countries maintained a regime of full pass-through of petroleum import-price changes, some countries elected to maintain a buffer by varying the taxes on imports, although the overall effect was more of a subsidy than a buffer, given the steady upward drift in prices. Even if petroleum prices do not rise significantly higher than the USD100 per barrel level reached in January 2008, and the expectation is that further increases are likely, significant adjustment in investment and consumption behaviour, including attention to alternative energy sources and energy conservation practices, are likely during 2008. Inflation Inflation became a problem for some borrowing member countries (BMCs) in 2007. The Consumer Price Index more than doubled to 10.4% in Guyana and rose from 5.8% to 8.5% in Jamaica. Grenada has also been troubled by rising prices. Late last year, CARICOM Heads of Government met in a Special Session to focus attention on food price inflation. A report on ameliorative policies and actions at the regional level is scheduled for discussion in the week of 21 January 2008. As concluded so many times in the past, better arrangements for distribution and marketing of regionally produced food products will substantially reduce gluts in some countries and shortages in others, thereby boosting incomes and restraining price increases. A crucial part of the package of measures would be improvement of regional maritime transport, port facilities and phyto-sanitary inspection facilities for intra-regional trade. Growth Prospects The slow down in global growth, evident since late 2005, has been of considerable concern given the dependence of regional economic performance on economic activity in the major developed countries, in particular the US, some members of the European Union (including the UK), and Canada. The main transmission mechanisms have been via the Tourism industry and the offshore business sector, with derived demand affecting the Construction sector, and other services. The situation was further complicated during 2007 by difficulties in the residential mortgages industry in the US, that quickly spilled over into the rest of the financial system, both in the US and in Europe. There are indications of economic recession in the US at least during the first half of 2008. The authorities there have been taking both fiscal and monetary policy action to limit the contraction and to encourage a resumption of growth. To a lesser extent, this policy stance has been adopted in Europe, and the UK authorities have provided substantial support to private lenders as part of the effort to maintain financial system stability. For the region, the likelihood is that economic uncertainty and reduced income expectations in its main services-exports markets will adversely affect the performance of Tourism with some lag, except at the high end of the industry where effects are likely to be minimal. This could feed through, with an even greater lag, to Construction, but only if recessionary conditions persist, since it is clear that the extent of the effects will depend on the depth of the recession, and how long it lasts. With respect to the effects on the region of the relative movements of major currencies that took place during the year, particularly the dollar/Euro developments, the net outcomes appeared to have been more favourable for the region than otherwise, although the situation with respect to Canada requires further analysis. In contrast to past periods when currency movements went the other way, the weakening of the US dollar against the Euro is not expected to have any significant adverse impact on US demand for regional products and services that are priced in domestic currencies or in dollars, while demand for such products and services from Europe could rise because of the increased dollar purchasing power of the Euro. By the same token, regional exports to Europe that are priced in Euros would have yielded larger equivalents in regional domestic currencies. On the negative side, imports from the Euro area would have become more expensive; but it is important to note that the US remains the region's most important source of imports. With respect to Canada, relatively strong import and education links would have resulted in the rise in the external value of the Canadian dollar having a negative impact on Caribbean purchasing power there; by the same token Canadian purchasing power in the Caribbean would have risen, making that market more receptive to Tourism promotion efforts. Tourism performance during the year was affected by the Western Hemisphere Travel Initiative (WHTI) of the US, under which US citizens travelling to certain Western Hemisphere destinations are required to produce a US passport to verify identity on returning to US territory, the arrangement being part of the set of post 9:11 security enhancement initiatives. Some countries (eg, the British Virgin Islands) identified a fall-off in impulsive-travel by day-trip visitors from the US Virgin Islands and Puerto Rico to the new requirements; while others (eg, The Bahamas) introduced arrangements to meet the costs to US visitors of satisfying the requirements. Countries in the region had mounted a campaign of sorts to get the US to delay or cancel introduction of the measure, citing potential damage to Tourism. Ironically, during the 1960s and 1970s some countries in the region had questioned the lack of symmetry in travel documentation arrangements in the area, with the US requiring visiting non-nationals to produce passports and visas, and with the developing countries in the region accepting some form of identification, with a US driver's licence or a birth certificate among the items deemed to be acceptable. The view had been voiced at the time that US nationals should at least be required to produce a valid passport. Air Transportation Restructuring and consolidation in the regional air transportation industry served to relieve critical areas of stress while introducing new challenges, both for the travelling public and for the growth of Tourism. The closure of BWIA and the commencement of operations of Caribbean Airlines were accompanied by significant changes in the route structure of the Trinidad-based carrier, resulting in an initial reduction in the travel options into and out of Barbados and a number of other East Caribbean destinations until the introduction of additional services by US-based carriers and Air Jamaica, and the resumption of some services by British Airways that had been discontinued in the past. On intra-regional routes, the closure of Caribbean Star and the takeover of its routes by LIAT after a period of joint operations, were accompanied, not only by staff rationalisation but by route and fare rationalisation, and by a change in booking and reservation systems and arrangements, with the processes being facilitated by arrangements by the major shareholder governments to inject substantial new equity into the airline. Both sets of air transportation consolidation and rationalisation had been driven principally by large and unsustainable annual financial operating deficits in the three carriers, a circumstance that continues to feature in the operating results of all of the other major state-owned carriers in the region. Concerns now being raised by the travelling public and by Tourism destinations in the region focus on sharp increases in the cost of airline tickets, inconvenient route schedules, inadequate carrying capacity to support growth in visitor arrivals, and operating arrangements which do not allow for easy link-up with the large-capacity carriers serving overseas destinations. Some regional destinations have reported a fall-off in intra-regional travel, and have linked this to a rise in the cost of air transportation; although it should be noted that increased air transportation costs are not wholly attributable to increases in airfares, since some countries have increased taxes and airport charges collected by the air carriers at the time of ticket sale. In addition, increased air transportation costs reflect increases in fuel prices. Fiscal Management Efforts at fiscal consolidation continued across the region during the year. Belize was successful in its efforts to obtain the agreement of its commercial creditors to a debt restructuring arrangement which it proposed to use to provide fiscal space to continue its overall development programme. Both Antigua and Barbuda and St Vincent and the Grenadines implemented transactions-based taxes in recognition of the need to broaden the tax base to match the structural changes which had been taking place in the economies. Belize and St. Kitts and Nevis continued with the implementation of arrangements agreed with CDB with respect to policy-based loans made to the two countries to help improve fiscal management and fiscal performance. The Caribbean Technical Assistance Centre (CARTAC) continued its hands-on support to countries in the region to build management capacity, with the Canadian and UK governments agreeing to an increase in their already substantial financial support to that institution. CariCRIS (Caribbean Information and Credit Rating Services Limited), the Trinidad-based credit rating agency in the region, expanded its operations to a number of OECS countries in a joint sovereigns programme with CDB. At year end, several countries were considering the establishment of Revenue Authorities as single entities to replace the multiplicity of agencies in existence for the assessment and collection of public revenue. Natural Disasters Despite the appearance of 14 named storms (two reaching category 5 hurricane status) and two tropical depressions during the year, storm damage to the region was not nearly as significant as it could have been, although there was considerable wind and water damage to Jamaica and Haiti, and lower levels of damage and disruption to some islands in the Eastern Caribbean. During the early part of the year arrangements were concluded for the establishment of the CCRIF, an arrangement to provide rapid parameter-based compensation to participating countries suffering damage from defined natural hazard events. In the case of the hurricanes, the parameters were not triggered in respect of any of the participating countries, and no compensation payments were made. In November, several countries were affected by earthquakes. The CCRIF made payments totalling USD950,000 to Dominica and St. Lucia. World Cup Cricket Managing World Cup Cricket 2007 turned out to be both a challenge and an opportunity for the region. The main challenges involved completing the facilities and access arrangements in time for the matches; moving the participating teams and spectators around the region; addressing security issues, both with respect to visitors to the region and within the individual match venues; and financing the operations; while the overall competition provided a major opportunity for Tourism marketing, and for the general upgrade of facilities in the region for both visitors and residents. While the specific costs and benefits are still being assessed, there is little doubt, reflecting the performance improvements as the competition progressed, that the region has learnt how to manage large-scale events, that there has been considerable improvement in infrastructure and services across the region, and that there has been substantial learning on the part of individuals and small enterprises with respect to identifying and taking advantage of economic opportunities. Regional Integration Efforts continued during the year at both the regional and national levels to advance the processes of regional integration. During the course of the year the CARICOM Secretariat's Representation Office in Haiti was reopened, as part of the effort to assist the country to bring its integration coordination arrangements in line with those of other CARICOM members. Work also continued on the operationalisation of the Regional Development Fund, and on the establishment of a Regional Development Agency, whose function would be to manage the regime for disadvantaged countries, regions, and sectors, as set out in the Revised Treaty of Chaguaramas. There were three developments of particular importance: one was the preparation, and its acceptance by Heads of Government, of a document, prepared by Professor Norman Girvan, entitled "Towards a Single Development Vision and the Role of the Single Economy", which sought to provide a framework or a road map for the implementation of the CSME distilled from a wide cross-section of stakeholder views presented and discussed in symposia held in 2005. The second was a Strategic Planning workshop, arising from Professor Girvan's report, held in Barbados late in 2007 and intended to lead to the preparation of a development plan for the CARICOM region. The third was the acceptance by Heads of Government of the Report of a Technical Working Group, chaired by Professor Vaughan Lewis, on Governance of the Caribbean Community. The critical issues covered in the report involve the management of cooperation and coordination between sovereign states that have agreed to integrate their economies. Economic Partnership Agreement (EPA) Ministers of Government and senior technocrats, supported by the Regional Negotiating Machinery (RNM) were very much engaged with the European Commission during the course of the year in negotiating EPAs as successors to the Cotonou and Lomé arrangements, providing a framework for economic and trading relations between the European Union, on the one hand, and those members of the African, Caribbean, and Pacific (ACP) group of countries who chose to sign. Details of the arrangements are currently not widely known; but the main thrust, partly reflecting multilateral trading arrangements agreed at the WTO level, appears to involve a shift, over time, from the special and differential arrangements under the Cotonou and earlier arrangements to full reciprocity in trading arrangements between the Caribbean region and Europe, with the likelihood that the new arrangements could serve as a precedent for new trade agreements with other countries.