34208 June 2005 No. 73 A regular series of notes highlighting recent lessons emerging from the operational and analytical program of the World Bank`s Latin America and Caribbean Region A TIME TO CHOOSE: CARIBBEAN DEVELOPMENT IN THE 21ST CENTURY Sanjay Kathuria, Mustapha Rouis, Michael Corlett, James Hanson, Rina H. Oberai, Kevin Tomlinson, Elizabeth Ruppert Bulmer, Andreas Blom, Abhas Jha, Camille Nuamah and Logan Brenzel The Caribbean at a Crossroads tries such as Barbados (and Antigua and Barbuda), by small The Caribbean region is at a development crossroads and its and comparable countries like Singapore, as well as Ireland and member nations must take significant and concrete steps to Cyprus, whose economic strategy was centered around improve productivity and competitiveness and face up to achieving international competitiveness. global competition if they are to accelerate or even maintain past growth, says a new World Bank report1. By taking such Formidable challenges lie ahead. While poverty has declined steps, they will reposition themselves strategically as an in the past, it remains high in many countries, including Haiti, emerging trading bloc for goods and services; without such Guyana, the Dominican Republic, and several OECS countries. action, they risk growing economic marginalization and erosion Unemployment, particularly youth unemployment, is a major of many of the social gains of the last three decades. issue, with severe implications for poverty and income distri- bution, as well drug trafficking and addiction. Migration is a Facing the Challenge double-edged sword, but its large scale in the Region serves as a reminder that many educated people lack access to signifi- Despite a number of significant challenges, the Caribbean has cant economic opportunity. All this means that improving the continued to see a sustained growth in per capita incomes, with rate and quality of growth is crucial, given the linkages be- most countries achieving middle income status and high levels tween pro-poor growth and poverty reduction and employ- of human development. These achievements reflect many of ment. Another challenge is coping with natural disasters and the positive endowments that the Caribbean countries2 have economic volatility, highlighted once more during the 2004 been blessed with, including favorable locations and excellent Figure 1: Per Capita Incomes (PPP) 1975-2002 climates, virtually no hinterlands, the advantage of the English lan- guage in most countries (Spanish, French, and Dutch in other cases), an early targeting of universal pri- mary education, strong traditions of democratic participation and politi- cal stability , and a significant de- gree of regional integration despite significant differences in economic and social characteristics. Yet, as the 21st century begins, the abiding impression is one of under- fulfilled potential and concern for the sustainability of past accom- plishments. Figure 1 tells its own story--the overtaking of even the Caribbean's highest income coun- 1 small countries experience. Small size also puts a premium on cooperation among nations, in this case exemplified by the push towards the Caribbean Single Market and Economy (CSME), and tackling the difficult political issue of national sovereignty. Keeping this context in mind, policies for sustained, poverty- reducing growth in the Caribbean that help to improve produc- tivity and increase output diversification, can be summarized under several major themes, namely: Improving macro stability. Underpinning future growth in the Caribbean, as elsewhere, will be improved macroeconomic stability. Fourteen Caribbean countries are among the thirty hurricane season. Still another challenge is reducing crime, most indebted countries in the world, and this exacts a toll on which is affecting the larger islands and increasingly the sustainable growth and worsens expectations about macro smaller ones, impacting the social fabric as well as investment instability. A trajectory of debt based on trends over the last and growth, and contributing to increased migration. few years is not sustainable for most countries. By the same token, improvement of the debt profile will have significant Meeting these challenges is complicated by the massive in- payoffs, especially for Jamaica, St. Kitts and Nevis, Grenada, crease in public debt experienced over the last few years--the Antigua and Barbuda, and Belize. (Dominica suffered from a Caribbean now has the dubious distinction of having many of debt crisis and restructured its debt in 2004). In general, the most indebted countries in the world. High debt makes the improving macro stability will require improved primary sur- countries even more susceptible to volatility, increases the pluses through better expenditure management and, to a lesser risks associated with macro instability and compromises extent, reducing tax incentives and taxing the informal sectors; growth prospects. reducing public debt relative to GDP; improving the quality of privatization where appropriate and reducing the takeover of Fortunately, the challenges are not insurmountable, and can be contingent liabilities; and, given that many of the problems dealt with, with the central plank being a focus on sustaining arise from high public investment, prioritization and increased and improving growth and competitiveness. efficiency of public investment. Improving and Even Sustaining Growth Will Redefining the role of the public sector. In general, a large Require a Significant Shift in Policy government that does not deliver services commensurate with the high tax level that supports it (along with the large debt that World economic history shows that sustained growth de- raises concerns of a crisis), tends to dampen private sector-led mands sustained improvement in productivity. In the Carib- growth. Redefining the role of the public sector would involve bean, on the other hand, productivity growth has declined, and seeking greater cost efficiencies in key government expendi- the underlying determinants of growth have been of declining tures through greater private sector involvement and regional importance over time. To improve or even sustain past growth, cooperation, including in the provision of education and health productivity growth needs to improve, which means a renewed services; increasing reliance on the private sector to provide focus on the fundamental drivers of growth. Add to this the infrastructure services, such as airports and air services; and in prospects in traditional activities such as sugar, bananas and power, using an independent regional regulator to regulate tourism, which highlight the need for diversification and pro- private provision. Action along these and similar lines would ductivity increases to offset high wages. Some diversification has already taken place, including in niche manufacturing and various service sectors, but this process needs to be acceler- ated to reverse the growth decline of the 1990s in a sustainable way. The challenges in this process are often particular to the small Caribbean states. Given their size, many traditional manufac- turing activities are ruled out. Their proximity to NorthAmerica and migration keeps wages high and reduces the availability of skilled workers for the domestic market. Small size and openness have resulted in high government expenditures, which put a premium on government efficiency in regulation, delivering services and taking investment decisions. Carib- bean countries are also disaster-prone, and this has affected capital accumulation and exacerbated the output volatility that 2 reduce the crowding out by the Government of private sector in infrastructure and addressing these would have investment employment and investment, by reducing the growth and even and growth payoffs. size of public employment. Enhancing the quality and effectiveness of human resources Improving the investment climate for private-sector driven andenablingknowledge-basedgrowth. Learningoutcomesare growth and reorienting it away from being subsidy-driven. very mixed within each Caribbean country, and not commensu- Productivity of investment has fallen significantly in the 1990s, rate with the resources devoted to them. This impacts the which will affect the incentives for private investment includ- quality and learning capability of the labor force. In many ing Foreign Direct Investment (FDI). In addition, there is countries, the initial momentum in the build up of skills has increased global competition for attracting FDI flows. Going been lost. Also, enrollment in tertiary education is very low in forward, the challenge for the Caribbean is to maintain and most countries except Barbados and the Dominican Republic. even increase private investment rates, to make this investment In addition, training is often not based on market demand. more productive, and diversified. It is important therefore that These skill problems are exacerbated by the high rates of the investment climate gives the right signals and encourages migration. The quality and skill mix of human resources, along higher quality and more productive private investment. Rather with other factors such as inadequate linkages between univer- than focusing on generous tax incentives, countries should sities and firms, have led to under-investment in new product focus on building a sound overall investment climate that areas. attracts higher quality investment and creates increased spillovers and linkages with the domestic economy (see Figure Targeting human resources would require improvements in the 2). quality of primary and secondary education to improve learn- ing skills and better address the needs of increasingly knowl- Figure 2: Ratings of the Investment Climate in the Caribbean edge-based sectors of the economy At the same time there is a need to increasing the supply and quality of tertiary education. Specifically, increas- ing private sector provision of tertiary education and asking students to pay more of the cost of public tertiary education (to reduce net cost of public education) through higher tuition fees, a more open environment for tertiary education, im- proved student loan systems and targeted scholar- ships for the poorest. To reduce distortions in the labor market and make labor more cost-effective there is a need to separate the financing and super- vision of training from provision, and to involve firms more in training decisions; and to align public compensation policies more closely with merit and productivity. Note: Articulating a pro-active trade agenda. Atrade regime that Importance rating scale: 3 = moderate importance, 4 = major impor- induces more competition would help foster entrepreneurship, tance, 5 = critical importance; Performance rating scale: 3 = neutral, 4 = good, 5 = excellent improve the investment climate as well as the quality of FDI. This would include negotiating an orderly dismantling of This would include addressing problems of high taxes and preferences, including on sugar and bananas, in return for inefficient customs clearances, skill shortages in some coun- enhanced technical and financial assistance from development tries (an increasingly important issue partners; reducing external tariffs for knowledge-based production to reduce the losses from trade structures), improving specific as- diversion; empowering the Re- pects of infrastructure, setting in place gional Negotiating Machinery to a regional investment promotion cen- represent the region at all trade ter to provide information and catalyze negotiating forums; taking action a process of harmonizing investment to reduce dependence on import and clearance procedures. One spe- revenues by accelerating the cific example of high payoffs is the pace of planning or implementa- growth increase in Haiti estimated in tion of VAT or other domestic tax our projections, arising from improve- systems; and negotiating to im- ments in infrastructure in a country prove market access in services, where much of the infrastructure is especially in the temporary move- highly deficient. Of course, all coun- ment of labor. tries have many specific deficiencies 3 Deepening regional integration. The one cross-cutting theme that recurs throughout the report relates to the potential for A New Report significant gains through deeper regional integration. Acceler- ating the implementation of the CSME, especially in those According to the flagship 15 country report, A Time to aspects related to free trade, free movement of labor, coopera- Choose: Caribbean Development in the 21st Century the tion in education and training, regional standards and accredi- region needs to move beyond decades of reliance on tation, tax harmonization, and harmonizing investment proce- dures, would improve competitiveness of the region as a traditional markets and trade preferences to swiftly diversify whole, and make it a more attractive investment destination. into new sources of growth, exploiting its natural advan- While there are already many examples of regional institutions, tages of location, environment, political stability and demo- such as UWI, the Caribbean Court of Justice, and several cratic traditions. Citing the examples of Ireland and within the OECS, a major thrust is now required to push the Singapore, the report argues that small economies, despite boundaries of the integration agenda, and to tackle the related, politically sensitive issues of national sovereignty. their size, can be competitive in many sectors, particularly in niche marketing. Besides acting to improve sustainable growth prospects, the region needs to cope with natural disasters in a more proactive and collective manner. The Caribbean, especially the OECS countries, stand out as the most hazard prone in the world, with a very high frequency of violent windstorms. While they have built up resilience to such disasters, this could be strengthened further by improving the macroeconomic environment, by improving growth and diversification, by improving insurance including catastrophe risk insurance for those most vulnerable, by pooling capital market risk and improving building prac- tices. Conclusion This is a large agenda, and one that requires considerable The report, which draws upon extensive consultations with political will and leadership. The opportunities are great, but governments, private sector and civil society, recommends time is short and implementation will be key. Going forward, that countries work together to negotiate an orderly disman- Caribbean governments, rather than creating expectations tling of preferences in return for increased technical and about the continuation of preferences or donors flows, should financial support, arguing that trade preferences, combined engage all stakeholders ­ civil society, the private sector, trade unions, the media, donors, and each other ­ in a dialogue and with subsidies, have yielded less than optimal results for the partnership on the challenges and opportunities of new Caribbean nations. In just 15 years, the region's share of sources of growth and competitiveness. Business as usual will European and NorthAmerican imports have fallen from 0.71 no longer suffice. percent in 1985 to 0.27 percent by 2000. Notes "Now is the time to choose a new development path in the 1 "A Time to Choose: Caribbean Development in the 21st Caribbean to meet the challenges of the 21st Century," Century", Caribbean Country Management Unit/ Poverty Re- said CarolineAnstey, World Bank Country Director for duction and Economic Management Unit, World Bank, April the Caribbean. "Innovation and adaptability will be key 2005, Report No. 31725-LAC (See Box). 2 In the study, the included countries are the OECS group-- moving forward, but so too will be political will and the Antigua and Barbuda, Dominica, Grenada, St. Kitts and Nevis, commitment to collectively leverage regional benefits. St. Lucia, and St. Vincent and the Grenadines, as well as The There are some exceptional examples of both domestic Bahamas, Belize, Barbados, Dominican Republic, Guyana, entrepreneurship and domestic-international partner- Haiti, Jamaica, Suriname, and Trinidad and Tobago. ships cited in the reports so we know it can be done. What this study proposes is a menu of options to open the door About the Authors and then invite the private sector in." This note was extracted from the full report. The latter was prepared by a team of Bank staff led by Sanjay Kathuria, and DownloadtheReportat: included a core team consisting of Mustapha Rouis, Michael Corlett, James Hanson, Rina H. Oberai, Kevin Tomlinson, http://www.worldbank.org/caribcrossroads Elizabeth Ruppert Bulmer, andAndreas Blom. 4