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The reality of stimulus spending in Bermuda

This is the first in a two-part series by Kevin Comeau

on how best to stimulate Bermuda’s economy

The new OBA Government must now decide the best way to stimulate Bermuda’s struggling economy. This is obviously an important issue because if they can get it right, they will create new jobs while decreasing the national debt; but if they get it wrong, they may cause Bermuda to continue its downward spiral into economic depression.

The problem is not unique to Bermuda. Many economists, businessmen and political leaders around the world are trying to decide the best way to stimulate their respective economies. Some argue that government spending is best; others believe tax cuts are the way to go.

Because there are merits to both sides of this economic debate, it is difficult for these countries to decide which road is best for them.

Fortunately, in Bermuda, the appropriate choice is much less difficult because Bermuda’s economic structure is fundamentally different than that of most other countries.

Why Government stimulus spending doesn’t work well in Bermuda

Bermuda’s economic structure has three unique factors that dramatically decrease the effectiveness of stimulus spending.

First, unlike most countries, almost all goods and materials purchased in Bermuda are imported from foreign sources. That’s a big problem for many stimulus spending programmes because every dollar of spending that goes toward the purchase of foreign materials adds zero benefit to the Bermuda economy.

For example, Government spending on physical infrastructure like the new courthouse was helpful to the extent the money was used to pay local architects, contractors, masons, electricians and general labourers, but it was unhelpful to the Bermuda economy to the extent the money was used to pay for the foreign-produced bricks, steel beams, lumber, drywall, electrical wiring, tile, new furniture and hundreds of other items that were purchased to build and furnish that building.

In other words, Bermuda’s reliance on imported goods and materials generally makes spending on physical infrastructure in Bermuda a less effective economic stimulator than similar spending in other countries where all of the labour, goods and materials are produced in that country.

Second, unlike most countries, the main driver of Bermuda’s economy — International Business — consists of foreign companies that sell their products outside of Bermuda. That means that Bermuda Government stimulus spending in Bermuda will effectively do nothing to stimulate demand for the products sold by the companies that are the main driver of the Bermuda economy.

And since a huge number of Bermuda local companies do their hiring based on the direct and indirect demand for their services from International Business, stimulus spending will provide much narrower “trickle-down” benefits throughout the Bermuda economy.

Finally, and perhaps most important, it is structurally much more difficult in Bermuda to raise the tax revenue needed to pay for stimulus spending because International Business — the main driver of the Bermuda economy — consists of foreign companies that can easily arrange their affairs to minimise their exposure to Bermuda taxes by simply moving jobs to other jurisdictions (as they have been doing for the last four years).

So even if stimulus spending in Bermuda were an efficient way to create jobs in Bermuda (which, as discussed above, it isn’t) the raising of taxes to pay for that spending could trigger a large exodus of jobs at a much faster rate than in other countries, thereby negating much or all of the benefits of the stimulus spending. Indeed, the exodus of IB jobs after the large payroll tax increase in 2010 is a perfect example of that problem.

In other words, most other countries can raise taxes without fear of a large percent of their companies simply getting up and leaving the country. But in Bermuda, that is not the case. A significant increase in taxes will result in a large exodus of the companies that form the core of Bermuda’s economy. For that reason, increased government spending (and the debt it creates) is much harder to pay down in Bermuda and it would take a much lower debt threshold to cause a complete collapse of the economy.

So the reality is that, in Bermuda, Government stimulus spending creates much less benefit and has a much higher cost than stimulus spending in other countries — it provides proportionately less stimulation to the Bermuda economy and it results in higher tax costs that cannot be easily passed on to anyone other than Bermudians.

Most important, the debt threshold created by stimulus spending will bring Bermuda to economic collapse much sooner than it would in other countries because Bermuda can’t easily pass on that debt by increasing taxes without risking a mass exodus of International Companies and jobs.

That makes Government stimulus spending in Bermuda not just a high cost/low benefit proposition — which is always a bad investment — but it also makes it a very dangerous game that could easily lead to economic collapse. For that reason, the Bermuda Government should try to find a more effective, less expensive and less risky method of stimulating the economy.

Kevin Comeau

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Published December 22, 2012 at 8:00 am (Updated December 21, 2012 at 7:29 pm)

The reality of stimulus spending in Bermuda

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