R Basant Roi: Overview of macroeconomic policies in Mauritius
Address by Mr R Basant Roi, Governor of the Bank of Mauritius, at the Bank of Mauritius' annual
dinner with major economic stakeholders, Flic-en-Flac, 2 December 2005.
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Honourable Judges
Ladies and Gentlemen
Good Evening
I am once again pleased to welcome you all to the Bank of Mauritius Annual Dinner.
In my last seven end-of-the-year addresses, I persistently focused more on regulatory and supervisory
issues than on monetary policy issues. The repeated emphasis on the desirability of a sound and
strong banking industry was motivated by several critical important considerations. Against the
backdrop of recent developments in our export markets and the evolution of our balance of payments
position I find it quite appropriate to briefly look back in order to throw some light on future orientation
of our macro-economic policies.
The 1980s witnessed a rapid process of financial sector liberalization in most parts of the world. The
long repressed financial sector in developing countries underwent a process of gradual deregulation.
Layers upon layers of direct controls in the financial sector, fashionable in the 1950s, 1960s and in the
early years of the 1970s, were gradually removed. Decision makers in Mauritius rightly bent with the
then prevailing wind of change. Direct controls on interest rate determination, ceilings on bank credit
expansion and exchange control were done away with. With hindsight, it appears that the
wideranging implications of the move from a system of direct controls to a fully liberalized financial system
have not been fully appreciated.
Financial sector liberalization imperatively requires monetary discipline, fiscal discipline, financial
market discipline, labour market discipline and very importantly a sound and solid financial industry.
These requirements are all, in one way or the other, closely related. The lack of appreciation of the
complexity of the relationships among them seems to trigger the on and off criticisms against the Bank
of Mauritius regulatory and supervisory policy and other policy stance.
The emphasis on regulatory and supervisory issues relating to the banking industry has been driven
by four principal considerations:-
1. Financial sector liberalization intensifies competition. Obviously, banks operating in the
country necessarily have to be sound and strong, as otherwise competitive forces would
drive out of the market the inefficient ones. I need not overstate that it takes only one small
bank to fail to undermine confidence in our banking system and threaten financial stability in
a small economy like ours;
2. The process of financial sector liberalization, throughout the world in the 1980s, was quite
likely to be followed by a process of trade liberalization at the level of individual countries,
regional level as well as the global level. Having taken the view that, at some stage, trade
liberalization might eventually affect the balance sheets of banks thereby undermining their
soundness, the Bank of Mauritius far-sightedly intensified its regulatory and supervisory
activities in a bid to stave off as far as possible its adverse impact;
3. There exists a solid body of research strongly suggesting that improvements in financial
arrangements precede and contribute to economic performance. Developing countries with
relatively deep and efficient financial markets in the 1960s and the 1970s grew faster than
those with relatively shallow markets. The Bank of Mauritius has thus been committed to
initiate credible regulatory and supervisory measures with a view to strengthening the
banking industry; and
4. The efficacy of monetary policy implementation in a liberalized financial system depends
greatly on the strength and efficiency of the players in the financial marketplace. We have a
bank-centered financial system. In other words, banks are at the epicentre of our financial
system. Evidently, the players in our market are banks and bankers. Banks are the medium
through which the monetary policy impulses of the Bank of Mauritius are transmitted to the
rest of the economy. The weaker the medium for transmission of monetary policy impulses
the lesser is its efficacy in achieving the desired objectives. The medium, that is banks, had
to be strengthened and hence the repeated emphasis on the need for a sound and solid
banking industry.
These have been the inter-related objectives envisioned in the approach adopted by the Bank of
Mauritius in the last seven years with regard to the banking sector. Despite a number of hurdles and
unforeseen happenings, the Bank of Mauritius relentlessly pursued its objectives, for it is in the best
interests of the economy to have a banking industry sufficiently strong to meet emerging challenges.
All through the road traveled so far, the Bank of Mauritius has not been short of criticisms from
commentators.
In January 1992, the Financial Times carried a headline "Man bites Watchdog". The man was Robert
Maxwell. In the list of watchdogs, pension fund trustees, external auditors and accountants,
institutional shareholders, the Bank of England and a number of other regulators were identified as
potential scapegoats. In private conversations and in the media everyone had his favourite scapegoat.
Some carefully avoided including themselves in the list of potential candidates for the scapegoats, as
is the case in Mauritius.
The history of troubled financial institutions is littered with eventful episodes of "Men biting
Watchdogs". "Watchdogs biting watchdogs" is however an uncommon happening. I guess you must
be familiar with the story of the man who discontentedly wailed, "We were so poor in our childhood, we
could not afford a dog; we ourselves had to do the barking." Certain recent remarks against the
regulator of the banking industry gave an incorrect perspective of the role of regulators. Some smart -
pretentiously smart - but not necessarily persons of enviable integrity and probity have attempted to
advertise colossal untruths. I refer to them as smart persons, for they are fully conversant with the
laws that bind the Bank of Mauritius with regard to its duty of confidentiality of banking transactions.
They are equally aware that the Bank of Mauritius has certainly no interest in street fighting with
"respected" delinquent borrowers however provocative the unpleasant and unfair remarks. Any form of
public retaliation against certain "law-abiding" delinquent borrowers is obviously not the business of
any regulator. The Bank of Mauritius wisely chose to take the aspersions leveled against it cool
headedly - with an elevated sense of respect to the laws governing the banking industry. They have
talked the talk. We have walked the walk.
In the last six years the Bank of Mauritius has been involved in clearing the banking system, through
thick and thin, of outdated practices. We are today at the tail end of the clearing process. And we have
had a rich experience in tackling problematic banks and 'gentlemen' delinquents - I mean habitual
delinquent borrowers making a good, open and public show of piety of monks in monasteries.
It is generally wondered why the Bank of Mauritius does not aggressively resolve problems that afflict
certain financial institutions, whether at the board of directors level or the managerial levels. Ailing
financial institutions can never be brought back on rail by simply applying mechanical procedures to
complex operational problems. It's like a man undergoing several medical procedures simultaneously.
One physician is in charge of the head injury, someone else is setting the broken leg, another
physician is working on the displaced shoulder and still another one is getting rid of the gallstone.
Each operation is perfect and is indeed a success. But to the dismay of the physicians the patient dies
- dies of shock. It is certainly not in the interest of any regulator - nor is it in the interest of society - to
give shocks and kill financial institutions; its primary concern is rather to rescue ailing institutions, help
restore their financial soundness and sustain overall financial stability. Breaking problems into small
pieces and then managing the pieces, more so if the problems stem from the highest level of
decisionmaking in a financial institution, is the surest way to a crash. The regulator's responsibility in such
cases is to manage the dynamics, not the pieces. No regulator would ever envy the plight of an
ambulance crew at the scene of a car crash. I regret having to use metaphors for I am bound by a duty
of confidentiality even in respect of the 'gentlemen' delinquent borrowers.
Institutional shareholders or any individual shareholder in any enterprise, be it a financial institution or
a non-financial enterprise, are expected to be the first and foremost watchdog of its operations. The
watchdogs are supposed to look after the best interests of the enterprise rather using their authority to
advance their own agendas. As is generally observed the sinews of good behaviour can hardly be
reinforced by regulation. Financial regulations are not designed to catch deceit but to create markets
and promote good corporate habits - habits that are indeed transparent to savers and investors who
can vote with their money and why not with their feet, if the need arises.
The dissemination of reliable information to the public at large and the ability to trust each other are
the pillars of market-based economies. A former professor at Harvard rightly observed that trust
constitutes a decisive ingredient of a society for it to be a successful capitalist society. People, who do
not trust their neighbours, do not trust other groups, do not trust distant people, cannot trade among
themselves. The economy is reduced to the level of a bazaar economy. The regulator needs to be
trusted. I am absolutely certain that none of us would ever wish our economy to be reduced to a
bazaar economy. As I said earlier, we have reached the tail end of the clearing process. We are now
in the process of constructing a framework for the implementation of Basel II, taking into account the
specificities of our economy. The year 2006 will quite likely be marked by acquisitions in the banking
industry. We have had a number of expressions of interest for take-overs from several banks of good
reputation. Despite a few consequential setbacks beyond our control, business confidence in the
economy is not as bad as is being painted.
Once an economic system is on a path of financial sector reform, the process is self-reinforcing; it
cannot be stopped as one measure of reform engenders other reforms. The Mauritius Credit
Information Bureau launched on Wednesday last is an innovative step that is expected to go a long
way towards imposing discipline in the credit market. In the longer term this Bureau will definitely play
a catalytic role in improving the quality of our financial sector. Let me clear one misconception. The
Bureau is a repository of credit information on borrowers. When processing application for loans banks
are required to consult the Bureau through an electronic network before deciding whether or not to
approve the application for the loans. The decision whether or not to approve the loans however rests
with the banks themselves, not with the Bank of Mauritius.
Ladies and gentlemen, right at the outset I mentioned that financial sector liberalization necessarily
requires monetary discipline, labour market discipline and fiscal discipline. Wages and salaries levels
over and above productivity levels persistently lasting for a protracted period of time combined with
unsustainable budget deficits are bound to influence monetary policy-making. I have to reiterate the
point I stressed here, during previous annual dinners, and elsewhere that the Bank of Mauritius does
not operate in isolation, irrespective of developments in the domestic economy and of developments in
our major trading-partner countries. Its policies are designed in the light of the dynamics of the
domestic economy and developments in foreign exchange markets abroad.
In most large and resourceful economies, economic growth is to quite an extent driven by
consumption expenditure. Consumption expenditure, amongst other things, is a propelling force to
investment that, in turn, generates economic growth. In small economies like ours it is investment that
propels economic growth that, in turn, gives rise to consumption expenditure. Ours is an investment
driven economy and is not a consumption driven economy. The point I wish to make here is that in a
highly open economy like ours, overwhelmingly dependent on imports, rising levels of consumption
expenditure, not matched by production for exports, rather leads to deficits in the trade balance.
After four successive years of surpluses, the current account of our balance of payments posted a
deficit of over Rs5 billion in fiscal year 2004-05 - close to 3 per cent of GDP. The Goods Account,
commonly understood as the Merchandise account, posted a deficit of over Rs20 billion, roughly twice
the deficit recorded in the preceding year. May I underline that the rupee value of petroleum products
imported in fiscal year 2004-05 amounted to Rs11 billion, twice the value recorded only three years
ago. It is projected to attain over Rs13 billion in the current fiscal year. For every Rs100 worth of
imports, Rs13 account for petroleum products.
Only in a society that embraces self-criticisms can decision-making processes produce real facts to
cope with real problems. A back-of-the-envelope arithmetic shows that in certain organizations,
employees, after making allowances for week-ends, vacation leave, casual leave and sick leave
entitlements, are at work for only 200 days in a year; I do not wish to say that they consume during
400 days in a year. Household consumption expenditure grew by 8 per cent in 2005, twice the
average growth rate of 4 per cent in the four years ended 2003.
Fortunately, the incisiveness of the Bank of Mauritius led to an accumulation of net international
foreign currency reserves amounting to Rs54 billion today. We cannot lean against the wind for long.
The policy implications of these developments are fiscal rectitude and strong demand management
policies. Why fiscal rectitude? Let me explain. Two different hypotheses exist in regard to the relation
between trade deficits and budget deficits. One of them is the twin deficit hypothesis postulating that
budget deficits cause trade deficits. The policy implication of this theory is that budget deficits need to
be reduced to restore trade balance. The other hypothesis is what economists refer to as the
Ricardian Equivalence hypothesis: an increase in government expenditure is absorbed by a rise in
private savings and therefore no increase in consumption expenditure, which in our case, means no
increase in imports and therefore no impact on the balance of trade. Contrarily, our consumption rate
has gone up meaning that savings rate has gone down. Trade deficit has widened. The first
hypothesis seems to be more valid in the case of our economy. Although there is no one to one
relationship between budget deficits and trade deficits in our context, the case for a reduction in
budget deficit is strong. Fiscal dentistry needs to be carried out; the cavities need to be filled in. On the
monetary policy side, stringent demand management policy is the order of the day.
Finally, let me share with you the reflections made in the 1980s by a former Prime Minister of the U.K.
on the state of mind of the British public, "I think we've have been through a period where too many
people have been given to understand that if they have a problem, it's the Government's job to cope
with it. 'I have a problem, I'll get a grant.' 'I'm homeless, the Government must house me.' They are
casting their problems on society. And you know there is no such thing as society. There are individual
men and women, and there are families. And no Government can do anything except through people,
and people must look to themselves first. It's our duty to look after ourselves and then, also, to look
after our neighbours. People have got their entitlements too much in mind, without obligations. There
is no such thing as entitlements, unless someone has first met an obligation." Aren't these reflections
equally valid for Mauritius?
Ladies and gentlemen, the way forward is to carry out a really big and rapid change rather than
proceeding with small gradual changes. A plunge in cold water is less painful than a slow submersion.
We have to open up the economy, without any form of deleterious barriers. Problems do exist and will
continue to exist. They exist to be redefined and transformed. They exist to be tackled and overcome.
A problem shared is a problem halved.
Let me on behalf of the Board of Directors, the staff of the Bank of Mauritius and on my own behalf
wish you and your family a Merry Xmas and a very prosperous New Year 2006.
Thank you.