2013.10.11 - NAEC Seminar_Fiscal Consolidation

HOW MUCH SCOPE

FOR GROWTH- AND

EQUITY-FRIENDLY

CONSOLIDATION?

Speakers:• Boris Cournède, OECD• Antoine Goujard, OECD• Álvaro Pina, OECD

NAEC Seminar 11 October 2013In association with the OECD Economics Department

• The opinions expressed and arguments employed in this document are the authors’ and do not necessarily reflect the official views of the Organisation or of the governments of its member countries.

• This document and any map included therein are without prejudice to the status of or sovereignity over any territory, to the delimitation of international frontiers and boundaries and to the name of any territory, city or area.

• The statistical data for Israel are supplied by and under the responsibility of the relevant Israeli authorities. The use of such data by the OECD is without prejudice to the status of the Golan Heights, East Jerusalem and Israeli settlements in the West Bank under the terms of international law.

Remarks

• Propose a structured way of looking at the selection of consolidation instruments in the light of their effects on:– growth (short and long term) – income inequality (short and long term)– global rebalancing

• Illustrate this approach with quantitative simulations

• Highlight the role of structural reforms

The objectives:

3

• Bring gross debt to 60% of GDP and keep it stable.

• Other objectives– Output: long-term but

also short-term– Equity– Global rebalancing

Consolidation and other objectives

Defines consolidation needs: short and long term

Guides the choice of instruments

4

Public-sector debt and deficits in 2012

Source: OECD Economic Outlook No. 93.

0 20 40 60 80 100 120 140 160 180 200 220 240

-10

-8

-6

-4

-2

0

2

4

6

-2.6

1.10.3

-2.5

1.2

0.0

1.4

-0.2

-1.8

1.2

-1.8

-1.3

-5.1

3.2

1.0

-1.8

2.6

-1.6

4.4

-8.1

1.4

-0.2

-1.4-1.8 -1.8

-2.4

0.5

-3.1

-0.6

-0.2

-5.4

Government debt (national accounts definition), % of GDP

Underlying primary fiscal balance, % of potential

GDP

5

Further consolidation is needed over the outcomes achieved as of end-2012

Difference between debt-control and baseline underlying primary surplus

% o

f pot

entia

l GD

P

JPN

GBRGRC

USAPRT

IRL

ESPFRA

SVKPOL

FIN ISL

NLDCAN

SVNAUS

HUN

ISR

NZLCZE

BELSW

EIT

ALUX

AUTCHE

DEUDNK

ESTKOR

0

5

10

15

20

0

5

10

15

20

In the year when initial consolidation ends (short to medium term)In 2060 (long term)

6Source: Cournède, Goujard and Pina (2013).

• Education (public consumption)

• Health (public consumption)

• Other public consumption except family policy

• Pensions (cash transfers)

• Unemployment (cash transfers)

• Sickness and disability (cash transfers)

• Family policy (public consumption and cash transfers)

• Subsidies

• Public investment

The instruments of consolidation: spending side

7

• Personal income taxes

• Social security contributions

• Corporate income taxes

• Environmental taxes

• Consumption taxes (non-environmental)

• Recurrent taxes on immovable property

• Other property taxes

• Sales of goods and services

The instruments of consolidation: revenue side

8

• Rough assessment (from -- to ++) are given to the effects of each instrument on:– short- and long-term growth– short- and long-term equity– global rebalancing

• Based on wide body of work including– Study on the Sources of Growth– Going for Growth– Wider literature– New econometric estimates

Assessing the instruments: highlighting trade-offs and complementarities

9

Assessing the instruments

Notes: (a) current account effects refer to a deficit country and would switch signs for a surplus country(b) this + sign relates to welfare effects as the GDP impact may be ambiguous.

Growth EquityCurrent

account(a)

ST LT ST LT STSpending cutsEducation -- -- - -- +Health services provided in kind -- - - - ++

Other government consumption -- + - +Pensions ++ ++Sickness and disability payments - + -- - ++Unemployment insurance - + - ++Family - - -- -- +Subsidies - ++ + + +Public investment -- -- ++

Revenue increasesPersonal income taxes - -- + + +Social security contributions - -- - -Corporate income taxes - -- + + ++

Environmental taxes - +(b) - +Consumption taxes - - - ++

Recurrent taxes on immovable property - +Other property taxes - ++ + +Sales of goods and services - + - - + 10

Source: Cournède, Goujard and Pina (2013).

1. Each plus sign is valued as +1 and each minus sign as -1

2. Equal weights are given to each column: 0.25 each for short- and long-term growth and equity. [the current account is dealt with separately].

3. As a result each instrument gets a score and is ranked accordingly from highest to lowest.

Turning this assessment into a possible generic ranking

11

A possible generic hierarchy of consolidation instruments

Note: The rankings are based on the assessment in Table 2. Scores of +1 and -1 are given to each + and- signs respectively, each objective is given a weight, and the resulting indicator is used to rank instruments. Each individual instrument score based on the assessment in Table 2 is kept with a probability of ¾ or increased by +1 with a probability of 1/8 or reduced by -1 with a probability of 1/8. Weights ranging each from 0.15 to 0.55 and summing to unity have been given to each objective. Weights have been restricted to no smaller than 0.15 because each objective is considered important. A total of 40,000 random draws have been made.

Ranking from most (highest score) to least (lowest score) desirable instrument of consolidation

EducationChildcare and family

Social security contributionsHealth services in kind

Public investmentConsumption taxes Sickness payments

Sales of goods and servicesOther gov. consumption

Rec. taxes on imm. propertyEnvironmental taxes

Corporate income taxesPersonal income taxes

Unemployment insuranceOther property taxes

PensionsSubsidies

0 2 4 6 8 10 12 14 16 18Instrument rank

Equal weights

Simulated interdec i le range


• Short-term growth: cyclical weakness (output gap) and risk of hysteresis (2007-12 increase in long-term unemployment).

• Equity: income distribution and poverty.• Current account: relative to country and

OECD GDP.

Adapting the hierarchy to country circumstances

• Five country clusters• A specific hierarchy for each cluster

13

1. Consolidation needs

2. Hierarchy of instruments: instruments are used one by one until consolidation needs are met.

3. Room for manoeuvre in each instrument:– Move until reaching the group of the ten OECD countries with

lowest spending or highest taxation for the instrument under consideration (avoid extreme policy settings)

– No move larger than one standard deviation (respect national preferences as revealed by existing spending/tax structures)

– Specific technical adjustments:• Reduced margins for pensions (especially in the short term)

• Adjustments for pensions and education (demography) and for unemployment benefits (structural unemployment level)

• Leeway evaluated jointly for personal income tax and social contributions

The optimal use of instruments depends on:

14

• Short to medium term simulations:– short- to medium-term consolidation needs

– Instrument hierarchies are differentiated by country cluster depending on circumstances (cyclical position, inequality level, current-account position)

• Long-term simulations:– long-term consolidation needs

– Uniform instrument hierarchy (considering only long-term growth and equity effects)

Two sets of simulations for each country

15

Number of countries using instruments in simulations

16

Subsidies

Pensions

Other property taxes

Unemployment insurance

Personal income taxes

Corporate income taxes

Environmental taxes

Recurrent property taxes

Other government consumption

User charges

Sickness and disability payments

Consumption taxes

Public investment

Health services provided in kind

Social security contributions

Family policy

Education

0 5 10 15 20

Short to medium-term packages (25 coun-tries)

Long-term packages (29 countries)

Source: Economics Department Policy Note No. 20.

Fiscal consolidation in practice: the role of public investment cutbacks

ESP GRC SVN CZE ISL KOR IRL PRT NZLEUROGBR ITA USA NOR POL NLD CAN AUS SVK FRA DEU FIN AUT BEL HUN SWE CHE ISR DNK JPN EST

-1

0

1

2

3

2009-12 2012-14

Consolidation achieved through cuts in net public investment,% of potential GDP

17Source: OECD Economic Outlook No. 93.

18

• Top-half instruments only in sixteen countries (e.g. Australia, Canada, Netherlands).

• Top-half instruments mainly in 6 countries (e.g. Finland, France).

• Bottom-half instruments account for most of consolidation in Japan, the United Kingdom and the United States.

How far down the hierarchy of instruments do countries need to go?

Simulated short- to medium-term consolidation packages:

• Top-half instruments only in 20 countries.

• Top-half instruments mainly in 6 countries.

• Bottom-half instruments account for most of consolidation in three countries: Australia, New Zealand and the United States.

How far down the hierarchy of instruments do countries need to go?

Simulated long-term consolidation packages:

19

On average across countries, spending reductions account for:

• 41% of short- to medium-term simulated packages

• 65% of long-term simulated packages

with considerable variation across countries.

Some examples:

• In Japan and the United States, the simulations give a large role to tax increases (70% of consolidation over the medium term).

• France has a very strong potential for spending cuts which make up 73% of the simulated medium-term package.

Spending vs. taxes in simulated packages

20

Ease trade-offs between consolidation and

other objectives

• Spending reductions: e.g. efficiency gains.

• Revenue increases: e.g. base broadening,

reducing tax expenditures.

Structural policy has a key role to play

21

Potential efficiency gains in primary and secondary education

KO

R

ME

X

TU

R

PR

T

CA

N

CH

E

CZ

E

ES

P

FIN

GB

R

JPN

PO

L

SV

K

HU

N

IRL

NL

D

NZ

L

AU

S

AU

T

DE

U

ITA

BE

L

LU

X

SW

E

DN

K

NO

R

US

A

ISL

0

0.2

0.4

0.6

0.8

1

1.2

Per cent of GDP, 2007

22Source: Update of Sutherland et al. (2007) reported in Hagemann (2012).

Unite

d Kin

gdom

(200

6)

Unite

d Sta

tes (

2008

)

Canad

a (2

004)

Spain

(200

8)

Korea

(200

6)

Net

herla

nds (

2006

)

Germ

any (2

006)

0

1

2

3

4

5

6

7

8

9

Tax expenditures in personal and corporate income taxes are difficult to estimate but large

Source: OECD (2010), Tax Expenditures in OECD Countries.

Estimated personal and corporate income tax expenditures, % of GDP

23

Illustrative potential efficiency gains in value-added taxation

NZ

L

LU

X

JPN

CH

E

CA

N

KO

R

ES

T

AU

S

ISR

CH

L

SV

N

AU

T

NL

D

CZ

E

HU

N

NO

R

DE

U

IRL

FIN

DN

K

ES

P

SV

K

SW

E

GB

R

ME

X

BE

L

FR

A

ISL

PO

L

PR

T

GR

C

ITA

TU

R

0

1

2

3

4

5

6

7

8

9Potential efficiency gains in VAT

% o

f G

DP

Note: these highly hypothetical estimates show how much additional revenue could be raised if VAT receipts rose from their current level to become equal to the VAT standard rate times the amount of final consumption expenditure. This is subject to considerable caveats.


• Successful structural reform does not necessarily ensue from fiscal consolidation

• Joint efforts to consolidate and reform can– make consolidation more durable, and– avoid “quick fixes” to the budget with harmful

side-effects.

A need for integrated policy strategies

25

• OECD Economic Policy Papers No. 07, “Choosing Fiscal Consolidation Instruments Compatible With Growth and Equity”, A Going for Growth Report, July 2013.

• Cournède, B., A. Pina and A. Goujard (2013), “How to Achieve Growth- and Equity-Friendly Fiscal Consolidation? A Proposed Methodology for Instrument Choice With an Illustrative Application to OECD Countries”, OECD Economics Department Working Papers, No. 1088.

• Barbiero, O. and Cournède (2013), “New Econometric Estimates of Long-Term Growth Effects of Different Areas of Public Spending”, OECD Economics Department Working Papers, forthcoming.

• Goujard, A. (2013), “Cross-Country Spillovers from Fiscal Consolidation”, OECD Economics Department Working Papers, forthcoming.

The full results are available in:

26

BACKGROUND SLIDES

5nOT FOR PRESENTATION

27

• Metholodogical details• Further detail on results• Information on the central-subnational split

of best and lowest ranked instruments.

Background slides (not for presentation)

28

• Starts from the underlying primary balance in 2012

• Unchanged fiscal policy except:– measures to keep public pension spending

constant as a share of potential GDP– measures to contain the increase in

government expenditure on health and long-term care as in de la Maissonneuve and Oliveira-Martins (2013)

The baseline

29

• The underlying primary surplus increases by 1% of potential GDP each year until enough is done to put the debt-GDP ratio on a trajectory bringing it to 60% by 2060.

• Afterwards, the underlying primary surplus evolves gradually toward the value that keeps the debt ratio stable .

Main features of the simulated consolidation profiles

30

Defining consolidation needs

Underlying primary balance

Time2012 outturn

Baseline

Steady-stateunderlying primary surplus

Long-term consolidation need

Short- to medium-term consolidation need

Peak underlying primary surplus

2060

Brings debt to 60% of GDP Keeps debt

ratio stable

31

Illustration of the budget consolidation profile and baseline in two countries

Simulated underlying primary balance, per cent of potential GDP

-12-10-8-6-4-20246810

2012 2022 2032 2042 2052

Japan

-12-10-8-6-4-20246810

2012 2022 2032 2042 2052

Belgium

Baseline path Debt-control path


• Long-term effects only:– growth– equity

• Current-account effects ignored

Spending reductions move up the list when looking at long-term consolidation.

Adapting the hierarchy to the long-term perspective (2060)

33

Rankings are differentiated by country group in the short term

InstrumentsGeneric ST

ranking

Cluster-specific short-term rankingLong-term

ranking1* 2* 3* 4* 5*

Subsidies 1 1 1 2 2 1 1

Pensions 2-3 3 2 1 1 3 2

Other property taxes 2-3 2 3 3 3 2 3-6

Unemployment benefits 4-8 7 4 4 4 9 3-6

Personal income taxes 4-8 5 8 9 9-10 8 10-12

Corporate income taxes 4-8 4 5 7 9-10 12 10-12

Environmental taxes 4-8 8 6 5 4 4 3-6

Recurrent taxes on immovable property 4-8 6 7 6 6 5 7-9

Other government in kind consumption 9-10 9 9 11 11 6 3-6

Sales of goods and services 9-10 10 10 8 7 7 7-9

Sickness and disability payments 11-12 13 11 10 8 11 7-9

Consumption taxes (other than environmental) 11-12 11 12 12 12 13 10-12

Public investment 13 12 13 13 15 15 13-14

Health services provided in kind 14-15 14 14 14 16 16 13-14

Social security contributions 14-15 15 16 15 13 10 15-16

Family 16 16 15 16 14 14 15-16

Education 17 17 17 17 17 17 17

34

1*: AUS, CAN, EST, ISR, ITA, JPN, KOR, NZL, POL, PRT, GBR / 2*: USA3*: GRC, IRL, ESP / 4*: AUT, BEL, CZE, DNK, FIN, FRA, HUN, ISL, NOR, SVK, SVN5*: DEU, LUX, NLD, SWE, CHE.


Results from short- to medium-term simulations

Consolidating more in general implies using more unfavourable marginal instruments (but there are exceptions)

0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 160

2

4

6

8

10

12

14

16

18

20

1

12

3

3

4

5

5

6 66

7

9 9 9

9

10

11 1111

12 12

14 1417

Achieved consolidation (percent of potential GDP)

Marginal instrument rank

35


Results from long-term simulations

Consolidating more in general implies using more unfavourable marginal instruments (but there are exceptions)

0 1 2 3 4 5 6 7 8 9 10 110

2

4

6

8

10

12

14

16

2 22 2

3

3

4

3

5

3

3

3

6

5

3

6

9

8

7

7

12

10 10

10

10

14 14

13

15

Achieved consolidation (percentage point of potential GDP)

Marginal instrument rank


37

A medium-term increase in the tax share

FR

A

FIN

BE

L

SW

E

AU

T

ITA

SV

N

GR

C

HU

N

NLD

LUX

ISL

PR

T

CZ

E

GB

R

ISR

NZ

L

PO

L

CA

N

ES

P

IRL

JPN

SV

K

AU

S

US

A

30

35

40

45

50

55

Cyclically-adjusted primary government revenue, % of potential GDP

Estimated in 2012 Simulated in 2020

Source: Economics Department Policy Note No. 20.

Standard deviations of spending and tax items as a percentage of potential GDP assuming that the simulated long-term consolidation packages are

implemented in full

The proposed consolidation packages respect the diversity of tax and spending structures

Spending 2012 2060 Receipts 2012 2060

Unemployment insurance 0.9 0.5 Other property taxes 0.6 0.5

Subsidies 0.7 0.6 Recurrent property taxes 1.0 1.0

Sickness and disability ben. 0.6 0.5 Environmental taxes 0.7 0.5

Family benefits 1.1 1.1 Sales of goods and services 1.1 0.9

Education 1.1 1.1 Corporate income taxes 0.9 0.9

Health services 1.4 1.2 Personal income taxes 3.3 3.1

Other gov. consumption 2.3 1.9 Consumption taxes 2.4 2.0

Pensions 3.6 2.8 Social security contributions 5.3 5.3


In many countries, well-ranked instruments are mainly central-level items

Irela

nd

Portu

gal

Unite

d Kin

gdom Ita

ly

Luxem

bour

g

Spain

Hunga

ry

Slove

nia

Austria

Norway

Czech

Rep

ublic

Finla

nd

Eston

ia

Denm

ark

Germ

any

0

10

20

30

40

50

60

70

80

90

100

Direct taxes Subsidies

Share of central government, per cent, 2009


In many countries, large low-ranked spending instruments are subnational.

Share of subnational government, per cent, 2009

Spain

Germ

any

Czech

Rep

ublic

Norway

Eston

ia

Unite

d Kin

gdom

Hunga

ry

Austria

Slove

nia

Italy

Luxem

bour

g

Irela

nd

Portu

gal

Finla

nd0

10

20

30

40

50

60

70

80

90

100

Education Public investment Health


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2013.10.11 - NAEC Seminar_Fiscal Consolidation

Economy & Finance

Transcript of 2013.10.11 - NAEC Seminar_Fiscal Consolidation