How (and Why) the Central Bank of Barbados Finances Government

Government gets its revenue through the taxes Barbadians pay. But like many of us, from time to time, its spending needs are more than its revenue, and when that happens, it has to look for financing.

The Barbados Government has several options for where it can get that financing. Externally, it can borrow from international financial institutions (IFIs) or on the international capital market. Domestically, it can issue securities, which Barbadians buy, and in so doing loan money to Government, or it can borrow from the Central Bank of Barbados.

Historically, the Central Bank helped to finance Government by purchasing Government securities on the primary market (directly from Government rather than from someone else who purchased them originally but later opts to sell them). Because some securities were allocated using a bidding process, where investors offered to buy at specific interest rates, the Central Bank could influence the market by bidding low and in so doing force potential investors to do the same.

At the same time, however, there was a downside. Central Bank Governor Cleviston Haynes says that the Bank buying securities “had the potential to help us to influence the treasury bill rate, but in recent times it was used more as a bridge for financing for Government… and what we realised is that excessive financing by the Central Bank is not desirable.”

As a consequence, the new Central Bank of Barbados Act, which was passed in December 2020, prohibits the Bank from purchasing securities on the primary market except under special circumstances, namely climate-related disasters and pandemics. Even then, there are restrictions.

So how then does the Central Bank help to finance Government? And why would it, given Governor Haynes’ opinion about the Bank buying securities?

“The Government is like a business… and if you think of a business, you have periods where you have high inflows of revenue and then there are periods where you have outflows for expenditure. Government is no different. It gets revenue in the taxes it collects from individuals, from corporations, value-added tax, import duties, etc; and it’s making payments for wages, for its debt service. It’s making payments on capital goods. Government, perhaps more than other entities, tends to run deficits, and when you run a deficit, it has to be financed.”

The Central Bank provides that financing through an overdraft facility. What is important, says Governor Haynes, is that the overdraft facility be used periodically rather than consistently. “Like all overdrafts, the ideal thing is that the overdraft should fluctuate. We become concerned when the overdraft becomes hardcore, which means that it does not come back down.” He says that when the overdraft is used as designed, “we are able to control the amount of funds that are being pumped into the economy.” If too much money is pumped into the economy in this way, “you could eventually have a drag on your foreign reserves.”

To help prevent this from happening, there is a limit on how high Government’s overdraft with the Central Bank can be. The Bank also monitors Government’s finances on an ongoing basis and advises it accordingly, so issues can be identified and addressed early.

Even with these safeguards in place, some might question whether it would be better for the Central Bank to provide no financing at all.

Governor Haynes disagrees. “If the financing goes out of whack… and you get a situation where arrears arise in the system, it dampens confidence, and it could undermine economic and financial stability.” Under those circumstances, suppliers could become hesitant to provide goods and services to Government, and when they do, could charge it more based on the perceived risk, forcing Government to have to borrow more to cover the increased costs.

And how does that affect the average Barbadian? “We have an economy in which Government provides lots of services: education, health, housing, welfare, etc.” It needs to have the financial wherewithal to continue to do that. Governor Haynes also points out that Government also uses its capital works programme to stimulate employment, “but the more money that is going to servicing debt, the less is available for your capital works programme.”