Progress, But Not Enough

The Dominican Republic took an important step in the direction of creating a fully functional capital market when it created the Dominican Stock Exchange in November 1988. Although the number of issuers as well as the number and total value of transactions has grown considerably over the years, much remains to be done. Following is a brief review of the history and operation of the capital market of the Dominican Republic and a discussion of the potential benefits that local and foreign firms operating in the country can derive from its further development. A more extensive capital market can substantially enhance the viability of a process of sustained economic performance.

The exchange began as an idea when a group of visionary businessmen met in April 1980 with the objective of outlining the main elements of a stock market project and creating corresponding regulatory body to oversee its operation. By 1986 the idea was adopted by the Chamber of Commerce and Production of the National District and a feasibility study was commissioned. A retired executive of the New York Stock Exchange evaluated the merits of launching an exchange and recommended that the country proceed with this endeavor. Thus in November 1988, by presidential decree No. 544-88, the Santo Domingo Stock Exchange was created as a non-profit entity. By 1997 its operations extended to other parts of the country and its name had changed to Dominican Stock Exchange or Bolsa de Valores de la República Dominicana (BVRD). When the Stock Exchange Law was passed in May 2000, the BVRD, in order to comply with its requirements, became a corporation.

Since its inception, the BVRD’s operations have grown substantially. The value of transactions, which amounted to $400,000 in 1991, has reached $1.36 million. While there has been a relative concentration of the activities of the BVRD in the financial and services industries, the number of industrial issuers has grown in recent years. The operation of the stock exchange also has helped reduce the financing costs of its issuers.

However, the exchange so far is limited to issuance of commercial paper on behalf of a relatively small number of large local companies. As a result the only source of medium-to long-term financing available is that offered by the private sector lending arms of international financing agencies such as the World Bank’s private sector arm, the International Finance Corporation, and the Inter-American Development Bank. This lack of term financing severely limits the country’s ability to fund badly needed investment projects for the small-to medium-sized firms that now have significant development prospects.

At the present time, however, several events are unfolding that are likely to create the right conditions for the further development of the Dominican capital market. Among these are the implementation of free trade agreements with CARICOM as well as with members of the Central American Common Market; and the commitments made under the World Trade Organization and the Free Trade Area of the Americas which will come into effect by 2005. Their combined effect will result in a more open Dominican economy and hence a significant increase in competition. In this regard, traditionally closed “family” firms will feel the pressure to open their shareholder base as a means of securing new capital infusion as well as an improved access to new technology and expanded markets. Tricom, the second-largest telecommunication company in the country, was the first Dominican company that took the step of listing in the United States’ stock market and was able to secure term financing for its significant investment program as well as access to state-of-the art technology through a strategic partnership with Motorola.

Channeling Savings

The recent creation and rapid proliferation of pension assurance companies and the passage of the new social security law provide a basis for an expanded role of the stock exchange in channeling the new savings that will become available to finance investment projects on a longer-term basis that those prevailing today. An important requirement for the development of a healthy capital market is a sound regulatory environment and relative macroeconomic stability.

The Dominican Republic’s recent performance meets both requirements with high marks. Between 1992 and 2001 the country experienced the highest average annual GDP growth rate in the Latin American and Caribbean region with 6.1%. Despite the negative impact of the present recession and September 11 on the tourist and industrial free zone sectors, their decline was offset by a significant growth rate in the communications, construction and electricity sectors. Thus during the first six months of 2002, GDP grew at the rate 6.2%, which compares rather favorably with the rest of the region. The Dominican Republic’s relatively low foreign debt profile also is important. In 2000 the country had a public debt-to-GDP ratio of 20.7%, lower than 12 Latin American and Caribbean countries. It should be stressed that the impressive growth of the Dominican economy has been achieved in a framework of single-digit inflation and relative exchange rate stability. The rate of inflation averaged only 6.4% in the last five years and thanks to a prudent fiscal and monetary policy the consolidated public sector deficit as a percentage of GDP only reached 2%, one of the lowest in the Latin American region.

On the other hand, the central bank maintains a flexible floating exchange rate system, which has functioned satisfactorily, allowing for a devaluation of the local currency, the peso, to closely track the differential in the rates of inflation between the United States and the Dominican Republic In the last five years the peso has devalued on average only 4.8% vis-à-vis the dollar. Recent speculative rises in the value of the dollar have been met with a swift response by the central bank, which has sold enough dollars into the market to stabilize the exchange rate at acceptable levels. On the regulatory side the recently passed Stock Exchange Law regulates activities of pension fund management companies and rating agencies and also allows for the issuance and servicing of financial instruments in local as well as foreign currencies. It also creates the Superintendencia de Valores, the local version of the Securities and Exchange Commission, which is quickly positioning itself to perform its responsibilities in a professional manner.

The country enjoys a rather attractive regulatory environment for foreign investment. The Foreign Investment Law, which has been in existence since 1995, provides a similar treatment to foreign firms as that which applies to local firms. There is a single 25% profit tax and there are no limitations of the remittance of dividends or the repatriation of capital. The emphasis is on attracting foreign direct investment as a means of improving access to modern technology and generating productive employment and new sources of foreign exchange.

The Dominican Republic enjoys a functional and stable democracy. Since 1966, there has been a peaceful transfer of power every four years and the legislative, judicial and executive powers function with a great deal of independence. Significant progress has been made on improving the administration of justice and the professionalism of judges.

However, despite these very favorable events, additional steps need to be taken in order to foster the further development of the Dominican Republic’s capital market. In 1999, the privatization of the energy sector took place. This has stimulated significant flows of foreign direct investment into the country. Investment flows reached $1.2 billion in 2001 and are estimated at $1.3 billion for this year. It would make sense to have the shares held by the government in the privatized power companies, and possibly those owned by private investors, to be listed on the Dominican stock exchange. Given that the government internal debt issues have been recently upgraded, it could be feasible for debt issues to be listed and traded on the stock exchange. This would provide the basis for the development of a secondary market, which at present is practically non-existent. Lastly, with the long-awaited passage of the Monetary and Financial Code could stimulate the development of investment banks as important players, which was not contemplated in the Stock Exchange Law.

Multiple Benefits

Local companies of all sizes would derive a great benefit from a fully functioning capital market as they could have access to medium and long-term financing on much better terms. Furthermore, transparency requirements for public issuance of long-term debt as well as equity instruments should bring about, as an additional benefit, the discipline to improve the standards of corporate governance. The ability to issue equity through an initial public offering would contribute to developing entrepreneurial skills and enhance the competitiveness of the Dominican Republic’s economy. Clearly, by stimulating an increase in savings and investments the development of a full-fledged capital market in the Dominican Republic will contribute to sustaining, well into the future, the impressive economic performance the country has enjoyed in recent years.

Ramón Martínez Aponte is president of Martínez Aponte&Associates in Santo Domingo.