International Monetary FundApril 17, 2015

April 2015 Fiscal Monitor

Now is the Time:

Fiscal Policies for Sustainable Growth

Xavier DebrunDeputy Chief, Fiscal Policy and Surveillance,

Fiscal Affairs Department

Outline

Highlights from recent fiscal developments and risks

Selected policy implications

Stabilize more, grow faster

1

Selected Euro Area Countries: Estimates of Funding

Cost Savings From QE Activation by the ECB, 2015–16

(percent of GDP)

Euro area: Expected funding cost savings from QE are significant

2

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1.0

Germ

an

y

Au

str

ia

Fin

lan

d

Ne

the

rla

nds

Ire

lan

d

Fra

nce

Eu

ro A

rea

Po

rtug

al

Be

lgiu

m

Italy

Sp

ain

2016

2015

0

2

4

6

8

10

12

Jul-12 Oct-12 Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14 Jul-14 Oct-14 Jan-15

Germany

Portugal

Spain

United States

United Kingdom

Japan

Selected Countries: Nominal 10-Year Bond Yields, 2012–15

(percent)

10

15

20

25

30

2012 2013 2014 2015 2016

Debt (p

erc

ent

of G

DP

)

Oct. 2014

Current FM

Oil Exporters

Overall Balance

(percent of GDP)

EMs: Projected deterioration in fiscal position driven by oil exporters

4

Debt

(percent of GDP)

-8

-6

-4

-2

0

2

4

6

2012 2013 2014 2015 2016

Overa

ll bala

nce (

perc

ent

of

GD

P)

Oct. 2014

Current FM

Oil Exporters

-8

-6

-4

-2

0

2

4

6

2012 2013 2014 2015 2016

Overa

ll bala

nce (

perc

ent

of

GD

P)

Oct. 2014

Current FM

Oil Importers

40

45

50

55

60

2012 2013 2014 2015 2016

Debt (p

erc

ent

of G

DP

)

Oct. 2014

Current FM

Oil Importers

Lower oil prices create fiscal challenges in oil exporting economies

0

10

20

30

40

50

60

70

80

90

100

Co

lom

bia

Vie

tna

m

Ind

on

esia

Ca

me

roo

n

Ru

ssia

Ecua

dor

Me

xic

o

Bo

livia

Ira

n

Ka

za

kh

sta

n

Ve

nezu

ela

Ye

men

Gab

on

Qata

r

Alg

eria

Ch

ad

Nig

eria

Un

ite

d A

rab

Em

ira

tes

Co

ng

o,

Re

pu

blic

of

Azerb

aija

n

An

gola

Sa

udi

Ara

bia

Lib

ya

Tim

or-

Le

ste

Bru

ne

iD

aru

ssa

lam

Ba

hra

in

Om

an

Eq

uato

ria

lG

uin

ea

Ira

q

Ku

wa

it

EMMIEs

LIDCS

Resource Revenue

(percent of total government revenue; 2013 or latest available data)

5

Projected Change in Commodity Revenues between 2014 and 2015

(percent of 2014 total revenues)

Exchange rate depreciation could offset some of the revenue losses, but some have foreign-currency denominated government debt

6

Public External Debt, 2014

(percent of GDP)

-35

-30

-25

-20

-15

-10

-5

0

An

gola

Om

an

Bru

ne

i D

aru

ssa

lam

Un

ite

d A

rab E

mira

tes

Sa

udi A

rab

ia

Ba

hra

in

Co

ng

o,

Re

pub

lic o

f

Ye

men

Alg

eria

Ka

za

kh

sta

n

Qata

r

Ira

n

Nig

eria

Ecua

dor

Ve

nezu

ela

Gha

na

Co

lom

bia

Ru

ssia

Su

dan

Nig

er

Fixed, pegged, or managed exchange rate regime

Float exchange rate regime

Experienced currency devaluation/depreciation since June 2014

0

5

10

15

20

25

30

35

40

Qata

r

An

gola

Eq

uato

ria

l G

uin

ea

Lib

ya

Co

lom

bia

Gab

on

Ecua

dor

Ye

men

Bo

livia

Azerb

aija

n

Tu

rkm

en

ista

n

Ira

q

Co

ng

o,

Re

pub

lic o

f

Ch

ad

Gha

na

Spillovers from oil exporters: a risk for some developing economies

8

Decline in Oil imports and Petrocaribe Exposure

(percentage points of GDP)

0.2 % of GDP

0.7 % of GDP

0.1 % of GDP

0

1,000

2,000

3,000

4,000

5,000

6,000

Africa Middle East South and Central Asia

Aid Flows from Kuwait, Russia, Saudi Arabia and

United Arab Emirates, 2013 (Millions of USD)

Other sources of risks

Risks to debt dynamics:

Debt dynamics in AEs sensitive to real interest and growth shocks

Lower growth prospects and lower commodity prices raise challenges in many EMs and LIDCs

Geopolitical risks and policy uncertainty: Disruptions in trade and financial transaction (Ukraine/Russia, Middle East, parts of Africa).

Policy uncertainty (Greece): reemergence of sovereign-bank feedback loops?

Financial market volatility:

Capital outflows from EMs (investors deleveraging or flight to quality),

Surprises related to US monetary normalization (see GFSR)

17

Selected policy

implications

Energy Subsidies Are Large in All Regions

9

Energy Subsidies, 2011

(billions of US dollars)

Source: B. Clements and others, 2013, Energy Subsidy Reform: Lessons and Implications.

Note: Estimates draw on IEA World Energy Outlook 2012; and data from OECD and World Bank.

Petroleum products, 728

Natural gas, 376

Electricity, 179

Coal, 709Advanced, 642

CEE-CIS, 241E.D. Asia, 575

LAC, 109

MENA, 382

S.S. Africa, 42 By Product By Region

Flexible, growth-friendly fiscal policy

No additional fiscal consolidation if growth disappoints:

Let automatic stabilizers play: see evidence in chapter 2.

Condition: credibility is not at risk.

Countries with fiscal space could boost medium-term growth:

Infrastructure investment: can boost short- and medium-term growth (October ‘14 WEO)

But this must be done efficiently!

What if no/little space?

Work on composition of spending and taxes,

EU-level initiatives,

Strengthen fiscal frameworks in support on medium-term fiscal plans: confidence and credibility.

17

Chapter 2

Stabilize more,

grow faster

Comprehensive study: broad sample (85 countries, 1980-2013)

Fiscal policy is, on average, stabilizing:

More in advanced economies, more in bad times, more at low frequency.

Automatic stabilizers (AS) are key:

Contribute about 2/3 in advanced economies and 1/3 in developing economies.

Main determinants of AS: government size and social transfers.

Dividends of fiscal stabilization are significant:

Higher and less volatile growth.

Internalize the role of automatic stabilizers

Let AS play freely avoid procyclicality.

Internalize efficiency-stabilization trade-off costs of large AS

Highlights of chapter 2

0

5

10

15

20

25

30

35

Nu

mb

er

of co

un

trie

s

Stabilization coefficient

Insignificant Significant

-0.6 -0.2 0.2 0.6 1.0 1.4 1.8 2.2

Median

coefficient (0.3)

0

2

4

6

8

10

12

Nu

mb

er

of co

un

trie

s

Stabilization coefficient

Insignificant Significant

Median

coefficient (0.7)

Advanced Economies

Fiscal stabilization is greater in advanced economies

14

Emerging Market and Developing Economies

Distribution of Fiscal Stabilization Coefficients

-0.2 0.2 0.6 1.0 1.4 1.8

Fiscal stabilization is stronger during recessions

Sources: European Commission; Organisation for Economic Co-operation and Development; and IMF staff estimates.

Note: Recessions and expansions are defined using an approach equivalent to the smooth transition autoregressive model developed by Granger and

Terasvirta (1993). The figure displays ordinary least squares regressions with country and time fixed effects and robust standard errors. To reduce

heterogeneity in the panel, commodity exporters have been excluded. AEs = advanced economies; EMDEs = emerging market and developing

economies. ** p < 0.05; *** p < 0.01.

Fiscal Stabilization over the Cycle

**

***

***

-0.4

-0.3

-0.2

-0.1

0.0

0.1

0.2

0.3

0.4

0.5

0.6

AEs EMDEs

Overall Stabilization Automatic Stabilizers

**

***

***

-0.4

-0.3

-0.2

-0.1

0.0

0.1

0.2

0.3

0.4

0.5

0.6

AEs EMDEsRecessions Expansions

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

Overall Demand disturbances Real GDP growth Output gap

Blanchard-Quah decomposition Business cycle

Response to transitory (“demand”) shocks seems stronger

Advanced Economies: Fiscal Stabilization and the Nature of Shocks

(percent of GDP)

Sources: European Commission; Organisation for Economic Co-operation and Development; and IMF staff estimates.

Note: The bars represent simple averages of country-specific point estimates.

**

***

**

**

***

***

0.00

0.01

0.02

0.03

0.04

0.05

Family and child support Unemployment benefits Incapacity benefits Total expenditure Social expenditure Health

Imp

act o

n th

e s

tab

iliza

tio

n c

oe

ffic

ien

tAutomatic stabilizers on the spending side boost fiscal stabilization… a little

Advanced Economies: Determinants of Fiscal Stabilization

(impact of a 10 percent increase in selected outlays on stabilization coefficients)

Sources: European Commission; International Country Risk Guide; Organisation for Economic Co-operation and Development; and IMF staff

estimates.

Note: Figure estimates reflect panel weighted least squares, with weights inversely proportional to the estimation error of the stabilization

coefficients. Additional conditioning variables include output volatility, openness, GDP per capita, and the government debt-to-GDP ratio.

Country and time fixed effects are also included.

** p < 0.05; *** p < 0.01.

***

***

**

***

-3

-2

-1

0

1

2

Advanced economies Emerging market and developing economies

Imp

act o

n o

utp

ut vo

latilit

y

Fiscal stabilization Government size

Fiscal stabilization appears effective in reducing output volatility, especially in

advanced economies

Sources: Mauro and others 2013; World Bank; and IMF staff estimates.

Note: Estimates are based on Arellano-Bond (1991) system generalized method of moments. Output volatility is defined as the standard deviation of

the real GDP growth rate over 5-year fixed windows. Emerging market and developing economies include emerging market and middle-income

economies as well as low-income developing countries.

** p < 0.05; *** p < 0.01.

Impact of Fiscal Stabilization and Government Size on Output Volatility

(percent)

But countries tend to suppress their impact in good times, leading to

significant public debt buildup

18

30

40

50

60

70

80

90

t t+1 t+2 t+3 t+4 t+5 t+6 t+7 t+8 t+9 t+10 t+11 t+12 t+13 t+14 t+15 t+16 t+17 t+18 t+19 t+20

Pu

blic

de

bt

Symmetric stabilization

Revenue windfalls half spent

Asymmetric Stabilization: Unpleasant Public Debt Arithmetic

(percent of GDP)

Automatic stabilizers play more freely in countries with fiscal rules and access to

finance

***

**

**

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

Fiscal rule Trade openness (10 percentage pointincrease)

Access to financing(1 standard deviation improvement)

Rela

tive im

pact on a

uto

matic s

tabili

zers

' effectiveness

Advanced Economies: Factors that Boost the Effectiveness of Automatic Stabilizers

Sources: IMF Fiscal Rules database; World Bank; and IMF staff estimates. Note: Figure estimates use weighted least squares, with weights

inversely proportional to the estimation error of the effectiveness coefficients. The number on the vertical axis is the ratio of the estimated

impact of the scenario specified on the horizontal axis to the average effectiveness coefficient. For a list of advanced economies, see

Economy Groupings in the Methodological and Statistical Appendix. ** p < 0.05; *** p < 0.01.

Boosting the effectiveness of automatic stabilizers

Tax deductions

Cyclical investment tax deduction

Cyclical bonus depreciation

Cyclical loss-carry forward

Cyclical property tax

Expenditure

Automatic transfers to local governments

Cyclical adjustment of unemployment benefits

14

Fiscal Stabilization Coefficient versus Output Volatility

Fiscal stabilization promotes macro stability and growth

15

Fiscal Stabilization Coefficient versus Real GDP Growth

Fiscal Stabilization, Output Volatility, and Growth: Cross-Country Correlations, 1980−2013

0

1

2

3

4

5

6

7

8

-0.5 0.0 0.5 1.0 1.5 2.0

Ou

tpu

t vo

latilit

y (

pe

rce

nt)

Fiscal stabilization coefficient

Significant coefficientsInsignificant coefficients

Correlation = −0.40

0

1

2

3

4

5

6

7

8

-0.5 0.0 0.5 1.0 1.5

Re

al G

DP

gro

wth

ra

te (

pe

rce

nt)

Fiscal stabilization coefficient

Fiscal stabilization is positively correlated with real GDP growth and higher fiscal

stabilization means more growth

***

*

-0.1

0.0

0.1

0.1

0.2

0.2

0.3

0.3

0.4

Fiscal stabilization coefficient Government size

Incre

ase in r

eal G

DP

per

capita g

row

th r

ate

(p

erc

ent)

Advanced economies

Emerging market and developing economies

Fiscal Stabilization and Medium-Term Growth

Sources: European Commission; Mauro and others 2013; Organisation for Economic Co-operation and Development; and IMF staff estimates.

Note: Emerging market and developing economies include emerging market and middle-income economies as well as low-income developing

countries. For a list of countries in each group, see Economy Groupings in the Methodological and Statistical Appendix.

* p < 0.10; *** p < 0.01.

Policy implications

Make fiscal policy more stabilizing through the cycle:

Address shortcomings of discretionary stabilization (cyclical unemployment benefits, easy-to-implement capital/maintenance spending)

Do not spend revenue windfalls from above-average growth

Boost automatic stabilizers? Yes but beware of the side effects (government size)

Options to boost stabilizers at constant government size

Sound fiscal institutions help:

Credible long-term anchor; no financing constraints

Constraint spending in good times

Provide short-term flexibility in the face of bad shocks (structural fiscal indicators, well-designed escape clauses)

17

Concluding remarks

Risks to public finances are significant

Debt dynamics in AEs sensitive to real interest and growth shocks

Lower growth prospects and lower commodity prices raise challenges in many EMs and LIDCs

Policy messages: Seize the moment to get energy prices right (end subsidies, tax carbon)

If possible, use fiscal flexibly in response to risks and medium-term challenges

Strengthening fiscal frameworks can help:

Manage fiscal risks, including uncertainty related to commodity prices

Promote fiscal stabilization through the cycle and deliver a growth dividend

Anchor fiscal policy and support debt sustainability

17