A recent Central Bank of Barbados study has reiterated that devaluation of the Barbados dollar is not an option. In fact, it said, going that route was more likely to cause high inflation and economic contraction than economic growth.
The paper, authored by the Central Bank Governor Dr DeLisle Worrell, Dr Winston Moore of the Department of Economics at the University of the West Indies (UWI) Cave Hill Campus and recent UWI graduate Jamila Beckles, highlights why devaluation would not improve price competitiveness in very small open economies like those in the Caribbean.
Drawing from a sample of 33 small countries and 32 large economies, the study entitled Size, Structure and Devaluation demonstrates that the small economy has very limited scope to substitute domestically produced products for imports if there is an increase in the relative prices of imports.
It pointed out that Barbados, for example, can only substitute a maximum of 15 per cent of the import bill for its top five goods, namely mineral fuels, vehicles, pharmaceutical products, organic chemicals and mechanical appliances.
The authors found that the combination of high import content and exchange rate depreciation has a significant impact on inflation in the small open economy, far greater than for larger economies.
Together, the combination of high export concentration – on average 77 percent – limited import substitution potential and a high import propensity, mean that for small economies devaluation is inflationary and is not growth promoting.
Further, it said, exports are constrained by supply because the country is a relatively small player in the global market for goods and services, and domestic production of nontradeables become less productive with devaluation. There would therefore be no expansion of output as a result of devaluation.