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Enhancing fiscal frameworks and governance issues. Brian Olden IMF Regional Public Financial management Advisor “FISCAL CONSOLIDATION, POLICY FRAMEWORK AND GOVERNANCE” POLICY WORKSHOP UMAR/IMAD. Fiscal Challenge: Where are we?. Still not out of the woods, but there are some good news

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enhancing fiscal frameworks and governance issues

Enhancing fiscal frameworks and governance issues

Brian Olden

IMF Regional Public Financial management Advisor

“FISCAL CONSOLIDATION, POLICY FRAMEWORK AND GOVERNANCE”

POLICY WORKSHOP

UMAR/IMAD

fiscal challenge where are we
Fiscal Challenge: Where are we?
  • Still not out of the woods, but there are some good news
  • A better appreciation of the size of the problem
  • More attention to fiscal risks and long-term fiscal challenges—as highlighted in the November and April IMF Fiscal Monitors
    • Advanced economies, L-T adjustment needs remain large
    • spending on pensions—and especially, health care—constitutes a key challenge to fiscal sustainability
    • Challenges to reforms still considerable (i.e. Slovenian pension reform)
  • With the exception if Ireland, net cost of supporting financial institution less than expected
change in debt to gdp ratios advanced and emerging economies 2006 2016
Change in debt-to-GDP Ratios: Advanced and Emerging Economies 2006 - 2016

Source –IMF Fiscal Monitor April 2011

market indicators
Market Indicators
  • Government financing needs remain exceptionally high in most advanced economies.
  • Financing needs remain more “moderate” among emerging economies including SEE but not by any means negligible
  • Yields and spreads have evolved favorably for emerging economies relative to advanced countries particularly peripheral Eurozone countries
    • With increased risk appetite and an associated search for yields, demand for emerging economy sovereign debt rose sharply, leading to shrinking emerging market spreads.
    • The changing perception of sovereign risk is also reflected in a divergence of CDS spreads between advanced and emerging economies
  • But will it last?
fiscal risks for see economies
Fiscal Risks for SEE economies
  • A less favorable interest rate-growth differential a key source of risk for emerging economies-including SEE.
  • Projected declines in debt ratios assumes a negative interest rate-growth differential, which offsets the continued primary deficit.
  • Less accommodating developments
    • possibly due to ongoing deterioration in public finances in advanced economies
    • Could lead to higher global interest rates and a lower growth rate—public debt ratios in emerging economies could start rising again.
    • Some criticism of over-optimistic forecasts authorities –growth, government revenues-by country has been noticeable (e.g. 2010 EC EFP evaluations)
  • Increased government guarantees to financial and real sector as response to the fiscal crises
is living with higher debt an option
Is Living With Higher Debt an Option?
  • High debt may lead to higher interest rates. It will certainly lead to a higher interest bill
  • High debt levels are associated with lower investment and slower growth
  • They are also associated with higher macroeconomic volatility, perhaps because capacity to respond to future shocks is constrained
  • Implications of having so many high debt countries at once are uncertain, and market response may be sudden and decisive

Source IMF Fiscal Monitor –May 2010

so what will be the impact on public finances
So what will be the impact on public finances?
  • Initial post-crisis growth momentum looks to be slowing-both in advanced and SEE countries.
  • Economic recovery will be gradual when growth resumes
  • Increased debt levels have reduced fiscal space-even for those with relatively low levels-needs to be restored over the medium-term
  • Financing options uncertain, both due to domestic banking) and external (competition for capital) factors.
  • Fiscal risks remain elevated due to continued uncertainty over financial and real sectors of the economy
  • Downside risks still high-contagion is still a worry if Eurozone sovereign debt crises exacerbates.
medium term fiscal consolidation process
Medium-Term Fiscal Consolidation Process
  • Strengthening fiscal institutions will be a key factor
    • Independent fiscal council-gaining in popularity in the CE and SEE region (Hungary, Slovenia, Romania)
    • Strengthening existing fiscal institutions
  • Need for medium-term fiscal consolidation strategy
    • Existing capacity to produce medium-term fiscal frameworks needs to be strengthened and augmented by realistic medium-term budget frameworks
  • General consensus that introduction of fiscal rules will help
    • Fiscal Responsibility Legislation?
strong budget institutions increase the probability of successful consolidation
Strong budget institutions increase the probability of successful consolidation
  • Enable better understanding of the scale and scope of the fiscal challenge through
    • comprehensive, timely and credible reporting,
    • robust medium-term fiscal projections,
    • quantification of longer-term structural issues that raise sustainability concerns), and
    • disclosure and management of fiscal risks
  • Improves capacity to monitor and enforce fiscal discipline
strong budget institutions increase probability of successful fiscal consolidation
Strong budget institutions increase probability of successful fiscal consolidation
  • Assist with development of credible fiscal consolidation strategy through
    • Commitment to transparent medium-term fiscal objectives or rules.
    • Medium-term budget framework setting limits on medium-term spending commitments.
  • Improves capacity to Implement the consolidation strategy through the budget process.
increasing use of independent fiscal agencies fiscal councils including see region
Increasing use of independent fiscal agencies (Fiscal Councils)- including SEE region
    • Fiscal Council objective to hold government accountable to meeting policy objectives and ensure the realism of underlying assumptions, forecasts and policies.
    • Role of Fiscal Councils differ -3 main models
    • Agencies that provide objective analysis of current fiscal developments, and costing of budgetary initiatives- e.g. Netherlands CBP.
    • Bodies that produce independent projections and forecasts regarding both the budgetary variables as well as the relevant macroeconomic variables -Romania, (Hungary until disbanded)
    • Institutions that, in addition to the above tasks, have the mandate to provide normative assessments, including on the appropriateness of fiscal policy stance -US, Korea
  • But need to be realistic about what is achievable in low capacity environments.
    • Risk of shifting too many fiscal responsibilities to an independent council, usurping functions that are rightly the responsibility of the executive, and leaving substantial gaps in the MoF
fiscal responsibility legislation
Fiscal Responsibility Legislation
  • What is an FRL?

A law (or part of a law) with organic or “standing” status which aims to improve fiscal discipline by requiring governments to declare and commit to a monitorable fiscal policy strategy

  • Key features of FRLs
    • Fiscal Rules
    • Medium-Term Budget Framework
    • Top-down Budgeting mechanisms
    • Requirement for transparency in fiscal policy implementation
    • Sanctions for non-compliance
    • Escape clauses-to cater for unexpected macro-fiscal events.

1. Source Fiscal Rules: Anchoring Expectations for Sustainable Public Finance-IMF Board paper 2009

fiscal responsibility legislation1
Fiscal Responsibility Legislation
  • However , in designing FRL need to be sure what weaknesses in fiscal policy-making is an FRL meant to solve? Cookie cutter approach is unlikely to work
  • Political commitment to implementation is crucial
    • Many examples of failed efforts.
    • Need for comprehensive exit strategies from crises may help to focus the effort
    • Increased usage in SEE countries (Romania, Serbia, Croatia)
fiscal rules
Fiscal Rules
  • Fiscal rules increasingly popular among advanced and emerging markets-By 2009 80 countries had fiscal rules in place1
  • Seen as a key element in many countries consolidation strategies
  • Question as to appropriateness of different fiscal rule options
    • Procedural vs. Numerical
    • Revenue, Expenditure, Deficit, Debt
  • Successful fiscal rules need credibility to help deliver the required adjustment and put debt on a sustainable path.
  • Need to examine prerequisites needed prior to introduction of fiscal rules.
    • Important in countries with limited capacity and weak PFM systems