Budget deficits: What governments are doing


More about Restoring public finances

The budget deficit for the OECD area as a whole probably peaked at around 7.5% of GDP in 2010. That's the equivalent of some US$3.3 trillion. A decrease to around 6.1% of GDP is expected in 2011, which will still be high by historical standards. But while the need to restore public finances is a global challenge, the state of government balance sheets varies widely. Economic starting points, causes of deficits and budgetary strategies also vary. Some countries have started down the road of austerity, others are maintaining stimulus and plan to rein in their deficits from 2011.


We asked finance ministers from a broad selection of countries facing different fiscal challenges-France, Germany, Indonesia, Ireland, Korea, Mexico, New Zealand and South Africa-to answer this question:


“What actions is your government taking to bolster public finances, while upholding growth and services?”


France: On the move


Christine Lagarde, Minister for Economics, Finance and Industry


Emerging from the crisis, all economies pledged simultaneously to restore their public finances. In doing so, they sought to enhance both national sovereignty and justice for future generations. In 2010, structural reforms are needed more than ever to reinstate medium-term growth and facilitate the consolidation of public accounts.


In France, the government has endeavoured to unleash growth within a more dynamic economy. To that end, we have taken steps to clear impediments to enterprise creation, increase the amount of labour in the economy and enhance business competitiveness and productivity.


In creating the auto-entrepreneur, a special regime drawn on the Anglo-Saxon model for the self-employed and designed for persons going into business for themselves, what we wanted to do was eliminate impediments to enterprise creation. The mechanism is simple: no social security contributions without turnover and streamlined and relaxed administrative formalities. In the year it was launched, more than 320 000 businesses were created under the auto-entrepreneur regime, generating a billion euros in turnover.


With pension reform, the government also pledged to improve the overall competitiveness of the French economy, focusing on labour. The measures adopted will mechanically reduce government spending while at the same time restoring activity: this reform will increase the ranks of people working in the economy. Fair and responsible, it has put France on the path to equilibrium for the years ahead.


As for the future, the state is in fact laying the foundations by propelling French businesses into competitive sectors of tomorrow. The state is continuing to invest in up-and-coming sectors conducive to spillover effects in private R&D, higher education and campuses of excellence. Forward-looking investments will ultimately account for an additional 0.3% of growth thanks to the leverage effect on private R&D, which is also spurred by the research tax credit. This measure has made France first in the OECD for the level of government assistance to business R&D.


Three pathways to the same objective: to reform France, to bring it growth and full employment, and to make it a great modern and prosperous country. Under the authority of the president of the republic and the prime minister, the government has been devoting itself to this task for the past three years. Much work has already been done: France is on the move.




Germany: Hitting the debt brake


Wolfgang Schäuble, Federal Minister of Finance


Germany's 2010 federal budget features a record-high deficit of well above €50 billion. Public-sector debt will surpass €1.7 trillion, approaching 80% of GDP. The financial crisis and the ensuing recession go only so far towards explaining these high levels of indebtedness. The truth is that Germany-as well as many other European and G20 countries-has lived far beyond its means, despite its reputation as a paragon of fiscal rectitude. Such profligacy has led to levels of debt that will become unsustainable if we do not act now. All the more since recent studies show that once a government's debt burden reaches a threshold perceived to be unsustainable, more debt will only stunt, not stimulate, economic growth.


This is why Germany decided in 2009 to enshrine strict fiscal rules in its constitution. The Schuldenbremse, or “debt brake,” requires the federal government to run a structural deficit of no more than 0.35% of GDP by 2016, while Germany's Länder will be banned from running structural deficits at all as of 2020.


The rules imply that we will reduce the structural federal deficit to approximately €10 billion by 2016. As welfare benefits account for more than half of Germany's federal spending this year there is little choice but to cut welfare spending too, at least moderately.


Recipients of corporate welfare, as well as civil servants, must share the sacrifice. German corporations will have to contribute to fiscal consolidation through reductions of subsidies and additional taxes on major energy companies, airlines and financial institutions. Similarly, civil servants must forego promised pay increases, and the government is looking for annual savings in the federal armed forces of up to €3 billion.


Germany's binding fiscal rules are meant to set a positive example for other euro area countries. But to restore the confidence of markets-and of their own citizens-euro area governments need to demonstrate their commitment to fiscal consolidation as well.


We will not foster sustainable growth or pre-empt a sovereign debt crisis in Europe (or anywhere else) by piling up more debt. We need to reduce deficits in a growth-friendly fashion, but reduce them we must. It can be done.




Ireland: Addressing market turbulences


Brian Lenihan, Minister of Finance


There can be no doubt that our public finances have been severely affected by the sharp decline in economic activity in recent years. But we were quick to recognise this and quick to respond, with the government adopting a comprehensive strategy for recovery based around three key principles: restoring competitiveness, repairing the banking system and returning sustainability to the public finances. Significant progress has been made in each of these areas.


Budgetary consolidation has been underway since mid-2008. Expenditure reducing and revenue raising measures worth close to €15 billion have been implemented in order to stabilise the situation and begin the process of returning our public finances to a sustainable path. This approach is working. Notwithstanding the impact the statistical treatment of the capital support being provided to our banking sector is having on our public finances, we will achieve our aim of stabilising the general government deficit this year.


But clearly more needs to be done. As part of the government's four-year plan for budgets and growth, we have reaffirmed our commitment to achieving a general government deficit of 3% of GDP by 2014 and have announced that we will implement further budgetary adjustments of €15 billion over the next four years, with a significant frontloading of that adjustment into 2011. This has been broadly welcomed.


Growth is returning to the Irish economy, so that the environment in which future adjustments must be made is different to that which prevailed in recent years. Our exports are performing very well and this reflects the significant price and wage adjustments that have taken place, which is testament to the flexibility of the Irish economy. Recent labour market data show that unemployment fell significantly in September and October.


In terms of supporting economic growth, we are also conscious that specific consolidation instruments can play a key role. In particular, reductions in current spending can have the least negative impact on activity and, where revenue increases are required, those measures which broaden the tax base are generally perceived as optimal. This budgetary consolidation approach will continue to underpin the government's strategy.


We are working with our EU colleagues and specifically with the European Central Bank, the European Commission and the International Monetary Fund to address the recent unwelcome market turbulences that have impacted on the euro area. We believe it is essential that we address the difficulties that have been raised by the markets in relation to the Irish banking system. This will be of benefit not only to the Irish banking system and Irish economy but to the wider euro area also.




Korea: Striking a balance


Yoon Jeung-Hyun, Minister of Strategy and Finance


The global economic recovery continues, thanks to active policy co-ordination through the G20 and high growth in developing and emerging economies. However, we cannot overlook the uncertainties that still remain and the potential risks of slower economic growth in the global economy.


Accordingly, fiscal policy needs to be focused on striking a balance between strengthening the momentum of economic recovery and consolidating fiscal soundness for market confidence and sustainable growth. In this context, the Korean government considers growth-friendly fiscal consolidation as our utmost fiscal policy priority.


As a small open economy, Korea is vulnerable to external shocks. In this regard, fiscal soundness comes up as the essential element in shoring up the economy in times of crisis. This is why fiscal consolidation must be put back on track at the earliest possible stage.


Moreover, as Korea's ageing population is expanding fast, concerns that it might drag down the nation's potential growth rate are mounting. Some are even painting a grim picture of weakening social integration caused by a widening income gap and debilitated job creation capacity. All these concerns stress the need for a proactive fiscal policy stance.


Fortunately, as the OECD and IMF highly commended, Korea is deemed to be a model case in overcoming the economic crisis, registering positive economic growth rate of 0. 2% in 2009 and expecting a 5.8% growth in 2010. At the same time, on the strength of improved fiscal conditions, we predict the fiscal balance to GDP ratio will rise from -4.1% in 2009 to -2.7% in 2010.


Considering such economic and fiscal conditions, the Korean government set a bold target to achieve fiscal balance by 2013-14 in its national fiscal management plan for 2010-14 under the stance of growth-friendly fiscal consolidation policy.


To this end, the Korean government will thoroughly manage total outlays by keeping the annual growth rate of fiscal expenditures 2 to 3 percentage points lower than that of revenues.


Meanwhile, the Korean government will promote expenditure restructuring and strategic distribution of resources in an effort to encourage investment for the future and stabilise people's livelihood within the annual spending budget. R&D and education will be the primary government support areas in expanding the foundation for sustained growth. Government support on the public health, welfare and labour sectors will also be strengthened for employment creation and stabilising people's livelihood.


Furthermore, we will focus on enhancing expenditure efficiency in all stages of the fiscal program from planning to budget allocation, execution and performance evaluation by, for example, undertaking pre-feasibility studies, introducing sunset clauses to government-funded programs and cutting funds on ineffective programs.


In terms of revenues, we will hold on to the principles of low tax rates and broad revenue bases to promote investment so as to stimulate employment and boost growth potential, while continuously broadening the tax base by reducing tax exemptions and reductions and disclosing the taxable amount for cash income businesses.


We expect our commitment to growth-friendly fiscal consolidation, which is also consistent with the policy direction of the G20, will contribute to strong, sustainable and balanced growth of the global economy.




Mexico: Strength through diversity and efficiency

Ernesto Cordero Arroyo, Secretary of Finance and Public Credit


For more than a decade, Mexico has focused on the task of strengthening its public finances. Public revenues have been diversified and the tax base increased in order to reduce dependence on oil revenues. Additionally, public expenditure has been reformed to incorporate a performance-based perspective to allow for a more efficient allocation of resources. Furthermore, Mexico has advanced on its structural reform agenda, restructuring its public pensions and energy sector, setting the foundations for a more efficient and solid economic system.


In 2007-2009 , Congress approved two fiscal reforms proposed by President Calderón ' s administration. These reforms were based on four pillars: tax administration, government revenue, public spending and fiscal federalism. The 2007 reform strengthened the tax administration system to combat evasion and increased non-oil tax revenues in order to reduce dependence on oil revenues. The 2009 reform increased excise, consumption and income taxes. It is expected that both reforms will allow non-oil tax revenues to reach 11.5% of GDP by 2012, a 28% increase during President Calderón's a dministration.


Additionally, the a dministration has promoted an ambitious fiscal policy agenda in order to strengthen public finances. This set of policies has allowed for a more efficient public expenditure, a simplification of the fiscal legal framework, an increase of the tax base and a more efficient tax collection.


These measures promoted by President Calderón's administration have given public finances enough room to increase expenditure and investment in strategic sectors that promote economic growth and reduce poverty, even during the recent international economic crisis. As a result, Mexico has reached historical levels of infrastructure and social development expenditures, which for the 2007-10 period amount to $187.7 0 and $21 billion respectively .


The positive results of the administration's fiscal policy are the foundations for further improvements to continue consolidating Mexico's sound public finances.




New Zealand: Reasons for optimism


John Whitehead, Secretary to the Treasury


New Zealand, like countries around the world, has an unerring focus on addressing the fallout from the global recession. We came through the world's financial crisis relatively well, and given the strong starting fiscal position, were able to respond with somewhat less austere measures than others are adopting. But in the foreseeable future, New Zealand will be grappling with significant debt and deficits. After 15 years of government surpluses, the country's books plunged deep into the red last year. We face five years of deficits, and net public debt will remain above pre-recession levels into the 2020s.


The country is feeling the effects of lower than forecast tax revenue and sluggish private consumption growth, as the economy recovers more slowly than expected. The job market has been volatile, but New Zealand has performed better than the average jobless rate of 8.5% in advanced economies. The latest official data puts unemployment at 6.4%, and it's expected to fall to around 6% by mid-2011.


There has been progress in controlling government spending. The public service makes up about one-third of the New Zealand economy, and all departments are being challenged to deliver services more efficiently. The government will cap future new spending at NZ$1.1 billion (around 0.5% of GDP and representing a reduction) annually, and is demanding more accountability and transparency of operations. Some 2 200 core state sector jobs, 5.4%, have been shed since December 2008.


Personal and corporate taxes have been reduced and the Goods and Services Tax (GST) on consumption has been raised, as part of moves to increase competitiveness and rebalance the economy towards exports and savings. A National Infrastructure Plan is in place for the first time.


New Zealand has reason to be optimistic. Commodity prices are strong, which boosts exporters' incomes and the economy as a whole. Higher commodity prices also support a stronger New Zealand dollar. Major building projects in the wake of a destructive earthquake in the South Island will boost the construction industry. And we look forward to the economic benefits of hosting next year's Rugby World Cup, which will spark a sizable jump in visitor numbers.




Indonesia: Targeting carefully and constructively


Agus Martowardojo, Minister of Finance


The Indonesian economy has sustained its strong and stable growth, estimated at 6% in 2010; and 7% growth is expected in the next two years, based on consumption, exports and investment. The priorities for the five years 2010-14 include lessening inequality, institutional and policy reforms to remove bottlenecks in infrastructure development, bureaucratic reforms to promote the investment climate , and a pro-environment development strategy to adapt to and mitigate the negative effects of climate change.


In the fiscal area, we have a family-based social assistance and conditional cash transfer programmes for job creation and equal distribution across regions and a credit guarantee to provide flexible and cheaper financing for micro and small and medium enterprises.


Indonesia is committed to making a significant contribution to limiting global greenhouse gas emissions, and helping to make a global climate change agreement possible. Economic development is going to be consistent with the long -t erm sustainability of natural resources, such as to reduce and to replace dependency on fossil fuels with clean and renewable energy. And we must reduce the sensitivity of our fiscal position to oil price movements. Indonesia will provide tax subsidies for clean energy sec tors such as geothermal and biofuels . We are aiming to reduce emissions by 26% by 2020 compared to business-as-usual, and by up to 41% if international support is received to assist the abatement effort.


In the meantime, the ministry of finance has been involved in the establishment of the Indonesian Climate Change Trust Fund, whose second phase will be led by Indonesia's government investment unit, a sovereign wealth fund under the ministry of finance to support the Climate Change Program.


Indonesia is keen to boost the development in infrastructure, through the establishment of several entities to facilitate and support private partnership, including the provision of land, Land Revolving Fund, Land Capping Fund and Guarantee Fund , plus an Infrastructure Fund. We are aiming to invest US$143 billion over the next five years.




South Africa: Minding future generations


Pravin Gordhan, Minister of Finance


As the world economy recovers from the global crisis, there is considerable debate about how quickly governments should be closing their budget deficits. Some argue that the recovery will be held back if governments cut expenditure too quickly while others point to the potentially devastating effects of fiscal default.


The South African government has struck a careful balance between continued real growth in expenditure and the reduction of the future interest cost burden on the fiscus. Where we have to borrow, we will do so mainly to invest in infrastructure that helps improve the productive capacity of the economy.


South Africa's pursuit of a countercyclical policy means that fiscal consolidation will be phased in without curtailment of core public services and in support of sustainable growth.


Government increased spending on social programmes and infrastructure during the economic downturn of 2008-2009. Doing this at a time when revenue was falling required a significant increase in borrowing and led to a higher budget deficit. We are able to do this because our careful management of the fiscus over the last 16 years created fiscal space which came in handy when the global crisis hit us. We had room for a budget deficit of 6.7% in 2009-10 and the projected 5.3% in 2010-11. The current budget framework anticipates a narrowing of the deficit to 3% of GDP by 2013-14. This will ensure that the economy is best placed to take advantage of growth opportunities and that a rising share of public expenditure is not absorbed by rising interest payments.


Our fiscal policy framework is fundamentally about ensuring that our wellbeing is not unfairly purchased at the expense of future generations. However, to support higher sustainable economic growth, we will, where necessary, borrow to finance investment, especially where this will reduce bottlenecks in the economy and also draw in private-sector investment. Higher levels of public and private investment are necessary over the medium term to raise the economy's growth potential and create employment and also contribute significantly to the countercyclical macroeconomic stance.





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