Transcript Challenges in restoring fiscal sustainability

Challenges in restoring fiscal
sustainability
Federal Planning Bureau
27 October 2009
Jørgen Elmeskov
Acting Chief Economist
Economics Department
Outline
1. The contours of the fiscal consolidation
challenge
2. What experience tells us about ways to
consolidate
Headline fiscal deficits have surged
fiscal consolidation challenge
Per cent of GDP
Source: Economic Outlook 85 database.
fiscal consolidation challenge
Potential output is likely to have fallen
Source: OECD Secretariat.
fiscal consolidation challenge
The distribution of fiscal consolidation episodes
by size
Number of episodes
18
16
14
12
10
8
6
4
2
0
1
2
3
4
5
6
7
8
9
10
11
12
Improvement in underlying budget position during the episode
(% of potential GDP)
Source: Guichard et al. (2007).
13
Synchronisation and international spillovers
imply negative demand effects
fiscal consolidation challenge
Fiscal consolidation equivalent to 1% of own-country GDP
Source of change:
United States
Japan
Euro area
OECD
Spillover as % of
own-country effect
Impact of change on:
United
Euro
Japan
States
area
GDP effects, % differences
from baseline: 2011
-0.9
-0.2
-0.1
0.0
-0.8
0.0
-0.1
-0.1
-0.8
-1.2
-1.3
-1.1
26%
54%
Total
OECD
-0.5
-0.2
-0.3
-1.1
Of which
“own
country”1
-0.3
-0.1
-0.2
32%
Note: Own country” effect corresponds to the own country multiplier weighted
by the country’s share in OECD GDP. The “spillover“ is calculated as the effect
of other OECD countries consolidation on own-country GDP as a share of the
total GDP effect on that country when all OECD countries consolidate at the
same time
Source: OECD Global model.
Policy rates have been cut to very low levels
fiscal consolidation challenge
Per cent
Source: US Federal Reserve, Bank of Japan, European Central Bank.
fiscal consolidation challenge
Higher government debt tends to raise long-term
interest rates
Spread between long-term and short-term interest rates versus gross
government debt in % of GDP
Note: Bars represent average across all OECD countries for which data are
available over the period 1994 to 2008. Short-term interest rates are typically
rates on 3-month Treasury bills and long-term interest rates those on 10-year
government bonds.
Source: OECD.
Strong signalling of commitment is needed
Various commitment devices to raise credibility:
How to consolidate
₋
Reform pension/health system now
₋
₋
₋
Fiscal rules
₋
₋
₋
₋
Little up-front demand impact
Had to be done anyway – hence signalling rather than
paying for crisis
Empirical evidence: rules are associated with
consolidation success
But causality is not so clear
(Re-)establishing credibility after the crisis may be hard
Fiscal transparency
The shape of consolidation affects
its outcome
Probability to reach a primary
balance that stabilises debt
Size of adjustment
(percentage point)
100
How to consolidate
4.0
90
3.9
80
70
3.8
60
50
3.7
40
3.6
30
20
3.5
10
0
3.4
average value (14%)
28%
Share of primary current expenditure cut in the
primary balance adjustment
Source: based on Guichard et al. (2007).
average value
10%
20%
Share of social spending cut in the
primary balance adjustment
Arguments why the shape of consolidation could matter
How to consolidate
•
Why is consolidation more likely to succeed if based on
(social) spending cuts?
•
Signal of determination
•
Avoids potentially inflationary tax hikes
•
•
•
Allows monetary policy accommodation
Empirical evidence: accommodation seems to increase
choice of successful consolidation
The findings could be spurious
Raising public sector efficiency
Potential gains from moving to national best practice
Saving in teaching staff for unchanged output
Per cent
How to consolidate
18
16
14
12
10
8
6
4
2
0
Source: Sutherland et al. (2007)
How to consolidate?
Effect of a drop in the NAIRU
by 1 percentage point on financial balance
Iceland
Hungary
Portugal
Austria
France
Belgium
Italy
Ireland
Denmark
Greece
Australia
Spain
United Kingdom
Poland
Netherlands
Germany
Canada
United States
Czech Republic
Switzerland
Japan
Luxembourg
Korea
0
0.1
0.2
0.3
0.4
0.5
Percentage point of nominal GDP
Source: OECD
0.6
0.7
Ranking of tax in terms of their negative
effect on long-term growth
More distortive
How to consolidate
Corporate tax
Personal income tax
Consumption tax
(and other property tax)
Tax on immovable property
Less distortive
How to consolidate
A glimmer of hope?
•
Fiscal consolidation is more likely when the fiscal
situation is bad.
•
It is also more likely to succeed when initiated in a
bad fiscal and economic situation.
Challenges in restoring fiscal
sustainability
Federal Planning Bureau
27 October 2009
Jørgen Elmeskov
Acting Chief Economist
Economics Department