By Sameer Sharma

All finance ministers operate within a system, and unless the people and the politicians as a whole push for change, macroeconomic policies will remain constrained. In order for Mauritius to transition from an upper middle income to high income economy, there are three key steps which it must take and pass with flying colours. Firstly, Mauritius must drastically improve the quality and efficacy of its institutions which revolve around better governance. Secondly, Mauritius must open itself up to foreign talent and grow its population in size. Thirdly, Mauritian policy makers must get the creation of an innovative and inclusive ecosystem right.

Good governance in itself can only occur with a strong degree of political reform and a change in mindset. For far too long, different Mauritian governments, which are all a function of an outdated political system of spoils and exotic ethnic based calculations, have not wanted to reform the way in which government bodies and key public institutions work. In Mauritius, we put the wrong people at the wrong places and, worse, we seek zero alignment of interest and accountability from them.

A well functioning democracy will only thrive with effective checks and balances, and for this to occur, we need a change in mindset. Over the past two decades, we have become quite good at writing good laws on paper and at ticking the boxes so that we can move up global rankings, but our approach will take us forward no further.

An ineffective ecosystem of bad governance

Looking at the budget as a tool of macroeconomic orientation in isolation of other government policies is not sufficient. Is Mauritius ready and willing to drastically improve the quality of governance and allow meritocracy to take root? I am not too sure that neither the budget nor any government policy over the last 20 years even got us started. From the State Bank of Mauritius to the Central Electricity Board, the result of bad governance and lack of alignment of interest and accountability is for all to see.

A finance minister can come up with the best of budgets or even an average budget, but if he/she is unable to implement his/her policies especially when it comes to investments because of an ineffective ecosystem that bad governance and inefficient project management breed, then the multiplier effect will remain low. Bad project management is the Achilles heel of any budget in Mauritius, and there are structural reasons which need to be addressed. A lot of this starts with improving the effectiveness of our institutions and of evolving the quality of our political system. The issue then is not whether the budget is the best one ever or an average budget, but whether it can be effectively implemented.

When it comes to opening up Mauritius to foreign talent and strategically growing the population beyond the silver generation, the government through its budget appears to be moving in the right direction. Mauritius barely registers in Africa, let alone globally, when it comes to innovation especially when it comes to anything digital. A lot can be said about the Mauritian private sector, but we need to look beyond this now.

Corporatism rather than capitalism has prevailed for far too long in Mauritius.

Mauritius is a good and relatively safe place to live in, and if we are able to create the right funding ecosystem and predictability in our policies, we should and can attract foreign talent. It appears that concerns revolving around foreigners being responsible for land price inflation are being partly addressed by the construction of affordable homes for the poor and the middle class. Project implementation and management issues aside, the short term impact of construction is likely to be higher imports, and the growth impulse is likely to be pressured at first. Over the longer term, the idea of more openness to foreign talent and affordable housing for the locals is a good one.

The creation of an inclusive and innovative ecosystem cannot be divorced from the first two points. Corporatism rather than capitalism has prevailed for far too long in Mauritius. This nexus between some in the private sector and politicians of all parties has not only made middlemen rich but has perpetuated this notion that it is all about what you are born with and who you know. Those local talents who have neither of the two either accept their fate and operate well below their potential until retirement, or leave to places which will recognise their talent. You will never innovate if you surround yourselves with the same yes men all the time, and that goes for both the public and the private sector.

Land value taxation is known to be very efficient

I also find it curious that in a country which has an 11th rank in the ease of doing business, politicians, individuals and corporates have two years worth of the country’s GDP in foreign bank accounts. It says a lot about the country when the elite do not really believe in it but rather prefer to milk it. To be fair, Mauritius does have a respectable social safety net for its size. Inclusive growth is about equal opportunity and, be it the heterogeneity in school quality across regions to the need to know the right people at the right places to make it, Mauritius does face challenges which the budget has not addressed.

The negative income tax idea of a few years ago was a positive step in the right direction when it comes to re-distribution, and there is no doubt that a more progressive tax regime is needed in Mauritius. However, a more progressive tax regime needs to be efficient. Firstly, when people feel that the state does not work for them, they will not like to pay more taxes. Secondly, rather than increasing the marginal tax to 40% on excess income above the 3 million rupee threshold, the government should have focused on more efficient and less economically harmful ways to tax the economy.

For example, it makes zero sense today that villages such as Tamarin, Triolet, Grand Baie and many others are not converted into towns and have their locals pay municipal taxes. In turn, higher taxes channelled through districts and local bodies could make their way towards the informal sector via contracts for small scale work giving preference to small entrepreneurs of the community. This decentralisation of power and stronger local bodies would not only be a net positive for democracy in Mauritius, but also it would show people where their money is being spent more clearly locally.

It is the entire island which needs to enter the digital era.

There is also no reason why Mauritius should not tax the rentier economy, which brings little added value to the economy, via land value taxation which is known to be a very efficient tax. The idea would be to tax all land belonging to people above a certain plot size but create incentives for productive rather than speculative land use. Accountants know how to hide income, but land and municipal taxes is another story.

The idea is not to destroy land owners but to incentive them to change and earn the tax breaks that would come with it, as long as what they do with the land serves the long term interests of the community in which they operate in. There are today in Mauritius so many gated communities which could see increases in their fees via higher taxes which can then be re-distributed. My sense is that this would work much better than a two tier and unfair tax regime where foreigners earning the same income would pay less than their Mauritian counterparts.

Building a modern digital infrastructure is required

When it comes to innovation, beyond the need to attract foreign talent, before Mauritius can move towards the era of artificial intelligence, it needs to build a smart information architecture. The government should approach the likes of Google, Amazon and Microsoft and tell them that Mauritius is ready to invest billions in improving internet connectivity across the island, not just in Moka, and that it is willing to offer business volume in the form of contracts as the entire public apparatus goes digital. We must beg but we must get one of the three giants.

Amazon EC2 infrastructure was recently launched in South Africa, and the rest of the continent is still blank. There is more room in the future in the continent. Mauritius must invest massively in the regional broadband infrastructure with part of the two billion US dollars of reserves, and showcase the fact that it has low latency for a wider regional geographic network with the lowest possible latency.

From supervision tech, reg tech, credit scoring, data analytics in shopping malls, tourism, real estate and beyond, data analytics can bring much efficiency gains to the economy. But for this to happen, we must build a clear road map, and that requires the building of a modern digital infrastructure. Creating a park in Moka somewhere may not be the best investment when it is the entire island which needs to enter the digital era.

Beyond the above mentioned challenges and ideas, the national budget needed to address short term considerations too. I think that the government and the Bank of Mauritius in particular could have communicated much better than they did, and I do sense that the opposing side took advantage of bad communication and ran wild.

Working capital ills and solvency problem

I am not a fan of the private sector in Mauritius for the most part not because I have anything personal against anyone, but simply because I look at the fundamentals of many of these companies, especially free cash flow yield after adjusting for their small capital expenditure and massive working capital challenges which are structural, and I worry about their solvency and for good reason. Too many companies in Mauritius have return on capital less than their weighted average cost of capital, and their funding mix is hence sub optimal. Many have been engaged in endless restructuring for decades with little to show for it. In some cases, it is true that shareholders got dividend payments from essentially company borrowed money versus high free cash flows which they then sent abroad.

When we say that the top 50 companies in Mauritius made X in net profits, but we do not exclude the financial sector (insurance and banks) from the analysis and do not adjust for on paper fair value gains on revaluation of assets, we mislead on the reality, and this is dangerous. We create exaggerated stories about the rich robbing the coffers of the Bank of Mauritius, and we politicise a debate with little data analysis or with selective data.

In the non financial sector, large companies which are currently facing difficulties can be broken down into three groups. We have groups which have a working capital problem, which means a liquidity problem that can quickly turn into a solvency issue. We also have companies with a solvency problem given debt metrics and free cash flows. And we have companies which were structurally weak coming into the crisis and are now also liquidity challenged, which can quickly lead to a solvency issue.

We can blame the banks and the private sector captains all we want, but letting large firms which employ thousands of people go bankrupt is not a good idea. We need a rules based approach. Firstly, we need to remedy working capital ills. Secondly, if we have a solvency problem, we need to pressure banks to put more pressure on corporate borrowers for their shareholders to recapitalise their firms. Thirdly, when all has failed, and to avoid failure, we need to have a private equity type entity which will negotiate haircuts with banks and provide the right mix of funding across the capital structure in order to allow these firms to stay afloat with conditions mainly revolving around efficiency and performance. We need to give companies breathing room to change and become more performance driven (and accountable to a less passive shareholder base).

How to avoid any perception of conflicts of interest

When I wrote about the need to create a special purpose vehicle (SPV) which we now call the Mauritius Investment Corporation (MIC), the idea was that the MIC would have a separate parent and be a SPV outside the aegis of the Bank of Mauritius in order to avoid any perception of conflicts of interest. I suggested that the MIC should be a levered vehicle where it would issue 10-year bonds which the Bank of Mauritius would buy and hold as assets, and that the government could invest the equity portion within an 80% debt and 20% equity mix. Part of the equity funding would indirectly come from a Special Reserve Fund transfer from the central bank to Government.

The credit situation in Mauritius is not good.

The Bank of Mauritius and the government could work together and then appoint an independent fund manager and would simply focus on drawing up investment guidelines, including long term return objectives along with the finance ministry. The Board of MIC would be accountable to the country and, why not, to a select committee of some sort. The funding mix in a way would be unconventional, helicopter and quantitative easing. The MIC would step in when all other avenues have been exhausted.

The government and the regulator, in my view, should not be directly involved in the management of private companies and in dicey negotiations with banks, which is what happens in distressed situations. There are many specialist special situations private equity firms which could be appointed for this task. The optimal mix of debt and equity is important for the SPV. Investment experts could then sit on the Board, another advisory committee could be appointed to advise the Board, but the idea would be that the fund manager would manage the mandate and be accountable to the Board. We should still move in this direction.

Mauritius has also seen a significant growth in monetary and reserves management experts over the past month. I do not want to dwell too much on reserves adequacy given my past experience, beyond saying that while it is true that Global Business deposits are a risk, to say that Mauritius has inadequate reserves is an exaggeration.

The balance of payments for Mauritius over the next two years will be negative and well above Rs 50 billion if we account for two years. This means that the Bank of Mauritius will need to sell foreign exchange reserves in the market. When a central bank sells reserves in the market, it does this with banks. Banks buy the dollars and the central bank takes rupees in. Normally, a central bank sells foreign exchange to smooth out depreciation, so removing rupee liquidity from circulation is logical. In this case, the Bank of Mauritius is basically not going to destroy the rupees which it takes in, but simply gradually transfer this to the MIC. This is a rare event indeed.

We can debate about whether the MIC is a good or bad idea, but if there is less foreign exchange in the market today, then obviously the Bank of Mauritius should sell more dollars and take in rupees, and then use this for the MIC or remove the money from circulation forever. The message however seems to have been miscommunicated, and then others have jumped in and played the misinformation and panic the population card.

Regarding the quantum, if used as a last resort, it is hard to say whether Rs 80 billion of sales proceeds from foreign exchange reserves sales would be needed for the MIC, perhaps not. Regarding the Rs 60 billion transfer to government, I think that this can create a lot of assets and liabilities management complications for the Bank of Mauritius in the future, which will de facto lead to further printing. I sense that the government wanted to not account for Rs 60 billion as debt. But the easier option would have been for the central bank to issue a near zero interest bearing perpetual bond with a maturity of 100 years or so to the government.

A perp can be accounted for as equity, and even if international institutions and credit rating agencies want to account for it as debt (many countries and corporates do not), the present value would be manageable given the maturity. The interest payments too would be low. The Bank of Mauritius would have gained an asset (sure a low interest bearing one) but it would be easier on the assets and liabilities management front to manage in terms of how much money it would sterilise from the market and how much it would end up printing.

Fundamentals will always matter in the long term

This brings me to my last point. Printing money is a last resort option when the situation is bad and it is bad. This is something that many, who may not have full information or choose to be misled, do not realise. The country is polarised politically, so those who are fans of the government will see no wrong, and those who do not like it will only see evil intentions. Economics is such a field where arguments can be muddied.

Mauritius has a solvency problem right now, and if big companies fail, then so will smaller ones. The credit situation in Mauritius is not good despite all the “gobblegoop” of some politicians turned experts on profit analysis, and it does need to be tackled.

We should be ready to remove all this liquidity we put into the system one day.

Regarding inflation, globally deflationary risks remain higher for now (it will change if there is a second wave, and then we won’t be able to do this anymore), and the velocity of money is not rising but falling. The growth in the monetary base has been higher than nominal gross domestic product (GDP) growth in Mauritius since 2012 at least, and the velocity of money has declined. A low inflation world via the exchange rate channel also helped greatly.

Plugging holes on balance sheets does not have the same influence on velocity of money and inflation as printing money and giving it to people to consume mostly imported goods. My concern is that the construction stimulus does push imports up and pressures the currency further. We need to be careful. The risk to return trade-offs are complex.

The Bank of Mauritius should certainly introduce an inflation target which would constrain the use of unconventional policies in the future. But we also need to be realistic about the situation when net public sector debt is already at 78% of GDP. We should also be ready to remove all this liquidity we put into the system one day. It is always easier to print than to destroy money. Mauritius needs to engage in structural reforms as money printing and the trial of small island Modern Monetary Theory, which is unique, will not solve long term problems. Fundamentals will always matter in the long term.

Sameer Sharma
Sameer Sharma is a chartered alternative investment analyst and a certified financial risk manager.