Transcript Medium Term Fiscal Framework

Supplementary Slides
These slides provide some more technical detail, and
references on some of the topics covered by the main
presentation.
2
Historical Origins of MTEFs: forged in fiscal adversity…
General government balance
(1990 to 2008)
8%
6%
4%
2%
Netherlands
introduces
Expenditure Ceilings
UK introduces
Spending
Reviews
Finland introduces
Expenditure
Ceilings
% of GDP
0%
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
-2%
-4%
Sweden introduces
Expenditure Ceilings
-6%
-8%
-10%
-12%
Canada introduces
Expenditure
Management
System
Canada
Finland
France
Netherlands
Sweden
United Kingdom
France introduces
Multi-year Budget
…but were introduced to maintain discipline AFTER the public finances had
turned the corner.
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Description of the Main Fiscal Indicators (1)
Overall fiscal balance:
• Total revenue – total expenditure
• It is the most common fiscal indicator
• It is linked to the government’s net financing requirements and the
external current account
Primary balance:
• Total revenue – total non-interest expenditure
• It is an indicator of the ongoing fiscal effort, as interest payments are
pre-determined by previous levels of debt i.e., past policies.
• It is a critical indicator for debt sustainability
• The debt-stabilizing primary balance is the PB necessary to keep
the ratio of debt to GDP stable.
Main Fiscal Indicators (2)
Adjusted fiscal balance:
Excludes items such as grants, oil revenues, certain lumpy expenditure
items that are outside the government’s control.
 Grants: they do not add to debt, and (project grants) may finance
expenditure that would otherwise not take place. But are volatile and
uncertain—when they are significant, it is good to focus on the balance
excluding them to try to decrease the dependence on them.
 Non-oil balance: like grants, oil revenue is highly volatile and unpredictable.
In addition, it is non-renewable, and consuming it, reduces government
wealth.
 Privatization receipts
 Externally-financed project spending, also outside the government’s
controlled and is automatically financed (but it does increase debt).
Main Fiscal Indicators (3)
Current balance:
• Current revenue – current expenditure
• Shows the extent of government savings
• Safeguards investment
• But: does not deal with debt sustainability concerns, especially if
projects are not high quality and return to projects are not high
• Can be an incentive for creative accounting (putting current
spending in capital).
Main Fiscal Indicators (4)
Cyclically-adjusted balance:
•
•
Measures the fiscal position net of the output effects on the budget by removing the
cyclical component
.
Complex techniques, and not often applied
Augmented balance:
•
Overall balance plus exceptional one-off spending such as restructuring costs
•
More relevant recently to capture government interventions in the financial sector
•
Have a significant impact on debt accumulation.
Gross financing needs and sources:
•
All resources and all uses: Revenue + loans + privatization receipts – (expenditure +
amortization)
•
Provides a picture of needed financing, taking into account, for example, )roll-over( of debt.
Main Fiscal Indicators (5)
Stock indicators:
 Debt-to-GDP ratio: one of the most common medium-term fiscal anchors.
 Based on debt sustainability analysis (DSA), debt dynamics.
 In practice, when real interest rate exceeds the real growth rate, the
debt is explosive: need to have a primary balance to stabilize debt/GDP.
 Also have to consider the initial debt stock: is it comfortable?
 There are no “safe levels” of debt. Depends on country circumstances.
In the Middle East, in non-oil producing countries, the debt level is
generally much higher than in other emerging countries, and yet, there
have been no major debt crisis and defaults.
 So debt composition is also important: (concessional/non concessional;
official/private; maturity; currency denomination; inflation and exchange
rate indexation)  all these influence solvency.
Main Fiscal Indicators (5)
The government balance sheet at a certain point in time (also
measures changes in the flow – “Net Worth”(
• Liabilities: typically = debt
• Net financial worth: liabilities – financial assets. Caution: only
liquid assets can be used to meet liabilities.
• Overall Net worth: Includes financial and non-financial assets:
very demanding to measure as it requires valuation (and periodic
re-valuation) processes
Important note: The government balance sheet can miss critical
variables such as contingent liabilities (loan guarantees, PPP
obligations)
FRLs from around the world
Country
1
2
3
Australia, 1998
New Zealand, 1994
United Kingdom, 1998
4
5
6
Hungary, 2008
Brazil, 2000
Argentina, 1999, 2001,
2004
Colombia, 1997, 2001,
2003
Ecuador , 2002, 2005
Panama, 2002
7
8
9
10 India, Pakistan, Sri
Lanka, 2003, 05
Main Objectives
Secondary Aims
Success?
Fiscal Stability:
Fiscal
lower deficits or
Transparency
run surpluses;
reduce debt
Fiscal stability and fiscal
transparency
Yes
Yes
Yes
Fiscal stability
Transparency
(targets for
spending, deficits
and/or debt)
Focus on targets.
No
Transparency
??
Yes
No
No
No
Mixed
Revenue Forecasting Methods: Effective Tax Rate
(ETR) Method (1)
Effective tax rate method. This is a relatively simple but
robust method for countries where data limitations may rule
out more sophisticated methods. The effective tax rate
(ETR) is defined as the revenue from a tax (R) divided by
the economic base of the tax (B):
Rt = ETRt-1 * Bt
•
Where: ETRt-1 = Rt-1/Bt-1
•
If the ETR is held constant (that is, if unit elasticity is
assumed), it can be used to forecast revenues.
Revenue Forecasting Methods:
Effective Tax Rate (ETR) Method (2)
Choice of tax base (B).
i) Income taxes. Wages are the natural choice for the personal
income tax, and corporate profits for the corporate income
tax. Interest and other forms of income should also be used
for the relevant tax categories.
ii) Consumption taxes. For ad valorem taxes, consumer spending
is used. Imports can also be used since the initial collection of
a large proportion of these taxes in most developing and some
emerging economies takes place at customs. For unit based
excises, unit of consumption is used.
•
Import and export duties. Import and export values are the
natural choice.
Revenue Forecasting Methods:
Effective Tax Rate (ETR) Method (3)
GDP as a proxy base. While some methods use GDP as a proxy base for
many taxes—as data on the relevant tax bases may not be available, the
relationship between the real tax bases and GDP is rarely constant. During a
business cycle, tax bases may not follow the same path as GDP.
Assumption of constant ETR. A constant ETR assumes no change in the (i)
structure of the tax base; (ii) tax system; and (iii) compliance ratio. When
preparing forecasts, one should be mindful of any changes in these variables,
especially during sharp downturns and crises. The ETR cannot be assumed to
remain constant as (i) the structure of the economy may be changing
dramatically; (ii) loss-making firms can carry losses forward (or backward),
and some firms (both profitable and loss-making) may be unable to offset
previous period VAT credits against slumping current VAT sales (leading to
an increase in refund claims); and (iii) noncompliance may increase
substantially.
Revenue Forecasting Methods:
Revenue Elasticity
• Revenue elasticity measures the responsiveness of
revenue to the change in its base in the absence of
measures.
• Revenue buoyancy includes revenue from new
measures.
• Distinction between revenue elasticity and revenue
buoyancy is closely related to the distinction between
revenue forecasting and revenue estimation.
Revenue Forecasting Methods: Revenue
Elasticity (1)
• At an aggregate level, the revenue elasticity is:
R = Rt-1 * (1+ε*ΔB)
• Calculate elasticity/buoyancy from historical data
• Trend extrapolation
Revenue Forecasting Methods:
Revenue Elasticity (2)
• Elasticity =1: the tax’s rate structure is proportional rather than
progressive, there are no significant lags in collection, and when it is
levied on an ad valorem rather than a specific basis. E.g., VATs
with non-progressive rate structures, and ad valorem excise taxes
levied on goods other than luxury items.
• Elasticity > 1: can arise because of a progressive rate structure,
especially with the personal income tax, and to lesser extent with the
VAT and the enterprise profits tax. If they are steeply progressive
and non-indexed, individual income taxes can exhibit revenue
elasticities with respect to nominal personal income (or nominal
GDP) of 1.5 or higher.
• Elasticity < 1: in the presence of high inflation, because of lags
between the time the tax liability is generated and the time at which
it is paid, or if they are set on a specific basis instead of an ad
valorem basis.
Individual Taxes and Revenue Items
• The major taxes bases:
–
–
–
–
the personal income tax wages
the corporate income tax  profits
consumption tax (VAT, excise duties) consumption
import duties  imports
• The corresponding tax bases can be taken from
macroeconomic accounts and models.
• If data is not available, use the GDP as a proxy (see
above) - non-oil GDP for oil producing countries
Individual Taxes and Revenue Items
(continued)
Resource revenue (oil, gas, etc.)
– Production, world prices
– Agreements with oil companies (royalties, profit
transfers, etc.)
– Higher degree of uncertainty than other revenues 
contingencies.
Individual Taxes and Revenue Items
(continued)
Small taxes:
– Some taxes do not have a base which is related to
variables included in a macroeconomic model.
– This is especially true of wealth-based taxes (capital
gains, property, and asset transfer taxes).
– The elasticity method can be used, based on GDP.
– Specific models may be appropriate, where revenue
is related to relevant variables such as interest rates,
inflation, a stock market index, property prices.
Individual Taxes and Revenue Items
(continued)
• Nontax revenue
 Nontax revenue is heterogeneous, and does not lend itself to a
uniform approach to forecasting. The usual way is to extrapolate
trends.
 Sometimes there can be firmer basis on which specific items can
be forecast (e.g., royalties, user charges, profits, dividends)
• Grants depend upon the commitment of other governments
and multilateral agencies to provide assistance.
• Central bank profit transfers often depend not upon central
bank profitability but on agreement between the central bank
and the government.
Remarks on for revenue forecasting (1)
•
Use the correct “proxy” tax base where data are available
(wages, private consumption, imports, etc), mindful of the
large structural changes in the economy. Ensure that these
variables are not artificially inflated to support high revenue
projections.
•
Use disaggregated revenue data (by sector, by source),
particularly if revenue from some sectors/sources (financial
and others) are large and subject to different developments
compared to other revenue.
• Monitor carefully the outstanding stock and net increase in tax
refunds for both the VAT and corporate income taxes, as well
as tax credits claimed as a share of gross tax collections.
Checklist for revenue forecasting (2)
• Be aware of exceptional factors and correct for them
by excluding them from the base year: For example:
 Tax arrears accumulation
 Clearance of arrears in a particular year
 One off sale of cell phone licenses
• Be aware that non-tax revenue, such as dividends from
public enterprises and central bank profit transfers, are
subject to larger than usual volatility during
downturns.
Expenditure Forecasts (Components)
Wage Bill:
Assumption on wage increases;
 Numbers of civil servants outflows and inflows;
 What does the civil service regulations assume?
 Historical trends

Goods and Services: flat or growing in real terms
Pensions and other transfers to households
Consistent with demographics
 Pension law (indexation, etc.)

Transfers to enterprises
Expenditure Forecasts (continued)

Interest payments – given by past debt stock and future
deficits– Assumptions on interest rate, maturity, etc.

Capital Expenditures:
Fixed investment
 Consistency with national priorities/desire to increase infrastructure
 The multiyear forecasts will help link capital expenditure and their
forthcoming current costs (e.g., operating and maintenance costs)


Net lending

Contingencies
Deficits and Financing
• Deficit: Revenue – Expenditure
• Deficit = Financing:
• What is the available financing
– Net external financing—consistency with balance of payments
– Net domestic financing—consistency with monetary policy
objectives
– Financial markets conditions
– Privatization receipts
• What is the desired financing
– Debt sustainability issues
– Macroeconomic stabilization (e.g., limit on borrowing from
central bank)
Deficits and Financing (continued)
• Determine “fiscal gap” or “fiscal space”= difference
between deficit and financing:
– On the basis of available resources: revenue + gross financing
– On the basis of the level of expenditure
– On the basis of the desired deficit (in line with fiscal strategy)
• If financing > desired deficit  there is fiscal space to
conduct additional priority spending
• If financing < desired deficit Policy measures to close
the gap
Exploring Forecasting Scenarios
Compare against baseline scenario: changes in the (1)
macroeconomic environment or (2) in policies

Changes in macroeconomic variables:
Optimistic scenario:
 Higher growth rates
 Lower inflation
 Lower interest rates
 Higher external grants
Pessimistic Scenario
 Lower growth rates
 Higher inflation, interest rates, exchange rate
 Calls on government guarantees
Exploring Forecasting Scenarios (contd.)
Changes in policies:
Reforms:
 Tax policy (increase tax base; tax rates; simplify tax system;
improve tax administration)
 Expenditure policy (pension reform; civil service reform; public
enterprise reforms; pricing policies)
Expansionary fiscal policy:
 Assumes less revenue (tax breaks, reduction in rates, etc.)
 General wage and pension increases
 Less control over subsidies to enterprises and households
Location and Size of Contingency Margins in 6 Countries
Implicit Margins
Explicit Margins
Total
Contingency
GDP forecast
other economic
assumptions
within expenditure
estimate
within budget
balance
% of total
spending
Canada
MoF uses ave of
ind. forecast
MoF adds 0.5 to 1% to
interest rates and runs
through model
Contingency reserve of
1.5 to 2% of total
spending
MoF targets a surplus of
0.1% of GDP despite
balance rule
3.5 to 4%
United
Kingdom
MoF uses GDP
forecast 0.25%
below trend
7 other economic
assumptions explicitly
‘cautious’
Reserves and margins
equal to 0.75 to 1% of
total spending
MoF targets ave. surplus
of 0.2% of GDP despite
Golden Rule
2.5 to 3%
Sweden
MoF claims to use central assumptions for
GDP and its determinants but recent
forecasts have proven cautious
Budget margin within
expenditure ceiling
rising from 1.5 to 2.5%
of total spending
MoF’s MT objective was
ave. surplus of 2% of
GDP over cycle (1% post
2007)
1.5 to 2.4%
Netherlands
Deficit target & expenditure ceiling in CA &
Budget based on cautious economic scenario
in which GDP 0.5 to 1% below outturn
Central contingency
reserve of 0.1% of total
spending
Most recent CA targets
structural surplus of 1%
of GDP
1 to 2%
Australia
Budget is based on central economic
assumptions
Contingency reserve
rising from 1.6 to 5.2%
of total spending
MoF targets a surplus of
1% of GDP despite
objective of balance
1.5 to 5%
New
Zealand
Budget is base on central economic
assumptions
Central contingency
reserve of 0.25% of
expenditure
No stable fiscal objective
but targeted surplus
since mid 90s
0.25%
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Potential impact of fiscal risks
• Pressure to reduce deficits can result in governments
assuming off-budget risks, including through guarantees.
• Can result in very big, immediate, unexpected increases
in debt/GDP: banking crises; exchange rate crises
(especially when large share of debt is denominated in
foreign currency); assumptions of debts.
• Identification, disclosure and management of fiscal risks
are mutually supporting activities.
Potential impact of fiscal risks (2)
• The recent global financial crisis increased risks and
highlighted the need to monitor and disclose them:
 Financial sector interventions (e.g. guarantees, asset
swaps)
 More than usual uncertainty about recovery, further financial
sector support, asset recovery
 Pressure to reduce deficits can result in more off-budget
activity
How to incorporate fiscal risk
in the MTFF and the budget process (1)
1. Organized by type of risk:
– Past realization (e.g. systematic optimism in revenues, frequent SOE
bailouts)
– Policies to reduce risks
– Forward risk estimates
2. By type of analysis
• Sensitivity analysis, alternative scenarios (e.g., minimum wage in
Brazil)
• Alternative macroeconomic scenarios (e.g., New Zealand)
• Stress tests
• Debt Sustainability Analysis
• Descriptive analysis
How to incorporate fiscal risk in the MTFF and
the budget process (2)
• When preparing the budget, authorities should take into
account risks stemming from public interventions, and
possibly provide allowances for the possibility that some
risks and contingent liabilities will materialize.
• MTFFs and Debt sustainability analyses should include
scenarios with different assumptions with regard to:
- the materialization of contingent liabilities;
- recovery rates of purchased assets;
- resources generated from equity stakes.
• Stress tests of the balance sheet of the government to
different shocks should be conducted.
Contingent Liabilities
What countries disclose
SELECTED COUNTRIES
QUANTIFIABLE INFO DISCLOSED
Loan Guarantees
Guarantee and Insurance Programs
Australia, Canada, Chile, Colombia,
New Zealand, South Africa, US
Maximum authorized, face value, expected loss
(annual & NPV), unexpected loss (annual & NPV;
95% & 99% probability), details of guarantee and
guaranteed loan (maturity, currency, interest)
Infrastructure Guarantees
Chile, Colombia
Maximum loss, expected loss (annual & NPV),
unexpected loss (annual & NPV; 5, 50, 95, 99%
probability), evolution of NPV expected costs
Chile, South Africa, US
Face value, expected payments (annual & NPV),
calls on past guarantees
Lawsuits
Australia, Brazil, Canada, Chile,
Colombia, New Zealand, US
Face value (amounts claimed), expected losses
(annual, NPV), range of expected losses,
unexpected losses (99%), past success rates
Environmental
Liabilities
Canada, New Zealand, US
Expected costs
Quasi-fiscal deficit Central Bank
Australia, Chile
Quasi-fiscal deficit and capital position of CB;
guaranteed CB liabilities
Australia, Canada, New Zealand
Face value
Australia, Canada, New Zealand
Description of liability
Chile, Pakistan, US
Fiscal cost of past banking crisis, past costs of
stabilizing fuel prices
Pension Guarantees
Callable Capital (International Org.)
Unquantifiable Liabilities
Implicit Liabilities
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References on Contingency Liabilities
• Cebotari, A., “Contingent liabilities – Issues and Practice”, IMF
WP/08/245
• Cebotari, A. and others, Fiscal Risks: Sources, Disclosure and
Management, IMF, 2009
• Daban, T. and J.-L. Helis, “A Public Financial Management
Framework for Resource-Producing Countries”, IMF WP/10/72
• Daniel, J. and others, Fiscal Adjustment for Stability and Growth,
IMF, Pamphlet Series No. 55, 2006
• Fiscal Monitor
• IMF Staff Position Note 09/18 “Disclosing Fiscal Risks in the PostCrisis World”