Envío Digital
Central American University - UCA  
  Number 434 | Septiembre 2017



The specter of the Nica Act is hovering over our already endangered economy

This well-known independent Nicaraguan economist offers valuable data and information on the country’s economy and describes the various risks to it to in the coming year, largely but not only as fallout from the probable passage of the Nica Act by the US Congress.

Néstor Avendaño

I f you were to ask me how Nicaragua’s economy is doing today, I wouldn’t hesitate to say it’s in very good shape, with strong growth. But while economic growth is important, it isn’t yet sufficient to eradicate the country’s high levels of unemployment, underemployment and poverty.

It’s also doing very well with respect to its foreign and domestic financial deficits, which according to official data have dropped as percentages of our gross domestic product. Then there’s the very low inflation rate, the still increasing flow of family remittances from our emigrants and the constancy of foreign direct investment, which is helping to finance our current foreign deficit now that the huge amount of Venezuelan cooperation has disappeared. I’m not the only one to say it. There’s complete agreement in all quarters about the nature of Nicaragua’s economic success, particularly the macroeconomic stability maintained up to now.

The end of Venezuela’s oil agreement requires protecting our reserves

But here’s where I have to pause in my list of things that are going well, because starting last year the economy has begun to face risks. The first is the collapse of Venezuela’s oil cooperation, which is the only one that has become real so far, the only one we already have to grapple with.

Venezuela’s oil cooperation agreement offered us many benefits, but the main one was that itprotectedour international hard currency reserves in the Central Bank of Nicaragua (BCN). Under that agreement, Nicaragua only paid 50% of the oil bill with Venezuela right away, with the remainder of what we owed to be paid off over 25 years on very concessional term. We were thus able to use the rest of the income from the sale of that oil for investment and social programs. Moreover, when oil prices fell, that remaining percentage that eventually had to be repaid lost value, falling first to 40% and then to 30%.

That’s the good part, at least for Nicaragua; the worst and more recent part was that Venezuela began reducing the volume of oil it had supplied us. After providing 93% of our annual hydrocarbon requirements for years, it now supplies only 28%. Nicaragua must therefore buy 70% from the United States and Mexico, for which it has to pay cash. The resulting reduction of our international reserves is both a powerful reality and a latent risk.

Unfortunately there’s no substitute for Venezuela. Mexico has serious problems with the upcoming renegotiation of the North American Free Trade Agreement (NAFTA) between it, the US and Canada, and must even prepare for the possibility of being charged for Trump’s border wall. As for Russia, its emerging economy is growing very slowly and is dependent on oil, which currently has very low international prices.

With no alternative to Venezuela’s generous oil cooperation, the BCN has had to find new ways to protect our hard currency reserves, particularly dollars. Why is protecting them so important? Why not just let their level go down? There are two reasons. First, the backbone of our economic model is the free convertibility of córdobas into dollars. And second, those international reserves guarantee the country’s macroeconomic stability. Without enough dollars in the Central Bank vaults, the exchange rate for córdobas would rise in the financial market, not to mention the black market, setting off an inflationary spiral. In short, the international reserve level has to be maintained to guarantee the stability of the exchange rate and keep inflationary pressure in check.

Reducing the córdobas in circulation. The BCN is using three measures to protect its dollar reserves. The first and most important has been to withdraw a percentage of córdobas, the country’s own currency, from circulation. The means the BCN is using to do this include weekly Treasury bill auctions and simply calling national financial groups to ask them to increase their córdoba reserve deposits with it. The law only requires the nation’s banks to deposit 12% of their córdoba income in the Central Bank daily or 15% biweekly, but that percentage is now up to around 21%.

It’s a good decision and in fact the only one, because the BCN has no effective monetary and exchange rate policies given that the US dollar is the main currency here and a large number of córdoba-dollar price indexation mechanisms are in place throughout the country. Reducing the amount of córdobas in circulation thus keeps the country’s economic agents—consumers, businesses and investors—from using them to buy dollars in order to import more. Back when we enjoyed the Venezuelan oil credit and didn’t have to pay the whole oil bill right away, the importers’ demand for dollars wasn’t such a big detail.

I first commented on this in May last year, when a severe deceleration began to be observed in the córdoba supply in the local market, although the population had already begun to feel it even earlier. Prior to that, the money in circulation was growing at an inter-annual rate of 20%, but that’s no longer the case.

Unfortunately the Central Bank hasn’t explained to the population why it’s taking córdobas out of circulation or the costs incurred in doing so. For starters, it’s decelerating consumption, reducing the sale of foodstuffs, both alcoholic and non-alcoholic beverages, building and hardware products, home appliances, office supplies and even fuels. And that deceleration in sales has automatically triggered an inventory administration problem, which is even worse when the inventories are imported, because it upsets business production decisions. In short, the costs of taking córdobas out of the market are decelerating economic growth, increasing unemployment and underemployment, and reduced credit availability. The Central Bank should make these costs clear and explain why they’re necessary, so people don’t simply feel victimized by processes they don’t understand.

Reducing the printing of córdobas. The Central Bank’s second measure to protect the country’s official reserves is to seriously control the issuing of new currency. I suspect President Ortega will never repeat the crass economic error made in the 1980s of printing money not backed by hard currency reserves, which quickly led to the world’s fourth worst hyperinflation in the 20th century, topped only by those of the First and Second World Wars. Recognizing that protecting the nation is a sacred duty, I’m obviously excluding from the incorrect economic decisions of those years the need to increase spending for the country’s military defense against the Reagan government’s financing of the contra war and economic embargo of Nicaragua. But other very questionable decisions helped push inflation to far higher levels than it should have reached. If President Ortega does order money to be printed, we’ll need to prepare for a major inflationary spiral. I hope he won’t fall into that temptation, even when we’re confronted with what could become very critical moments.

Buying up dollars. The BCN’s third measure is to buy dollars from the national financial system at the exchange rate operating in the monetary authority’s installations.

But even these three measures don’t provide the same security the Venezuelan oil credit did. And therein lies the future risk.

Pending approval of the Nica Act requires a stocking-up of loans

If the best known risk already upon us has to do with the country’s ability to protect its international reserves in a setting other than the one guaranteed by Venezuela’s cooperation, the best known pending risk is the probable US congressional approval of the Nicaraguan Investment Conditionality Act (Nica Act). That bill, first introduced into the House of Representatives a year ago, would authorize US representatives to international financing institutions (IFIs) such as the Inter-American Development Bank (IDB) and the World Bank to vote against any concessional loans requested by Nicaragua.

Just over three years ago the World Bank changed Nicaragua’s classification from a highly indebted poor country (HIPC) to a normally indebted medium-low-income country. During its HIPC status, Nicaragua’s average annual per-capita income was about US$1,000, and it had a very high foreign debt relative to its production. It wasn’t eligible for regular credit in the international financial market, but did have access to very concessional credit funds provided by the IDB and the World Bank’s International Development Association (IDA). Of course it also had to implement the International Monetary Fund’s macroeconomic adjustment and structural reform programs for the national economy in exchange for IMF support for its international reserves. Nicaragua’s classification was changed by 2014 because its annual average per-capita income had climbed to U$1,800. The country no longer has any signed economic agreement or program with the IMF; instead, as of 2012 it has acted as what President Ortega dubbed a “confidential adviser.” Moreover, while it still has access to concessionary loans from the World Bank and IDB, its new classification allows it to apply for non-concessional loans as well.

Thanks to that change in classification, the government started dipping into its US$1.1 billion non-concessional credit line with the Central American Bank for Economic Integration (CABEI) last October as a cushion against the risk of the Nica Act’s sanctions. Because the CABEI obtains its resources on international financial market terms, not concessional ones, Nicaragua couldn’t previously access them, even though it’s a CABEI shareholder like the other Central American countries. But this new debt of a little over US$600 million so far carries a higher interest rate than loans Nicaragua has been accustomed to. Still more CABEI funds can be tapped from a guaranteed and annually renewed credit line of US$200 million made available seven years ago to each Central American country for dealing with foreign currency liquidity problems caused by the 2007-2009 world economic recession and financial crisis. Nicaragua was the only one that never requested any of that money because the public sector didn’t have the capacity to execute any more projects than the concessional ones it was already granted by the IDB and World Bank.

The government has also taken out a spate of new loans from both of those financing institutions since the Nica Act was introduced. Moreover, already-signed foreign government cooperation agreements to fund public sector programs and projects total close to US$520 million. All these resources will protect the public sector against the vetoing of future IFI loan requests and possibly even some inter-governmental loans through to the end of the government’s current term (2020). But while this government entrenchment will protect it from application of the Nica Act sanctions, the private sector seems unprotected. I also note that the ongoing economic dialogue between the government and big business hasn’t been working this time.

The specter of the Nica Act

What do I mean by saying the private sector isn’t protected from the Nica Act? Independent of its concrete sanctions against public investment, the Nica Act’s very existence dissuades direct investment. In fact, the interest of foreign investors has already begun to wane just as a result of its introduction, even without it yet being approved. I also see the private sector as unprotected because the government has made no effort to mitigate this drop in investor confidence.

I already mentioned that one Central Bank mechanism for taking córdobas out of circulation is the weekly auctioning off of T-bills. But since mid-2016, those bills have been concentrated in maturity periods of one week, two weeks and a month. By having to redeem them so quickly, the Central Bank isn’t effectively regulating the amount of money circulating in the market. It would be much more appropriate to place them for between six months and a year, and preferably even longer.

I can only offer two explanations for the very short terms of these T-bills. One is only a personal suspicion, although a very logical one, that has to do with Venezuela being out of the picture. Albanisa, the Venezuelan-Nicaraguan joint venture set up to handle the sale and distribution of Venezuela’s oil and the investment of the profits, originally deposited the córdobas received from the sale of crude and fuels mainly in two banks: Banpro and LaFise. With the collapse of Venezuelan cooperation, these deposits dropped because the new oil suppliers require prompt payment of the entire bill. As a result, one can assume the bankers don’t have a whole lot of córdobas laying around to buy up longer-term T-bills.

The other explanation is that no one in Nicaragua trusts the financial system enough to make long-term financial investments. The announcement of the Nica Act last September probably lowered private sector investor confidence still further. So even if the two banks I mentioned have enough córdobas to make financial investments in the Central Bank, they’re only willing to buy bills they can redeem quickly given today’s uncertainty and the fear that they’ll be left with valueless pieces of paper. That’s the sense in which the specter of the Nica Act is already hovering over Nicaragua.

What are the international assumptions for 2018?

In addition to the early effects of these two risks—Venezuela and the Nica Act—the country will have to start dealing with four others that will very likely grow out of the new US President’s economic policy. But before introducing them, I want to share some data about next year’s economic assumptions as a backdrop, since we economists always work based on assumptions, albeit realistic ones.

Let’s start by looking at how the international economy is shaping up for 2018 so far. According to the IMF, the world economy will grow 3.6% next year, led by countries with emerging economies, such as China, India and the East Asian nations, which are growing at a rate of 4.6%. Europe’s growth will lag behind, and the United States will only achieve 2.1%, which is very slow. President Trump promised it would grow 3% or more annually, but that seems to have been unrealistic in the short run. Some improvement is also expected in the international prices of primary goods.

At least as things stand now, this suggests that, the international economy poses no excessive risk for Nicaragua other than the slow growth of the United States, our main trading partner. Basically speaking, the more the US economy grows, the more Mexico and the Central American and Caribbean counties grow, as they are the most dependent on the world’s main economy. Nicaragua must keep a keen eye on the global geopolitical issues that could slow the growth of the US economy: problems with North Korea, Russia, China…

And what about the domestic assumptions?

Will Nicaragua’s macro-economy remain stable in 2018? I personally believe President Ortega will maintain the macroeconomic stability at all cost and properly administer the issuing of money even if the going gets rough. He knows through unforgettable experience that not doing so would cause a debacle. The Central Bank needs to continue acting as it has been, taking córdobas out of the market, even though that leaves the country with less economic growth.

Another domestic assumption is that Venezuelan cooperation will continue to shrink. In 2016 the oil credit was only worth US$92 million, and I estimate it will be even less this year, approximately US$80 million. Although that doesn’t mean much in macroeconomic terms, the continuing collapse of Venezuelan cooperation and continued contraction of the money supply to preserve the dollar reserves, should this assumption prove true, will further reduce sales of mass consumer goods.

Consumption stopped being a source of economic growth in our country at the end of last year. But if family consumer expenses are no longer contributing to accelerated economic growth, why is our economy still growing? It’s being driven in large part by the huge volume of exports from the last agricultural cycle and what promises to be an even more impressive cycle this year, combined with a relative rise in prices for our export products. The other source of growth I forecast, at least for the rest of this year, is investment spending.

But I anticipate a great risk to foreign private invest¬ment next year. Due to the uncertainty the Nica Act is generating, it could decelerate at the same rate as consumer spending, leaving economic growth exclusively at the mercy of the volumes and value of our exported goods and services. And I’m not even mentioning the investment of Nicaragua’s own business class, which has already begun to drop with the mere announcement of the Nica Act. I see that scenario as more likely than any government move leading to macroeconomic instability.

So whom will the Nica Act hurt most?

The Nica Act is a political risk, but one with serious economic consequences, because without it Nicaragua’s economy would very likely continue its impressive growth. Despite the government’s defiant comments about it, the public sector is already hunkering down in response to the assumption that it will indeed be passed. But surprisingly I’ve heard foreign businesspeople say they’ll continue investing in Nicaragua with or without the Nica Act. One has to ponder how realistic such statements are considering that between 1991 and 2016 some 20% of foreign direct investment in Nicaragua came from the country that would be applying that legislation, while another 22% came from other countries with advanced economies over which the US has very strong influence. Some of those countries could be expected to join the sanctions against Nicaragua.

In the current scenario of sufficient official public sector resources, Ortega appears very laid back, but my impression is that the private sector is quite worried, although it’s not saying so publicly in order to maintain the calm. The private sector’s concern is quite logical, given that it generates 90% of Nicaragua’s gross domestic product.

The advice I’ve reiterated ever since the collapse of Venezuelan cooperation and the threat of the Nica Act first appeared as risks is that we need to prepare for the worst, designing policies to resist any magnified effects those risks could have. That way, if the effects are actually more benign, what we end up doing will be better for everyone and a relief for the nation.

Is the government actually doing that? I don’t really think so, though I’ve heard diverse opinions. I’ve heard it said we should wait until the Nica Act is approved before deciding what to do, which in my view is seriously irresponsible. I’ve also heard that we have to be realistic and not rest on the laurels of the economic successes achieved so far. But I’ve not heard a single word from the voice that matters most—the Central Bank. It’s seemingly just silently waiting and watching. Nor has President Ortega revealed any emergency program in preparation for the consequences of the Nica Act.

Paradoxically, while the Nica Act’s risks to our economy come from abroad, the solution is actually here, inside our own country. And political speeches and rhetoric aren’t the way to deal with those risks. Political actions are needed to resolve them or at least mitigate their effects. Worse yet, government silence on the subject of the Nica Act is only exacerbating the risk. Still worse is President Ortega’s recent reraising of the demand for US indemnification for the damages it caused by sponsoring the 1980s contra war. That makes no sense, and fortunately he hasn’t brought it up again.

The risks matter to the country, not to President Ortega

If I were President Ortega’s adviser, I’d tell him to meet immediately with the leaders of all the country’s political parties with only one agenda point: drafting a program of political actions subject to short-, medium- and long-term accountability. This country’s politicians have to resolve the Nica Act problem, not the business leaders or civil society organizations, two groups whose only role in the matter is to exert pressure.

But the clock is ticking and we’re seeing no sign of any such dialogue, even though relations between the Nicaraguan government and the Organization of American States could take an unexpected negative turn. Will the government show willingness to dialogue? Will the politicians? I don’t know. Politicians in many countries are failing to defend their respective societies, preferring to defend only themselves and each other. This is happening mainly in backward countries like our own, but also in advanced countries and those with medium development.

The CABEI loans have already replaced the US$250 million the IDB and World Bank/International Development Association would loan us each year if not vetoed, so the government doesn’t really care about the Nica Act denying it concessional loans from those two IFIs. Those who think cutting World Bank and IDB loans will affect President Ortega are standing on the wrong dock, because that ship has sailed.

My fear about the Nica Act is based on how it will affect the private sector economy. With investors from the United States and countries it influences totaling almost half of our foreign direct investment, its restriction thanks to the Nica Act would post a major risk, since it’s one of our main sources of economic growth and job creation.

The other Nica Act issue: The corruption list

The Nica Act’s economic risk is magnified by the list of corrupt people this legislation would require the US Justice Department to provide 60 days after it becomes law. I expect that list has already been prepared and even suspect there are two lists: one to be made public and another that will remain secret for political negotiation. Who will be on those lists? They will certainly include money launderers. US authorities have the most information on money laundering operations because all financial transactions by any country pass through a US bank, where it is proven whether the money is licit or not. But corruption isn’t limited to money laundering; it also includes abuse of public resources and illicit financing, i.e. unreported public money that is illicit just by virtue of not having being reported. That is the crime currently being imputed to Guatemalan President Jimmy Morales.

Speaking of corruption and corrupt people, I want to mention that public corruption generally goes hand in hand with private corruption, as my own experience has taught me. At the request of the Comptroller General’s Office during President Bolaños’ term, I analyzed ad honorem the liquidations of the banks that collapsed in 2000-2001, the restructuring of that public debt and the auctioning off of the liquidated banks’ assets. What I uncovered was this: public corruption needs private corruption. While I knew about the corrupt private individuals, I only revealed the public ones in my report, because that was all the Comptroller’s Office asked for. Eduardo Montealegre Rivas, the treasury and public credit minister at the time, was one of the corrupt public officials who participated in restructuring that debt and auctioning off those assets. Although no longer immune, he’s the country’s most famous unpunished corrupt individual.

The threat of corruption in the private banking system

Again referring to assumptions, I want to mention something that particularly worries me: if the name of any director of any financial entity operating in Nicaragua appears on the Nica Act list, this would have tremendously disastrous effects. I think preparations must be made for that.

It would be disastrous because our current reality is different than in the 1980s, when there were very few dollars in the country. In contrast, Nicaragua’s economy is highly dollarized now, albeit extra-officially. Some 90% of loans are issued in dollars and 76% of deposits in the commercial banks are in dollars, as is 70% of the economy’s overall liquiditythat currency. If any banking institution is linked to a corrupt person on a black list requested by the Nica Act, the natural reaction of depositors would be to withdraw their deposits from that financial entity. You only need recall the forced liquidation of Honduras’ Banco Continental, linked to drug trafficking and banker-politician Jaime Rosenthal. Fortunately, the debacle wasn’t all that huge there since it was one of Honduras’ smallest banks.

A flight of dollar deposits in such an unofficially dollarized economy as ours would severely destabilize the córdoba, even without President Ortega ordering the printing of local currency. All loans issued in dollars come from the public’s bank deposits. If people try to withdraw their deposits, they’ll discover there are no dollars, because they were given out in loans to the bank’s borrowers. The current financial balance between deposits and loans is equal to 100%, because the banks don’t have important international funding sources for the loans they make. A moment like that could trigger a bank collapse since the main cause of a bank folding is illiquidity, when it can’t honor its depositors’ demand for their money.

In such a crisis, the public would be unable to get its dollar deposits out and those wanting to convert their córdoba deposits into dollars would find a much higher exchange rate in the financial market and black market windows than the official one due to the demand for dollars. And if that happens, the consumer price inflation rate would accelerate, destabilizing the córdoba. We need to keep in mind the possibility of such an event. Hopefully no representative of any financial entity will appear on the Nica Act list, but should it happen, the Nicaraguan State won’t be able to rescue that financial or banking entity, because the Central Bank only issues córdobas and the Deposit Guarantee Fund only covers a maximum of US$10,000 for each depositor.

Trump’s four additional risks

We’ve already looked at two risks to Nicaragua’s economy: the collapse of Venezuelan cooperation and some consequences of the Nica Act on foreign direct investment and possibly of its list of corrupt officials and human rights violators. Those two are exhausting enough, but there are four more, which grow out of President Trump’s MAGAnomics, a term now used officially in the United States to refer to his “Make America Great Again” slogan.

President Trump was elected on campaign promises that promote 1) a protectionist trade policy, 2) a restrictive migration policy, 3) a fiscal policy that increases spending and reduces taxes for the already wealthy, and 4) a lax banking policy. Implementation of all these policies would represent risks to Nicaragua’s economy. Adding those four risks to the two previously mentioned ones, and throwing in extreme meteorological phenomena, problems caused by corruption or fragile governance and even terrorism, which is now yet another guest at the globalization table, presents us with a highly insecure scenario.

Trade protection: During his campaign, Trump told all US businesses operating abroad that if they didn’t return to the United States he would impose a tariff on everything they export back to the United States. He argued that he would do this to oblige them to create jobs and increase production back home. This is called trade protectionism. The risk that policy poses if he actually tries to implement it is the triggering of a global trade war. Other countries could respond in kind, imposing tariffs on the importation of US products. Trump claims he expects the US economy to grow with this policy. To the degree that companies that still produce goods themselves rather than outsourcing them actually come back, there would be immediate economic growth, but the US economy would decelerate in a hypothetical longer term, even in the best of cases. And in the worst case it could trigger a huge economic depression. We only need to look to world economic history. US President Herbert Hoover (1929-1933) established a trade protectionist policy in 1930 like the one Donald Trump has been talking about. The Hawley-Smoot Tariff Act was an attempt to protect American jobs and farmers from foreign competition as the world’s economy entered the first stages of the depression in late 1929, but instead it unleashed global trade wars and was considered by some economists to have been a leading cause of the depression itself. Others recognize it as a major aggravating factor. In today’s far more globalized world economy, the risk of trade protectionism promoted by the United States would be the emergence of stagflation: a severe economic depression due to a drop in production combined with major inflation. While Nicaragua’s dependence on trade with the US makes us particularly vulnerable, we’re talking about a global depression from which no country would be immune.

Another effect of the trade protectionism Mr. Trump proposed is a possible review of the Free Trade Agreement between Central America, the Dominican Republic and the United States (DR-CAFTA). I’ve heard many novice politicians offering “expert” opinions in the media that Nicaragua won’t be touched in any review of CAFTA. It makes me laugh. I’ve never been to Washington, and don’t say anything based on “sources.” Everything I say in public or confirm comes from my own economic scientific investigations and analyses of problems, not from any political fervor or sentiment. It’s often said that the difference between a politician and an economist is that a politician speculates and an economist forecasts, and I can tell you that there’s a big difference between the two.

That said, I proved through investigation that in late April of this year President Trump ordered his commerce secretary, Wilbur Ross—among many other things the founder of International Textile Group, which opened a textile plant in Ciudad Sandino here in Nicaragua under the free-trade zone arrangement in 2009 but closed it almost immediately—to analyze any US international trade agreement with any country to see how it was affecting the United States. President Trump, himself a world-class outsourcer, has emphasized that any trade agreement must guarantee the economic growth of the United States and contribute favorably to its foreign trade balance. In other words, the United States must have a surplus and not a deficit in its economic relations with free trade agreement countries and the agreement must favor the US manufacturing base so that the country’s gross national product will grow faster.

Trump effectively tasked Ross with determining whether the United States is being treated “equitably” in the free trade agreements it has signed, and sent him a list of eight countries that have free trade agreements with the United States to compare the trade results from before the treaty to those of 2016. The following are the surpluses and deficits the United States has with the eight countries on the list, including Nicaragua:

Canada: Canada’s trade surplus of over US$9.84 billion with the US in 1989 had grown to a little over US$12.106 billion in 2016.
Costa Rica: Our neighbor had a deficit favoring the United States of more than US$1.747 million in 2009, which by 2016 had dropped to US$1.564 million.
Israel: In 1985 it had a deficit with the United States of just over US$226 million, but by 2016 it had a surplus of more than US$9 billion.
Jordan: It had a trade deficit with the US of over US$243 million in 2001, which by 2016 had shifted to a surplus of US$62.372 billion.
Mexico: Its trade with the US showed a deficit of more than US$1.663 billion in 1994, the year NAFTA went into effect. By 2016 it had a surplus of over US$63.19 billion.
Panama: It had a trade deficit with the United States of more than US$7.862 billion in 2012, which dropped to just over US$5.736 billion by 2016.
South Korea: In 2012 it had a surplus of some US$13.199 billion, which grew to just over US$27.666 billion in 2016.
Nicaragua: Our US$555 million surplus with the United States in 2006, just before DR-CAFTA went into effect, had increased to nearly US$1.829 billion by 2016.

Trump observed that ever since the free trade agreements with these countries went into effect, the US trade surpluses with two of them—Panama and Costa Rica—dropped, while its deficits with three—Canada, South Korea and Nicaragua—increased and its trade balance with the other three—Mexico, Israel and Jordan—shifted from a surplus to a deficit. He’s not interested in the origin of the US deficit or in reducing the US surplus with any country. All he wants to know is how to correct the deficit, wherever it may come from and whatever the foreign trade modality in the treaty in question.

Nicaragua’s trade surplus with the United States is largely explained not by the export of domestically produced or grown goods, but by the gross value of the exports from assembly plants (maquilas) operating in the free trade zone regime. These plants only leave behind 26% of the value of those exports in Nicaragua in the form of wage payments; the cost of public services such as electricity, water, sewage and telecommunications; and the rent paid for the buildings they operate out of. The rest goes to the companies’ country of origin, which is the United States in over half of the cases, but also South Korea, Taiwan, Mexico and a few others. Some 80% of these plants work in textile/garment lines, using largely imported basic materials and sewing the clothes for re-export. Their entire production is sent to the United States, together with over half of the other products exported under this regime, although harnesses and jalapeño chili pepper are sent to Mexico.

President Trump set a deadline of 180 days, until the end of October, to reduce the US trade deficits and increase its flagging surpluses with the eight countries that have a free trade agreement with the world’s largest economy. I believe the risk for Nicaragua is high. The free trade zones in Nicaragua employ 120,000 people. Although the official figure for the average size of a Nicaraguan family is 4.3 people, let’s round it off to 5. The worst case scenario of re-examining Nicaragua in DR-CAFTA is thus that it would expose 600,000 Nicaraguans to a return to poverty. I hope I’m wrong and the risk is lower, but, to repeat, the best advice an economist can give is to prepare for the worst.

Migration: Trump’s migration policy could also end up being a risk for our economy, since one of his campaign promises was to deport all undocumented migrants to their countries of origin. Those Central Americans most affected by this measure and the ones who will most resent this measure are from the dangerous Northern Triangle countries, but undocumented Nicaraguans are already beginning to be deported as well. The consequences, apart from the obvious increased unemployment rate, include a reduction in the flow of remittances, reduced consumer spending and an increased arrears rate for personal loan and credit card payments by the families that received those remittances.

The results of a reduction of credit either for this reason or others are important. We need to remember that in Nicaragua one of the effects of the great world economic recession in 2009 was that 60,000 Nicaraguans were sued for not paying consumer debts acquired with credit cards. The bankers were as responsible as consumers for this problem, if not more so, because they gave out credit cards with a free hand, whether the recipient was a healthy credit risk or not. New arrears on such debts will slow economic growth as it did then. Moreover, Trump has added to his migratory policy the possibility of imposing a tax on the remittances of all Latino migrants to finance the construction of his longed-for wall between the United States and Mexico.

Last year’s remittance flow to Nicaragua was US$1.264 billion and the gross flow of foreign direct investment was only a little more than that: around US$1.44 billion. These are Nicaragua’s two most important sources of hard currency at this time, and both could be affected by Trump’s migratory policy and the Nica Act. They are thus both important risks, which should worry any serious and responsible politician inside government or out. Nonetheless, they are still not being discussed and no effort is being made to cushion their effects on the population. It’s as if they had no national importance.

Fiscal policy: Let’s now look at the risk hidden within President Trump’s fiscal policy. His campaign promise was to reduce the income tax rate to 15% for both businesses and individuals, which mainly lowers the direct tax on those with the most. He also promised to increase investment spending on economic infrastructure and defense. Lowering taxes and increasing spending will expand the fiscal deficit at a time when the US economy is very close to full employment, with an official unemployment rate of 4.3% of the economically active population and an inflation rate close to 2%. In this positive situation, Donald Trump said he would do what shouldn’t be done, bolstering inflationary expectations in the United States. Will he actually do it? And if he does, will it generate more inflation expectations? What would the US Federal Reserve (FED)—equivalent to a central bank, which in the US is very independent of the executive branch, responding instead to Congress—do in response to more public spending in a situation of near full employment? It would surely further increase interest rates, which have already begun to climb and are now in the range of 1-1.25%. The reasoning is that an effective monetary policy is based on central bank management of interest rates. If a central bank raises inter-bank interest rates it will make credit more expensive and thus reduce consumer and investment spending to subdue the growing inflation.

In 2007-2008, when inflation decelerated in the United States with the great world economic recession, the FED lowered the interest rate to the 0-0.25% range so that economic agents, producers and consumers could get loans with low financial costs and thus help reactivate the economy, create economic growth and increase inflation. Nine years later we’ve begun to see those economic results. If US interest rates are raised to neutralize the inflationary expectations of President Trump’s questionable MAGAnomics, international financial investors will prefer to send their capital to that country, because it would give them better yields. That, in turn, will make dollars both scarcer and more expensive for our countries. This is already happening and is affecting the private sector, remembering that the public sector is already dug in for the rest of this period.

In this situation, the dollar would be strengthened relative to other hard currencies such as the euro, the yen and the pound sterling, appreciating as the other hard currencies depreciate. This in turn would shoot up the US trade deficit, because US products would be more expensive in the international market as a result of the strengthened dollar, while foreign products imported into the United States would become cheaper. Given that this is precisely what Trump wants to avoid, it’s yet another contradiction, demonstrating the limited grasp the President and his main economic advisers and officials have of these issues. None of these policies are yet certain and Trump’s plan could be impeded by the Republicans in Congress, who are the only ones with the votes to halt the President’s economic populism.

Another effect of rising interest rates on our countries would be the increased cost of foreign debt service payments in US currency. And given that the bulk of Nicaragua’s debt is in US dollars, this will tend to have a negative effect on its public finances. I’ve heard many opinions about Nicaragua’s foreign debt by politicians, who at least agree that it’s continuing to rise. But they’re referring to the total debt in millions of dollars, which suggests they don’t know that in macroeconomic analysis the weight of the foreign public debt is determined as a percentage of the gross domestic product (GDP). And the reality is that this percentage dropped to 38% of the GDP in 2016. At the end of last year, the foreign public debt balance was US$5.42 billion, which includes US$1 billion pending restructuring with Costa Rica and Honduras in the Highly Indebted Poor Countries framework. If the debt with those two countries is indeed restructured, the percentage would drop to 31%.

Before the 1980s, Nicaragua had a low foreign public debt in production terms. It rose from 24% to 45% of the GDP between 1970 and 1978. But by 1989 it had increased to 940% of the GDP, much of which was the multiplying of the debt service because we were unable to pay. The total value of Nicaragua’s FOB exports of goods was barely equivalent to US$331 million.

But we mustn’t forget the domestic public debt, which was US$888 million last year, equivalent to 7% of the GDP. This includes compensation payments for confiscated properties back in the eighties, the 2000-2001 bank collapses and the issuing of public debt to guarantee macroeconomic stability, and it could grow significantly in the near future to bail out the Nicaraguan Social Security Institute (INSS). People covered both by INSS’ current health and future pension systems get very anxious when told they could lose that coverage because INSS is on the verge of becoming insolvent, but the fact is that no social security institution has ever gone bankrupt. Instead, coverage ends up maintained by greater domestic public indebtedness. Far more serious, however, would be a government decision to shift what we understand to be the private debt with Venezuela, presumably owed by Albanisa, to public debt. Should these worst case scenarios occur, the total combined domestic and foreign public debt would reach around 80% of the GDP, turning Nicaragua back into a severely indebted country in production terms.

Banking policy: A fourth risk of President Trump’s touted policies is the financial liberalization he has promised Wall Street. He pledged to eliminate the Volcker Rule, a regulation imposed during the Obama government after the 2008-2009 crisis to eliminate speculative operations by the Wall Street banking institutions. Trump has also proposed reducing consumer protection from financial services. He has publicly stated that the international agreements to regulate banks are an obstacle to the growth of international credit and that the regulation should be lax. The risk involved in applying this is that it would trigger a world economic recession similar to 2007-2008, which hit Nicaragua in 2009, when the real GDP fell 3.3%. It would again be a world crisis, because we now know that national financial crises no longer exist in this globalized world economy.

The sum of all risks

To wrap up this discussion of risks, I‘d like to formulate an assumption. Let’s assume the total flow of external resources into Nicaragua (family remittances, foreign direct investment and external cooperation with the public and private sectors) drops by 10% in 2018, which is a very conservative estimate. How would that affect the country’s gross domestic product and international reserves? Contrary to our forecast that without external risks the GDP would grow 4.8%, it would very likely fall 3.3%, and the gross international reserves would shrink by 11.5%.

What’s more, if nothing changes in Nicaragua—by which I mean no political dialogue; no electoral rectifications; no guarantee of human rights, rule of law or governance; and no clampdown on corruption—the drops in production and international reserves could be even greater, particularly if the Nica Act is both passed and implemented. And that would bring very serious problems. For example, a reduction of only 1% in the GDP would produce a 7% increase in overall unemployment, a 1.2% drop in tax collection and a 1.3% shrinkage of credit available through the financial system. Multiply these numbers by 3 to see how things would worsen if the GDP were to fall 3%. And of course, if there’s also no solution to the other risks I’ve outlined, particularly the external ones, the situation could be even worse.

The employment picture

If some of these risks are already affecting us, others are lurking at the doorstep of an economy that, as I said at the beginning, is otherwise doing very well, with important economic growth, even if it’s not enough to eradicate the high unemployment, underemployment and poverty levels.

Having said that, let’s take a look at employment in Nicaragua. It’s become an even more polemical issue since Central Bank President Leonardo Ovidio Reyes recently released a report by the Nicaraguan Institute of Statistics and Development (INIDE) purporting to show that we have full employment. It’s an extraordinary conclusion in a country that is Latin America’s second poorest. Quite apart from the questionable figures on open unemployment, the report’s greatest omission is its failure to admit to the country’s underemployment. A quick look around is all it takes to reveal Nicaragua’s immense amount of indecent employment.

By putting his seal of approval on this report, Ovidio Reyes has seriously contaminated the Central Bank’s technical and professional credibility. I cut my teeth in the Central Bank and have been professor to many who now hold high public posts in the country, including Ovidio Reyes, who is a much better economist than his predecessor, Alberto Guevara. But instead of talking only about monetary, financial and exchange policy, which is his function, he has issued opinions on sectoral production, employment, remittances and poverty, which are outside the remit of a central bank president.

It’s one more example of the generalized disorder in our country’s economic discourse. I took the liberty of using the public media to inform Ovidio Reyes that he shouldn’t be reporting on the results of INIDE’s surveys. Apart from the fact that it’s INIDE’s own responsibility, he isn’t an export on labor economics. It should fall to the labor minister, but the Ministry of Labor seems to have been turned into a ministry of complaints where only the legal minimum wage is debated. I firmly believe the Central Bank needs to remain above such moral risks. If macroeconomic stability consists of ensuring low and stable inflationary pressure and a stable exchange rate, what is the Central Bank doing estimating the consumer price index? Did someone decide it should be both judge and party? Some other institution, either INIDE or the Labor Ministry as I mentioned, should be staying on top of the purchasing power of wages and salaries. Another piece of advice I gave Ovidio Reyes publicly was that he should use his post to help technically strengthen the Ministry of Labor, so it can perform its proper job of making informed statements on the employment, unemployment, underemployment and full employment rates.

Underemployment: Ovidio Reyes claimed that Nicaragua’s unemployment rate is 4% and that 96% of economically active Nicaraguans thus have work. I don’t think anyone anywhere believes that, not even in the Central Bank itself. Moreover, by treating unemployment so simplistically, he neglected to mention that 43% of the employed population is underemployed.
What does it mean to be underemployed in Nicaragua? It means working less than the eight-hour day defined by the labor code. We call this visible underemployment because we know those people can be found looking for more work. Or it means earning less than the legal minimum wage, which makes it an illicit wage. We call this invisible underemployment because the person may even be working more than eight hours a day. Only 57% of Nicaraguans with jobs are not underemployed, and that includes both the self-employed and formal employees, i.e. those who contribute to the social security system, have their income taxes withheld and are in general counted within the system.

The informal sector: Ovidio Reyes also forgot to mention that nearly 80% of people with jobs are in the informal sector, which means they work in or own small or micro businesses that don’t keep accounting records, which in turn means they don’t pay income tax or social security quotas. To sum it up, only 25% of the economically active population pays into social security.
Ovidio Reyes further neglected to explain the problem of overall unemployment. In a country like ours, an openly unemployed person has only two choices: either be kept by someone (a relative or a partner), or turn to delinquency. The most the BCN president mentioned on the topic was that underemployment is “very serious,” but he didn’t think to mention that those who are underemployed, especially visibly underemployed, only working part time, which means they are unemployed part time as well. We economists are supposed to estimate these people’s unemployed “man-hours” because that facilitates estimating the unemployment-rate equivalency to underemployment, which can be added to the unemployment rate. Doing so gives us the overall unemployment rate, or labor force underutilization rate, which in Nicaragua approximated 20% of the economically active population last year. In other words, 690,000 economically active individuals didn’t generate income in 2016, which is something else Ovidio Reyes forgot to explain.

Yet another detail he neglected to mention is that each year approximately 130,000 young people enter the labor market looking for work for the first time. Since the number of job posts in Nicaragua isn’t growing by the same rate or anything close to it, this means a significant number of new soldiers joining the army of unemployed each year, or pushing older workers out and taking their jobs.

The poverty levels

I’d like to comment briefly on the poverty levels in our country, since they are so intimately linked to unemployment. The results of the latest living standard measurement survey for 2016 also left some doubts, as it stated that the probability of being poor in Nicaragua had dropped from 30% to 24%.

The methodology used by the World Bank, which didn’t participate in this survey, measures poverty by the level of people’s caloric intake. I’m critical of this methodology, because if one gives food to Nicaraguans with the lowest incomes, will they no longer be poor? In my view, poverty should be measured by the capacity to generate income and not by food consumption. There are also other methodologies, for example one based on unmet basic needs. When the World Bank applied that methodology in the 2014 survey, it showed that 40% of Nicaraguans have at least one unmet basic need, a figure higher than the 30% poverty index.

With all these methodological contradictions, and based on the 2014 living standard measurement survey, I took all incomes of the 99 percentiles of the population. I didn’t do it by quintiles or deciles, but by percentiles. In each percentile I combined all incomes of the families involved; not only salaries or wages, but also family remittances, interest earned from savings deposits, state transfers and even lottery wins, since the poor buy lottery tickets more than others.

I came to three conclusions. First, even using all their income, 42% are unable to buy all 23 food products in the standard basic market basket. Second, 60% are unable to buy all 53 products in the basic product basket, which includes additional things like clothes, shoes, soap and electricity. And third, 75% are unable to acquire even low-income government housing, desspite the state-subsidized interest rates. What, then, is Nicaragua’s poverty level? Was it really only 30% in 2014? Poverty levels have to be determined by the capacity to generate income. And promoting that capacity means investing in education and generating jobs, by which I mean decent jobs.

Economists unite? Or wait for a call?

Some ask if the country’s economists shouldn’t join forces to draft a national proposal that responds to the risks before us. But regrettably, we’re the most dispersed among professionals. In 1995 I made an attempt to unite three economists of different schools for that same purpose: to write up a proposal to the nation. I failed then, and I’m sure it would be even harder now. We all speak as individuals, and there are a number who no longer speak at all, out of fear. In contrast, some others are very confrontational, but they’re like hammers hitting stones; they make sparks, but don’t propose anything. There are still others, and I would include myself in this group, who both criticize and offer some recommendations. But we don’t sit around waiting for a phone call from the government as we know we’re non grata. Even if the solution to all this has a political nature, I still think politicians should give economists a call, because I believe we could help bring the country’s diverse political forces closer together by pointing out the gravity of this moment. They could do it, but I don’t know if they’ll want to…

This moment certainly merits it, because it’s acritical one. The Nica Act is going to affect the private sector and especially investment. If the flow of foreign direct investment falls, so will the creation of job posts, and foreign companies already operating in the country will probably be pressured to leave. That would generate still more unemployment, and the combination of less job creation and the closure of some companies will reduce families’ consumption, affecting their wellbeing.

Arturo Cruz, Jr., a Nicaraguan historian and former ambassador to the US who speaks out a lot on economics and politics, said once that President Daniel Ortega’s economic policy reflected a “responsible populism.” But what’s the last cry of a populist when a crisis breaks out? Every man for himself!

Nestor Avendaño is president of Consultants for Business Development (COPADES).

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