Let’s make something clear, local inflation doesn’t help anyone without pricing power — it lowers living standards by reducing purchasing power. It also can act as a disincentive for business investment and ultimately the level of employment.

If costs escalate then returns on capital invested are likely to be reduced when assuming one has limited pricing power (which is a very realistic assumption in today’s world of hyper competitiveness and excess capacity). Obviously if it costs me $100 to build something that I can earn $10 annually from (10% return), this would be better than building something for $200 that I can make $15 from (7.5% return).

For example, if I was going to build a hotel in Bermuda and I suddenly needed to budget for ever higher escalating variable costs that I felt could not be recouped through higher prices, I probably would think twice about investing.

I cringe anytime I see stories of cost escalations in some shape or form in Bermuda. Bermuda is expensive. Being expensive is only decreasing our international competitiveness.

In export markets, when local inflation outstrips international inflation margins will be squeezed. Every time we increase prices we are moving further and further away from being relatively more competitive in certain industries and products. Especially when you note the low or even disinflationary tendencies that have been exhibited by other competitive nations. Business investment and expansion is a relative game in many aspects. Without a competitive cost base, Bermuda risks being further marginalised internationally.

Government

An excessively large and bureaucratic government ultimately can cause inflation. To balance the budget one can raise revenues or cut costs or do a combination of both. Obviously increases in government revenues increases costs to be borne by the private sector. Raising payroll taxes, fees or enacting regulation to have quangos fund themselves pushes costs from the public sector to the private sector. Increased regulatory costs or fees simply escalates prices and raises our business cost basis. If government is not committed to shrinking in tandem with the private sector and becoming more productive and efficient, the private sector can anticipate only further inflationary pressures on its business. A lean and effective government would not need to take more from the private purse. It would be self-sustaining and contained. This would be a beautiful thing.

Labor

There has been increasing chatter on enacting a minimum wage in Bermuda. Doing so only increases Bermuda’s cost of doing business and if done should be enacted with great care. I’ll just run through a simple mathematical example.

A lot of people may think if you raise the price of labour to $20/hour by fiat, people are making more money but generally what happens is that some people will see their wages drop to $0/hour. This is because the company may only have $200 to spend on labour to begin with, and can either hire 20 people at $10/hour or 10 people at $20/hour. If you think the company should somehow operate at a loss to accommodate everyone at the higher wage then eventually all those 20 people will have no job.

Fixing prices has a cost. Of course there is also the risk that it becomes so expensive to hire a worker the company will not hire anyone — outsourcing is only a way station to full automation. We could spend countless hours debating the social immorality of this but unfortunately this is current economic reality.

Healthcare

I’m not going to point fingers. Everyone will have a scapegoat or a perpetrator for the cost of healthcare. To be honest, I believe there is no one single company, body or institution to blame. Bermuda’s escalating cost of healthcare can be blamed on a generally unhealthy population, an inefficient delivery system, its lack of scale in administration and a host of other issues.

The result of course, is that rising expenses in healthcare costs jobs and creates an inflationary spiral that pushes us down the road to becoming more uncompetitive.

Let’s do some rough math. In the National Health Accounts Report 2014, the private sector paid $408,602,000 in health insurance — an increase of 7.8 per cent year over year. Assuming this continues at a similar rate, costs in private health insurance would grow by about $32 million in the next year. If we assume a flat economy and relatively stable revenues, and a median income of roughly $61,000 (Labour Market Indicators 2013), in dollar terms, this could cost about 500 potential jobs.

Belco

Power is an essential building block for any economy. It is a foundational expense. If a business’ power bill escalates it has no choice but to accept a lower profit margin, raise prices to compensate for this escalation in cost, or invest in order to avoid the distributor (Belco).

Of course if the price hike route is chosen, everyone would pay more for any service they purchased from that company. An escalation price spiral can ensue to varying degrees.

One of the huge recent benefits for Bermuda has been the dramatic plunge in oil prices and associated distillate prices. This should be translating into a reduced fuel surcharge. The reduction in energy costs is a great tail wind for the economy and puts more discretionary income into the hands of consumers and business owners. Raising base rates now will kill some of this benefit.

We all may want new and fancy energy infrastructure, but can we afford it as a nation and are we willing to take the risk involved with the enormous capital investment? Have we run the numbers on possibly downsizing our current fleet to be more in line with the reduction in power consumption (back to 2002 levels of power consumption) and combining better energy conservation, alternative power (solar) and more efficient and newer generators?

Rising power cost will deter investment and cost jobs. Lowering them makes investment more attractive and gives businesses more money to hire employees, if they so choose. Hiking the base rate takes away about $9.5 million of the benefits of the lower fuel prices from the commercial consumer, which is the dollar equivalent of about 150 jobs.

Note: my calculations on job costs or potential job losses are most assuredly overly simplistic and simply illustrative. They essentially assume an inability of the private sector to offset escalations with some pricing power. Obviously, a company that can raise prices or volumes by 7.8 per cent to offset its health insurance sees no effect on its bottom line. The problem that should be noted, however, is that the local domestic economy has little ability to increase volumes at this stage, so they are most likely to suffer from lower profit margins or the need to increase prices in an environment with little to no pricing power. They are being hurt the most.

Bermuda’s exporters in various sectors also do not likely have the ability to raise prices to fully offset climbing domestic costs.

Furthermore, I only touched on four areas that help determine the foundation for costs in Bermuda. These four, unfortunately, do not suggest the tendency for price stability is present. To be fair there have been some mitigating factors like commercial rental rates, residential rental rates and house prices that have come down moderately. Although not viewed as positive by owners of this capital, the rate reduction has actually helped to aid Bermuda in its competitiveness and may even have kept some marginal businesses from closing.

Ultimately, however, Bermuda needs to be cautious in its acceptance of escalating costs. Allowing them to continue unabated and unfettered will stymie foreign direct investment and job growth for the nation. Cringe whenever you see price increases.