fiscal policies and growth: constraints and opportunities carlo cottarelli and michael keen ascent...
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Fiscal Policies and Growth: Constraints and Opportunities
Carlo Cottarelli and Michael Keen
“Ascent after Decline”: Workshop World Bank, November 19, 2010
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THE MACROECONOMIC DIMENSION
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The state of the world’s public finances
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Advanced economies entered crisis with worst (non-war) fiscal outlook
General Government Gross Debt for G-7 Economies, 1950-2007(In percent of GDP)
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50
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52
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54
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56
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60
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00
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02
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060
10
20
30
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50
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Gross Debt
Net Debt
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Emerging Advanced0
10
20
30
40
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60
200920302050
Old Age Dependency Ratio
With pressures from aging on top of that
• Pension reforms contain cost to 1 percent of GDP
• Health care costs increase by average 3.5 points by 2030
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Pre-crisis outlook for emerging economies better
1998 1999 2000 2001 2002 2003 2004 2005 2006 20070
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All Emerging Latin AmericaAsiaEurope
General Government Debt in Emerging Economies, 1998-2007(In percent of GDP)
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Fiscal legacy of crisis most marked in advanced economies---reflecting lasting impact on GDP
2007 2008 2009 2010 2011 2012 2013 2014 2015-10
-8
-6
-4
-2
0
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Advanced Emerging
2007 2008 2009 2010 2011 2012 2013 2014 20150
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Advanced Emerging
General Government Debt
General Government Balance
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Deficits, debt and growth
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0 50 100 150 200 250-10
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-6
-4
-2
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Debt ratio
CA
PB
Advanced Economies
In advanced economies, fiscal positions are unsustainable
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What debt target for stabilization?
Higher public debt associated with:
Higher real interest rates—perhaps 1.75 percentage points over 2008-15 for advanced economies
Lower growth (through reduced investment and labor productivity)—perhaps 0.5 points per year
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So need to do more than return to pre-crisis
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2007 2009 2011 2013 2015 2017 2019 2021 2023 2025 2027 2029 2030
Cyclically AdjustedPrimary Balance Primary
Balance
Overall Balance
Required adjustment is roughly:
• 8.5 percent GDP in advanced economies
• 3 percent in emerging
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Impact of fiscal adjustment on growth
Prospects for expansionary contractions limited:• Recent WEO work• Low interest rates
Evidence that adjustment on spending side is:• Associated with more durable consolidation• Less contractionary
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THE MICROECONOMIC DIMENSION
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Spending better
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Welfare reform
Pensions—Argue for raising retirement age by 2 years: stabilizes spending at 2010; best for growth
Health care—supply and demand side measures
‘Better targeting’?• Incentive effects of means-testing• Wage subsidies• Tagging by correlates with participation responsiveness;
increase UK workforce by 1 percent.
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Infrastructure and innovation
Literature gives good reason to suppose strong positive output effect from public capital....
...but little guidance on specifics
Institutions matter
Likely needs:• Climate change—adaptation not costly in most advanced,
but likely to be in some emerging• Fundamental R&D—energy research, geoengineering?
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Eliminating wasteful subsidies
Petroleum subsidies—cost around 0.3 percent global GDP in 2010
Exemptions and special treatment—importance of tax expenditure analysis
Subsidies to renewables—don’t let spending substitute for proper carbon pricing
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Taxing smarter
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In search of immobile tax bases
VAT: • Potential in Japan (and US?)• Large scope in most advanced economies to eliminate
exemptions and reduced rates—could raise £11 bn in UK even after compensation
Property tax
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Green taxes
Revenue potential is:• Significant but not transformational in advanced—about
$100 bn per year in U.S• More in some emerging—If internationally traded• But requires that permits not be given away
Not much money in other environmental taxes• Though potential in congestion pricing
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Investment and finance
Giving an allowance for notional cost of equity (an ‘ACE’) would
Eliminate corporate-level disincentives to invest Reduce debt bias
Financial sector• Pre-financing resolution/Corrective tax• ‘Financial Activities Tax’—a fix for the VAT
Gains from enhanced international cooperation