Facing Today’s Business Realities

1. Facing Today’s Business Realities GRTU National Business Conference Tuesday 16th December 2008 Facing Today’s Business Realities Prof Edward Scicluna

2. Exports of goods and services

3. Implication for employment • A 2% annual fall in all export oriented industries including tourism translates into an over 1000 FT equivalent job losses directly and half as much again indirectly. • Most affected are tourism, transportation and recreational and similar services. • Less affected are the manufacturing industries, though the indirect effects of these are sometimes greater

4. Points for consideration • Q. How serious, how long, and how deep is the coming recession? A. Truthfully, we do not know. • Q. Should we act? A. Yes we should. • Q. When and How? A. We shall see.

5. The economy’s own in-built automatic stabilisers • Monetary: Falling output, lower inflation, higher real money growth, increase in output. • Fiscal Falling output, higher unemployment, lower taxation, higher unemployment benefits, higher expenditure, increase in output.

6. Other points: The source of increase in demand • An increase in domestic demand leads to an increase in domestic output and foreign goods, and therefore leads also to a bigger trade deficit, • An increase in foreign demand leads to an increase in domestic output and a trade surplus

7. Estimated Effects of Tax Changes Equivalent to a ONE percentage (1%) change in GDP • Reduction in Income Tax leads to a 0.9% increase in imports and 2.5% loss in tax revenue • Reduction in VAT leads to a 1.1% increase in imports and 1.6% loss in tax revenue

8. Monetary Policy • Room to manoeuvre? • The Fed, the B of E and the ECB have cut interest rates in 1% to 2% range. They still have some monetary policy to manoeuvre though not much • Malta expected to benefit from this aggressive monetary policy depending on the efficiency of our own transmission mechanism, which depends on the banks’ response to ECB rate changes • Nominal rates of interest cannot fall below zero

9. Liquidity Trap and Deflation • Once the NOMINAL interest rate is equal to zero, expansionary monetary policy becomes powerless, additional money is willingly held at the same rate of interest (zero). • In presence of deflation the REAL rate of interest starts rising causing less demand and output, and leading to further deflation, and on and on... • (Two examples are the Great Depression and Japanese Slump)

10. Fiscal Policy • Room to manoeuvre? • Many countries with fiscal surpluses have room for fiscal expansion (China, Singapore and some EU countries) • No one can go it alone since it spills in other countries and becomes costly for one country • Ideally we need a global fiscal expansion

11. Limiting Factors • Budgetary Deficit-GDP ratio • Debt-GDP ratio • External Trade Deficit-GDP ratio

12. Can we afford a fiscal stimuluis package?

13. General Government Balance 2008.4

14. General Government Balance 2009.4

15. Deficit to GDP – rolling year basis

16. Maltese Fiscal Policy • Malta has very little room to manoeuvre with a cyclically adjusted deficit of 4% and a debt/gdp ratio of 63.1% (end of 2008 EU statistics) and 2.8% and 63.2% (end of 2009 EU projections) • On its own a fiscal stimulus would quickly fizzle out (very open economy with many leakages) • It should participate in an EU wide fiscal stimulus when this is agreed

17. Microeconomic Policy • Malta has to make judicious use of this package by supporting firms genuinely needing assistance and families mostly affected by the recession • It should make full use of external structural funding for key infrastructural projects (ME - Twenty Million for Industry package) • It should reduce not increase charges or any obvious burden during these difficult time • It should be ruthless with public utility monopolies, private cartels, or any other sacred cow • It should not keep firms illiquid