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Economic outlook: year of challenge ahead

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Bermuda's economy is facing challenges on multiple fronts as it heads into 2019.

A potent combination of increasing taxes, growing external threats to the island's international business sector from the likes of the European Union, consolidation in the insurance sector, an ageing population, ever-increasing healthcare costs and dwindling business confidence suggest a difficult year ahead.

However, there are also bright spots such as tourism's growth trend and an influx of new fintech companies.

Last year, the island probably fell into recession, under the oft-used definition of two consecutive quarters of negative growth in real gross domestic product.

So far, we have only first-quarter figures, which showed a modest 0.4 per cent decline in GDP, adjusted for inflation, year over year.

It would be a surprise if the second quarter managed to record economic growth, given that it will face a tough comparison against the April-through-June period of 2017, when the island was benefiting from the substantial stimulus of the America's Cup.

Retail sales — described by Bob Richards, the former finance minister, as a better barometer of local economic performance than GDP — would certainly suggest a second-quarter slump.

In real terms, retail sales fell for a seventh consecutive month in September. In the second-quarter months, the falls in sales volume were particularly steep: 7.9 per cent, 4.4 per cent and 10 per cent in April, May and June, respectively.

Recession is a word that shakes confidence throughout the community, sparks fears about job security and causes reluctance to spend and invest.

The “R” word is also a powerful tool for politicians to use against their opponents. Last month Craig Cannonier, the opposition One Bermuda Alliance leader, said the island is heading into another recession and urged the Government to act to stimulate growth. David Burt, the Premier, did much the same in opposition in May 2017, when GDP figures showed shrinkage in the third and fourth quarters of 2016.

Even if a recession is confirmed, it should be viewed in perspective. Two quarters of shrinkage, especially when compared against a period of vigorous growth inspired by probably the biggest sporting event the island has ever staged, does not mean Bermuda is plunging into an economic abyss.

Officials at the Ministry of Finance did after all predict growth of 1.5 per cent to 2 per cent for 2018 in the National Economic Report last February. The third and fourth quarters of the year will have a better chance of recording year-over-year growth, given that they will be compared with the post-America's Cup period.

Comparing this year's numbers with 2016 would arguably present a fairer picture of the economy's state of health. Retail sales on island for the first nine months of 2016 amounted to $845.9 million, compared to 2018's $854.4 million, representing an increase of $8.5 million, or 1 per cent, over the two-year period, but a decline when inflation is taken into account.

Tourism offers grounds for optimism with 2018 set to be the fifth consecutive year of growth in total visitor numbers. Air arrivals are on course to top even those of 2017, with 267,024 through the first 11 months of the year.

Growth in vacation rentals, through portals like Airbnb, has helped to boost the market and to attract a younger crowd. During the first 11 months of 2016, rentals made up 11.3 per cent of accommodations used by visitors, up from only 7.2 per cent for the same period in 2016.

While far from its 1980s heyday, when annual air arrivals always topped 400,000, tourism has increased in its value to the economy. In 2017, the industry paid out $460 million in wages, and contributed $162 million, or 16 per cent, of government revenue, according to the Department of Statistics.

There are reasons to hope for further growth in the years to come with the new airport terminal at LF Wade International Airport, due to open in 2020, creating potential for extra airlift, while the new 97-room St Regis hotel in St George's is due to open its doors in the spring of 2021.

Fintech also has some potential. The Government's creation of a digital-asset business regulatory framework in 2018 has attracted a number of start-ups. Mr Burt said last month that 52 fintech companies had incorporated.

The collapse in the dollar value of cryptocurrencies last year has cooled off global enthusiasm for initial coin offerings. The Coinschedule website logged 1,071 ICOs in 2018. Of those, 689 were in the first half of the year. The peak month was May with 144 ICOs, while in December there were only 35.

Local banks' reluctance to service the start-ups is also stalling the sector's development. Many of the newcomers have pledged to create jobs, but how many will materialise remains to be seen.

A wave of mergers continues to sweep through the international insurance and reinsurance sector and despite this, and the erosion of the island's tax advantage from US tax reform, the island is holding its own as a global risk transfer hub. Bermuda's status as the world leader in the booming insurance-linked securities market underpins its continuing relevance.

Confidence, among business leaders and consumers alike, is an essential ingredient for economic prosperity. Thus a survey last year that found a slump in business confidence, amid concerns about the shrinking working population and likely tax increases in the pipeline, does not bode well for growth in 2019.

With baby-boomers leaving the workforce at an increasing rate, the Government projects that one in four people will be 65 or over by 2026. With fewer people paying in and more people drawing out, the pension and heathcare systems will face added strains.

John Wight, the CEO of insurer BF&M, has described healthcare costs as “a ticking time bomb”. Given that employers are the people predominantly funding the healthcare system, this outlook will curb enthusiasm for hiring. Except perhaps some businesses, like rest homes and healthcare service providers, who can benefit from the “silver tsunami” market.

Some business leaders see immigration reform as key in addressing the demographic challenge. Progress on this front — although always a challenging issue in the context of Bermuda politics — could boost business confidence. The Government also plans to increase its tax take to balance its books and start to chip away at its $2.6 billion debt mountain.

The Tax Reform Commission's proposals include a general services tax, a progressive tax on commercial and residential rentals and a withholding tax on overseas services that are provided locally, with the potential to reap an extra $147 million in government revenues.

This year, some of those proposals are likely to become reality. Politicians will face the unenviable task of balancing the need for Government to get its finances in order with the economic damage that would be caused by a taxation overreach.

At least part of the added tax cost will be passed onto the consumer. Rising prices fuel inflation, which in turn detracts from real GDP growth.

Adding to the challenges is the Economic Substance Act 2018, which comes into effect this year. A response to the European Union's demand for action against tax-avoiding entities lacking physical presence, employees or revenue-generating activities on the island, it is likely to impact about 11,000 companies on the Bermuda register, Wayne Furbert, the junior finance minister, said in the House of Assembly last month.

Corporate service providers like law firms would be most affected by the loss of such entities. The hope, as expressed by Mr Furbert, is that some firms will react by raising their level of activity on island to meet the substance criteria.

“Just imagine, if half of those companies were to put boots on the ground, what impact would it have on our economy?” Mr Furbert said. “First of all, our GDP would rise significantly.”

Bermuda can only hope it works out that way.

Recession indicator? Retail sales fell for a seventh consecutive month in September (File photograph)
Modest growth trend: but where is Bermuda's economy heading next? (Graphic by the Department of Statistics)

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Published January 02, 2019 at 8:00 am (Updated January 02, 2019 at 12:11 am)

Economic outlook: year of challenge ahead

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