One answer to concerns about speculative capital

Re: Speculative capital an economic weapon of mass destruction

Foreign currency exchange fluctuations are normal occurrences and should not be a surprise to the government. Here in Costa Rica, whether the dollar appreciates or depreciates over the colon is favorable to the local economy depends on which segment of the economy you are referring to.

As an example: If the dollar appreciates over the colon, it would benefit export simply because the Costa Rican goods are cheaper in the destination country. It would likewise benefit tourism because the dollar gets more bang for the buck. However it would mean imported goods more costly and increases inflation.

On the other hand, if the dollar depreciates against the colon, the opposite is true. So whether it is a positive or a negative depends on which segment of the economy one is referring to. Have you notice that around year end the colon rises against the dollar just about every year? Year end is also the time Costa Rica’s loan payment is due and having a strong colon or a temporarily suppressed dollar is advantageous to the local government.

In terms of speculative dollars entering the economy, this is a totally different issue. “Speculative” money coming into the country may be a real estate bubble, for example where real estate is being “speculated.” However it appears that the Costa Rican government is referring to money coming into the country and not being spent (the velocity of money) and just parked in the bank to collect (high) interest, and the bank reportedly made the comment that the interest paid benefits not the local economy. Another reader had already pointed out that the money the bank received as a deposit is, can be or should be loaned out to local businesses and therefore DO benefit the local economy. This is true in principle but, unfortunately, does not always translate into practice. Below is an example of what is actually happening:

A friend of mine needed a loan for his business but the interest his bank charges him was so high that he found it impossible to accept. When he approached me about it, I asked him what kind of loan he was seeking from his bank. It was a loan in colons. I told him to approach the bank for a dollar-denominated loan, and he got the loan in half the interest rate charged for the colon-denominated loan he had originally asked for. The locals often do not know about this big difference.

Going back to the bank comment that the interest they paid did not even benefit the locals, I would imagine the steps this “speculative” money would be that once deposited into a local bank that the dollar would be converted to colon and park there to collect double digit percentage interest. I would assume that the central bank has control of their interest rates, and maybe this is where the government needs to or can concentrate on. Why is the interest paid in a colon deposit so high? Would not lowering the interest paid to a colon deposit simultaneously lower the interest charged to a colon-denominated loan benefiting the locals, keeping the existing spread? This would also address the government’s concern of too much “speculative” money coming into the country. The Federal Reserve in the United States has lowered and maintained the interest rate close to zero. Banco Central can do likewise.

The suggestion in your Friday’s leading article “Business leaders favor tax on money leaving country” is a dangerous move and may well end up with the unintended consequence of severely reducing proper funding of the local economy from outside dollars. Is the proposal of adding a “surcharge” to incoming dollars the answer? What would it do the vast expat community living in the country on a fixed pension or income? Is this just another pretense for more taxes? Others had told me this is just another tax in disguise. Without debating the mind of the government, I rather like to offer a suggestion. It is a very simple step on paper but it is complicated and far reaching and requires foresight and political courage — that of pegging the colon to the dollar.

We all know about Hong Kong but not all know that the Hong Kong dollar is pegged to the greenback. Presently the peg is US$1.00 = HK$7.80  Cayman Islands, British West Indies, pegs the Cayman dollar to US$1.20 and has been doing so for years. Tourism is big there, and when the cruise ships drop anchor and the passengers come onshore, the population doubles. And the standard of living in the Cayman Islands is really high. I know. I lived there. Yet tourism does not suffer. One big advantage of a pegged currency is stability. I needn’t expound on how detrimental uncertainty is to the economy. Businesses hold off activities like expansion or employment because they do not know what new taxes, laws, etc is in the works: In this case the exchange rate between the greenback and the colon.

With stability resulting from pegging the colon to the greenback business has time to adjust and take into consideration of the exchange rate and this rate becomes the new (but constant) normal. Pegging the colon to the greenback is not a perfect answer in a multi-currency world but will solve the bulk of the problem facing the country as most of her trade and loans are in dollar.

Dennis Jay

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