In this space last week, in a commentary headlined Are foreigners investing in T&T, the issue of T&T’s capital account was raised in the context of the impact that foreign direct investment has on the quality of life that the citizens of the country are able to enjoy. Between 1998 and 2008, T&T enjoyed significant foreign direct investment, particularly in the energy sector, which led to a sharp increase in the amount of tax revenue that the Government collected resulting in higher levels of foreign reserves as well as the creation of thousands of construction jobs, both relating to the foreign direct investment and to the Government’s ability to push its own infrastructure development plans.
Since 2008, the level of foreign direct investment has declined, as has the level of domestic investment, and the main driver in the economy has been government spending. There were two points made last week that deserve to be expanded upon and clarified in light of new information that has come to hand. The first point is that investors make decisions about the allocation of capital resources based on their expectation or calculation that they would earn a return on the investment that would be enough to repay the cost of their loans over time as well as provide the investors with a profit. To the extent that those investors are foreign, that means an outflow of foreign exchange. Secondly, it was argued that it would be a negative for the local economy, if the reason T&T’s capital account is negative is that T&T nationals are engaging in capital flight with no prospect of that money being returned in the near future and with the returns on that investment being parked overseas.
At the RBC breakfast seminar on Tuesday, I raised with Judith Gold, the International Monetary Fund (IMF’s) chief of mission for T&T, the issue of the possibility that capital flight might be responsible for the fact that T&T’s capital account has consistently been negative for years, which suggested to me that T&T nationals were investing more overseas than foreign nationals were investing in T&T. Suggesting that I might be shocked by her response, Ms Gold called to Olga Kalinina, a Standard & Poor’s director of sovereign ratings, who also addressed the breakfast meeting, to hear what she was about to say. Because of the importance of what Ms Gold said, it is necessary for me to carry her comments and my questions verbatim.
Ms Gold said that the IMF has been studying the issue of the capital outflows from T&T very closely because the numbers have been huge. “In fact, what we realised is that the capital outflows are linked to the energy revenues. There is a strong correlation between the capital outflows and the energy revenues and the stronger the energy revenues, the higher the capital outflows.” Ms Gold said she has had a number of discussions with some of the energy companies themselves. The conclusion that she arrived at is that energy companies do not bring all of their revenues onshore.
Q: So, it’s profits and dividends....
A: ....that stay overseas. That don’t get recorded as profits and dividends, because it is not technically profits and dividends from a Trinidad perspective. They don’t pay taxes on them. They are not recorded.
Q: Is this tax avoidance?
A: I don’t think so. I really don’t think so. I think this is like operating income that is being used by the parent company above and beyond what they need for local operations. So when they have very high revenues, they can cover their local operations easily. They can pay their taxes and then they have this extra income that they use to reinvest and could be in other countries. So they are not reinvesting here.
Q: When you look at T&T’s capital account, you don’t have concerns about the outflows?
A: I don’t want to say that I have no concerns, but it is very strongly linked to the energy sector operations. You see these huge fluctuations and very large numbers. It is not people in Trinidad who get this money and take it to Switzerland. It’s actually the energy companies keeping that money offshore. When you see this capital flight—I’m not saying that people of upper middle-income means are not padding their savings here and there. But those are not the big numbers. The big numbers are the energy companies.
Q: Are you fairly sure about the causality of energy revenues and capital outflows?
A: The correlation is very strong, through discussing with the Central Bank and some of the energy companies, they confirm that this is happening. We had a statistics mission that confirmed it. But it is very hard to track because the energy companies are like ‘This is not tax avoidance. No, of course not.’ Don’t get me wrong: I’m not saying that nobody is taking money out of Trinidad. Obviously, private individuals are. But they are not the drivers. The drivers are the big....When the paper is released (The IMF’s Article IV consultation on T&T, which she said at the start of the speech has been with the Ministry of Finance since March) you will see that chart, if you look deep enough, that identifies the issue. It’s a different perspective. There was a sense when I arrived as mission chief that T&T has huge problems with capital flight. I don’t call that capital flight. It’s probably that I don’t know enough and should do more research, but this is probably not uncommon in oil-rich countries with many foreign operators. What would they do with the money? They can’t keep it here. They either reinvest it in energy, in which case you will see your foreign direct investment much higher and your capital outflows lower. Actually, you may not have them lower. But, at the moment, they are not reinvesting here.....
Foreign direct investment since 2005/06 has been very low. If you exclude RBC’s acquisition of RBTT Financial in 2008, it has been very slow. If I made anything clear, it is that T&T has an issue with the energy sector.”
As noted in this space last week, in the scenario of a small, open economy dominated mainly by the energy sector, the issue of the capital outflows can become very important if there is an energy price shock to the downside. If the price of T&T’s energy exports fall sharply, the protection that T&T has had for years with those exports outstripping our total imports would then not be available to the country. If that situation is combined with the continued outflow of energy revenues, as described by Ms Gold, and other outflows, things could deteriorate very quickly. On the other hand, there is some evidence that the two energy majors that operate in T&T are sufficiently attracted to our deepwater prospects to envision a reversal of the energy revenue outflow sometime in the future.