Fiscal policies and growth constraints and opportunities
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Fiscal Policies and Growth: Constraints and Opportunities. Carlo Cottarelli and Michael Keen “Ascent after Decline”: Workshop World Bank, Nove mber 19, 2010. The Macroeconomic Dimension. The state of the world’s public finances.

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Fiscal policies and growth constraints and opportunities

Fiscal Policies and Growth: Constraints and Opportunities

Carlo Cottarelli and Michael Keen

“Ascent after Decline”: Workshop

World Bank, November 19, 2010


The macroeconomic dimension

The Macroeconomic Dimension


The state of the world s public finances

The state of the world’s public finances


Advanced economies entered crisis with worst non war fiscal outlook

Advanced economies entered crisis with worst (non-war) fiscal outlook

General Government Gross Debt for G-7 Economies, 1950-2007

(In percent of GDP)


With pressures from aging on top of that

With pressures from aging on top of that

Old Age Dependency Ratio

  • Pension reforms contain cost to 1 percent of GDP

  • Health care costs increase by average 3.5 points by 2030


Pre crisis outlook for emerging e conomies better

Pre-crisis outlook for emerging economies better

General Government Debt in Emerging Economies, 1998-2007

(In percent of GDP)


Fiscal legacy of crisis most marked in advanced economies reflecting lasting impact on gdp

Fiscal legacy of crisis most marked in advanced economies---reflecting lasting impact on GDP

General Government Balance

General Government Debt


Deficits debt and growth

Deficits, debt and growth


In advanced economies fiscal positions are unsustainable

In advanced economies, fiscal positions are unsustainable


Fiscal policies and growth constraints and opportunities

What debt target for stabilization?

Higher public debt associated with:

  • Higher real interest rates—perhaps 1.75 percentage points over 2008-15 for advanced economies

  • Lower growth (through reduced investment and labor productivity)—perhaps 0.5 points per year


So need to do more than return to pre crisis

So needtodo more thanreturnto pre-crisis

6

4

2

0

Cyclically Adjusted

Primary Balance

Primary

Balance

-

2

-

4

-

6

OverallBalance

-

8

-

10

2007

2009

2011

2013

2015

2017

2019

2021

2023

2025

2027

2029

2030

  • Required adjustment is roughly:

  • 8.5 percent GDP in advanced economies

  • 3 percent in emerging


Impact of fiscal adjustment on growth

Impact of fiscal adjustment on growth

  • Prospects for expansionary contractions limited:

  • Recent WEO work

  • Low interest rates

  • Evidence that adjustment on spending side is:

  • Associated with more durable consolidation

  • Less contractionary


The microeconomic dimension

THE MICROECONOMIC DIMENSION


Spending better

Spending better


Welfare reform

Welfare reform

  • Pensions—Argue for raising retirement age by 2 years: stabilizes spending at 2010; best for growth

  • Health care—supply and demand side measures

  • ‘Better targeting’?

  • Incentive effects of means-testing

  • Wage subsidies

  • Tagging by correlates with participation responsiveness; increase UK workforce by 1 percent.


Infrastructure and innovation

Infrastructure and innovation

  • Literature gives good reason to suppose strong positive output effect from public capital....

  • ...but little guidance on specifics

  • Institutions matter

  • Likely needs:

  • Climate change—adaptation not costly in most advanced, but likely to be in some emerging

  • Fundamental R&D—energy research, geoengineering?


Eliminating wasteful subsidies

Eliminating wasteful subsidies

  • Petroleum subsidies—cost around 0.3 percent global GDP in 2010

  • Exemptions and special treatment—importance of tax expenditure analysis

  • Subsidies to renewables—don’t let spending substitute for proper carbon pricing


Taxing smarter

Taxing smarter


In search of immobile tax bases

In search of immobile tax bases

  • VAT:

  • Potential in Japan (and US?)

  • Large scope in most advanced economies to eliminate exemptions and reduced rates—could raise £11 bn in UK even after compensation

  • Property tax


Green taxes

Green taxes

  • Revenue potential is:

  • Significant but not transformational in advanced—about $100 bn per year in U.S

  • More in some emerging—If internationally traded

  • But requires that permits not be given away

  • Not much money in other environmental taxes

  • Though potential in congestion pricing


Investment and finance

Investment and finance

  • Giving an allowance for notional cost of equity (an ‘ACE’) would

  • Eliminate corporate-level disincentives to invest

  • Reduce debt bias

  • Financial sector

  • Pre-financing resolution/Corrective tax

  • ‘Financial Activities Tax’—a fix for the VAT

  • Gains from enhanced international cooperation


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