LESSONS LEARNED: SUCCESSFUL EXAMPLES OF FISCAL ADJUSTMENT

William Dorotinsky ICGFM International Conference May 19, 2013

1

Project Background
• Timely topic

• Extreme fiscal adjustment • At least 8% point improvement in fiscal balance over 5 years
• Approach • Consulted available literature • Interviewed contemporaneous actors • Comprehensive focus • Policies • Institutional/process reforms • Government strategy

2

Countries Reviewed
Country Canada Finland

Period of Adjustment
1993-1998 1993-2000

Change in General Govt Budget Balance (%)
8.8 16.0

Netherlands
Sweden Thailand Turkey United Kingdom
Source: WEO

1995-2000
1993-2000 1999-2003 2002-2006 1993-2000

11.2
14.8 11.1 13.9 9.1

3

Adjustment Sustainability (1)
5 year average after end of adjustment
4
3.3 General Government Balance (% of GDP)

3 2 1 0
Canada Finland Netherlands Sweden Thailand Turkey UK 1.0 0.2 1.0

-1 -2 -3
-1.5 -2.5 -2.3

4

Adjustment Sustainability (2)
5 year trend after end of adjustment
General Government Balance (% of GDP)

8 6 4 2 0 -2 T T+1 T+2 T+3 T+4 T+5

-4 -6
-8 Canada Thailand Finland Turkey Netherlands UK Sweden

5

Global Financial Crisis – Budget Balance
Country 2005 2006 2007 2008 2009 2010 2011

Canada
Finland Netherlands Sweden Thailand Turkey United Kingdom
Source: WEO

1.5
2.7 -0.3 1.9 1.5 -0.3 -3.3

1.6
4.0 0.5 2.2 2.2 0.0 -2.6

1.6
5.3 0.2 3.6 0.2 -1.7 -2.7

0.1
4.2 0.4 2.2 0.1 -2.4 -4.9

-4.9
-2.7 -5.6 -0.9 -3.2 -5.6 -10.4

-5.6
-2.8 -5.1 -0.2 -0.8 -2.7 -9.9

-4.5
-0.8 -5.0 0.1 -1.9 -0.3 -8.7

6

Adjustment Triggers

Market driven
Turkey

Politically Driven

Thailand
Finland Sweden Canada United Kingdom
7

Netherlands

Actual Adjustment Triggers
Canada
• MARKET—Mexican Peso crisis • MARKET—Western recession in 1990, collapse of FSU, trade shock, banking crisis, devaluation of currency • POLITICAL—Campaign pledge to meet Maastricht deficit criteria • MARKET—Western recession in 1990, trade shock, markets forced Swedish Kroner to devalue • MARKET--Abandonment of dollar peg; instant bankruptcies in private and financial sector • MARKET--Major upheaval in 2001 affecting stock market, currency value, banking sector, and FDI • MARKET--Withdrawal from ERM reinforces need to control fiscal deficit

Finland
Netherlands

Sweden
Thailand

Turkey
United Kingdom

8

Power of an Ill-Timed Single Statement
In February 2001, the Turkish Prime Minister uses the phrase, "This is a crisis". Within days:  Stock market crashes nearly 40%  Interest rates rise to 3000%  Central bank loses $5 billion in defending a crawling peg exchange rate regime  30% drop in currency value after regime is abandoned  Large amounts of foreign investment withdrawn from the economy

9

Political Context
Two Patterns: Newly elected vs. mid-term govts

Canada Finland Netherlands Sweden Thailand Turkey

• Jean Chretien elected with majority government in 1993, re-elected in 1997 • Esko Aho led center-right coalition government elected in 1991; Paavo Lipponen center-left coalition government elected in 1995 • Wim Kok led center-left coalition government elected in 1994, reelected in 1999 • Carl Bildt led centre-right coalition elected in 1991; Ingvar Carlsson led center-left coalition government elected in 1994; party re-elected in 1998 with Goran Persson as Prime Minister • Coalition government led by Chavalit Yongchaiyudh elected in 1996; Thaksin Shinawatra elected in 2001 • Ahmet Necdet Sezer elected president in 2000; Recep Tayyip Erdoğan elected as president with strong majority in 2003 • John Major re-elected with majority government in 1992; Tony Blair elected in 1997 with majority government

United Kingdom

10

Adjustment Pattern: Institutional Reforms

Adjustment Trigger

Immediate Institutional Reforms
• Canada • Netherlands • Sweden • Finland • United Kingdom

Mid-Adjustment Institutional Reforms Solidified
• Thailand • Turkey

11

Adjustment Strategies
• Communication

• Fiscal goals
• Re-definition of government • Spending review process • Future competitiveness • Broad based public sector reforms

12

Communication
• Public - societal exercise • Canada – ―A New Framework for Economic Policy‖ • Finland – Presidential report on employment • Turkey – "Turkish Transition to a Strong Economy Program‖ • Markets • Forecasts made transparent to markets • Canada • Sweden

13

Sweden: Sharing the Pain
• Sweden reduced compensation of Politicians • Symbolic savings, not worth a lot of money, but sends a strong message about the government's will and the gravity of the situation

14

Role of Fiscal Goals
• Early victories and measurable progress

• Establishes credibility • Citizens – tolerance for pain • Markets – mid-term sustainability
• Amended and strengthened by new governments • Finland, Thailand, Turkey
CAN Goal Of Within 3% deficit 3 years FIN 70% debt NL 3% deficit SWE 0% deficit THAI 60% debt 1 year TURK 6.5% primary surplus UK 0% deficit 4 years

4 years 4 years

15

Re-Definition of Government
• Canada (Program Review) • Serving the public interest; • Necessity of government involvement, as opposed to the private sector; • Appropriateness of federal role, as opposed to other levels of govt; • Scope for public and private sector partnerships; • Scope for increased efficiency; • Affordability • United Kingdom • Embraces Public Private Partnerships • Turkey • Limit the role and reach of government • General deregulation of the economy • Thailand in 2nd stage • ―Dual Track Policy‖– government as engine of growth, yet sustainable • Establishment of safety net – medical, housing, etc. • Expansive policy in agricultural sector, local development, and SMEs

16

Formal Spending Review Process
• Netherlands
• Broad review by quasi-independent committee

• Canada
• Program review led by Minister of Finance

• United Kingdom
• Fundamental Expenditure Review led by

Treasury

17

Spending review process evolution
• Netherlands • Broad review continues--one year prior to every election by quasi-independent committee • Canada • Program review evolves into an MTEF • United Kingdom • Comprehensive spending review continues to occur periodically • Finland/Sweden • Not initially as comprehensive but evolves into MTEF • Thailand/Turkey • Post adjustment implementation of MTEF
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Future Competitiveness
• Turkey – general deregulation of economy, many SOEs

removed from government support • Finland – unemployment key concern • Sweden – subsidized child care, education, and active labor market policies, shielded from cuts • Thailand in 2nd stage – government as an engine of growth; promote exports by public investments through ―choice and concentration‖

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Expenditure / Revenue Mix
Canada
• 80 / 20 • Primarily expenditure

Finland
Netherlands

• Primarily expenditure
• 53 / 47

Sweden
Thailand

• Primarily expenditure
• 70 / 30

Turkey

United Kingdom • 50 / 50
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Expenditure Policy Changes
Expenditure Policy Change Across the board vs. targeted CAN FIN NL SWE THAI TURK UK Across the Targeted Targeted Targeted Targeted Board Targeted initially n/a Not exempt Reduced Reduced n/a n/a Hiring Caps, attrition n/a Targeted

Individual transfers Reduced Intergovernmental transfers Wage bill Reduced 19% downsizing Yes

Reduced Capped Zero growth

Formula Reduced n/a n/a changed Incentive Tied to Reduced to leave or productivi Reduced greatly retire ty Yes n/a n/a n/a

Pensions

Raised retirement age for women
Yes/PPP

Privatization

Yes

Yes

n/a

n/a

Planned

Initiated

21

Finland: Constitutional Amendment
• Greater flexibility
• Constitutional amendment in June 1993 allowed permanent

savings decisions on statutory appropriations (entitlements) to be made with a simple majority in Parliament (as opposed to twothirds) • Proved to be of crucial importance in getting government expenditure under control

22

Revenue Policy Changes
Revenue Policy Change No significant change One time measure Permanent measure Consumption tax Income tax Corporate tax X X X X X X X X X X Canada Finland NL X X X X X X X X X Sweden Thai Turkey UK

23

Institutional / Process Reforms
Reform CAN Institutionalize spending reviews X X Use of Committees Greater discretion / accountability to line ministries Conservative macroeconomic forecasts Medium-term frameworks Contingency reserve Offset required for new policy initiatives Debt management Comprehensiveness of budget Revenue administration X X X X X X FIN NL X X X X2 X SWE THAI TUR UK X X X

X X X

X X2 X

X X X2 X

X

X2

X X

X X X X X 24

Empowering MoF
Netherlands:
The Ministry of Finance has authority to unilaterally impose higher local tax rates on the citizens of sub-national governments that fail to live within their budget allocations.

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Lessons (1)
• Sustained commitment and leadership • Strong Minister of Finance (or equivalent) in all countries • Focus on building credibility • Markets • Society • Manage expectations and be consistent in messages • 5 year + exercise • Adjustment package • Comprehensiveness is important – shared burden • Speed - short time frame as longer targets cross political events • Front load the pain – tolerance has a limited life • Empowerment of fiscal actors • Greater role for MoF • Use of quasi-independent fiscal bodies
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Lessons (2)
• Good practices • Prudence in forecasting • Clear rules on managing an unexpected surplus • Ensure major programs are not indexed to inflation • Transparency of budgeting process • New policy initiatives offset with funding from existing programs • Avoid undermining future competitiveness • Protect education, labor force participation • Sustainability • Institutional / process reform • Size of adjustment constrains ability to restore cuts • Can be politically rewarding
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Questions?
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