ASSESSING FISCAL SUSTAINABILITY: A NEW APPROACH Enrique G. Mendoza Pedro Marcelo Oviedo
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ASSESSING FISCAL SUSTAINABILITY: ASSESSING FISCAL SUSTAINABILITY: A NEW APPROACH A NEW APPROACH Enrique G. Mendoza Enrique G. Mendoza Pedro Marcelo Oviedo Pedro Marcelo Oviedo Comments by: Comments by: Andres F. Arias Andres F. Arias Ministerio de Hacienda y Crédito Público Ministerio de Hacienda y Crédito Público Republic of Colombia Republic of Colombia
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ASSESSING FISCAL SUSTAINABILITY: A NEW APPROACH Enrique G. Mendoza Pedro Marcelo Oviedo Comments by: Andres F. Arias Ministerio de Hacienda y Crédito Público Republic of Colombia. Probabilistic Model = ability to repay in crisis state. - PowerPoint PPT Presentation
Transcript of ASSESSING FISCAL SUSTAINABILITY: A NEW APPROACH Enrique G. Mendoza Pedro Marcelo Oviedo
ASSESSING FISCAL SUSTAINABILITY:ASSESSING FISCAL SUSTAINABILITY:
A NEW APPROACHA NEW APPROACH
Enrique G. MendozaEnrique G. Mendoza
Pedro Marcelo OviedoPedro Marcelo Oviedo
Comments by:Comments by:
Andres F. AriasAndres F. AriasMinisterio de Hacienda y Crédito PúblicoMinisterio de Hacienda y Crédito Público
Republic of ColombiaRepublic of Colombia
Probabilistic Model = ability to repay in crisis state
where b* = stock of debt that government is able to repay in all states of nature “Credible repayment commitment”
r
gtbbt
minmin*
1
Very nice approach because…Very nice approach because…
1.Also captures stock of debt that government is “willing” to repay if lender chooses r so that b* reflects a rationing debt level that enforces the government’s participation constraint (i.e. constraint under which the government always finds it preferable to repay and maintain credit relationship)
Very nice approach because…Very nice approach because…
2.Incorporates the role of volatility of fiscal variables in determining ability to repay.
Long-run method A & B share the same sustainable debt ratio.Probabilistic method A has a higher sustainable debt ratio than B.
B
A
tBmin=0.10 tA
min=0.18 tmean=0.2t
f(t)
But…But…
Defines a “maximum” debt level and
not a “target” debt level (to be
achieved through policy adjustment).
Maximum debt level is not equilibrium
or optimal debt level.
Is this a tool for governments or Is this a tool for governments or for Wall Street?for Wall Street?
As a government, I discuss “optimal”
indebtedness and strategic behavior
(i.e. repayment/default) under different
scenarios (critical and non-critical).
For instance, it may be optimal to issue
b>b* and repay/default under different
states of nature.
If so (and if markets buy b>b*)
why do I care about b*? I already
did when I defined my optimal
strategy.
Does this mean that my debt is not
sustainable?
Should governments (or firms and
households) do debt sustainability
analysis based on their capacity to
repay under the worst case scenario
(i.e. the crisis state)?
Will they ever do it?
If so, does this mean that Argentina
never thought about the logic behind
the probabilistic model?
Besides…Besides…
How can we operationalize
the probabilistic model?
1.Bail-outs gmin?
2.Sudden stops/TOT shocks/Balance
sheet effects r, , gmin ?
3.Inflation tax tmin?
Colombia…Colombia…
The coefficient of variation in revenue is 7.3%, while expenditure cuts cannot exceed 5% of GDP because of budgetary inflexibilities (investment is the only item freely adjustable, 5% of GDP=60% of public investment)
Colombia…Colombia…
%8.23
%23min
min
g
t )2( tt
r = 6%
= 3.7%
b* = -0.4% of GDP
Does this mean that Colombia’s debt is (or is not) sustainable?
of GDP
of GDP 2002 (net of interests)
Colombia…Colombia…
In any case from the point of view of a sovereign debt issuer, the probabilistic model is very useful in suggesting that volatility of fiscal variables must be taken into consideration.
This can be done with a series of tools…
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Debt projections and Debt projections and sensibilities…sensibilities…
Base Scenario
Colombian medium-term debt path
This base projection may This base projection may change…change…
Due to shocks in variables such as r, , E, fiscal expenditure and contingencies.
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Debt projections and sensibilities…Debt projections and sensibilities…
Base Scenario
Historical averages (96-02) for t>=2004
% GDP 1
Debt projections and Debt projections and sensibilities…sensibilities…
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2 std dev shock in 2004 to r% GDP
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Debt projections and sensibilities…Debt projections and sensibilities…
Base Scenario
2 std dev shock in 2004 to % GDP 3
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Debt projections and sensibilities…Debt projections and sensibilities…
Base Scenario
2 std dev shock in 2004 to (t-g)
% GDP 4
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Debt projections and sensibilities…Debt projections and sensibilities…
Base Scenario
1 std dev shock in 2004 and 2005 to r, and (t-g)
% GDP 5
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Debt projections and sensibilities…Debt projections and sensibilities…
Base Scenario
30% devaluation in 2004
% GDP 6
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Debt projections and sensibilities…Debt projections and sensibilities…
Base Scenario
Increase of 10 points in debt stock
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Statistical significance of Statistical significance of sensibilities…sensibilities…Sensibilities may be evaluated with p-values
YearBase scenario Worse scenario
Debt P-value Debt P-value Exercise
2003 53.3 86.9 53.3 86.9 -
2004 51.6 82.3 58.0 39.6 6
2005 50.0 82.3 63.7 24.3 5
2006 48.7 81.9 62.5 38.0 5
2007 47.7 80.6 61.8 45.3 5
2008 47.0 79.5 61.4 49.7 5
2009 46.3 78.8 61.0 52.7 5
2010 45.8 77.8 60.8 55.1 5
Financing needs…Financing needs…
2003 2004 2005 2006 2007 2008 2009 2010
Interno 2.0% -0.9% -0.3% 0.3% 1.0% 1.3% 1.0% 1.5%
Externo 1.5% 1.8% 1.5% 1.0% 0.6% 0.3% 0.7% 0.2%
Total 3.5% 1.0% 1.2% 1.3% 1.6% 1.6% 1.6% 1.7%
Source: Public Credit-MHCP
Net Financing% GDP
The NFPS deficit is financed through internal and external indebtedness
Future external indebtednessFuture external indebtedness
2000 2001 2002 2003 2004 95-02
% NFPS
5.5% 2.7% 0.8% 1.3% 2.2% 1.7%
Source: IMF, Central Bank. Calculations DGPM.
% of net capital inflows to developing countries absorbed by Colombia…
0%
5%
10%
15%
20%
25%
30%
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Total stock Private sector% GDP
Consistent with financing strategy
Source: Banco de la República- DGCP- Calculations DGPM
Future internal indebtednessFuture internal indebtedness•From forecast of real sector’s portfolio demand and with assumptions about M3 growth, I can deduce private sector’s demand for domestic government debt (TES)
•No signs of crowding out
Manasse, Roubini and Schimmelpfennig (2003) Binary recursive tree analysis (sequence of rules) to determine if country is prone to fiscal crisis
Default probability
1.¿Does total external debt exceed 50% of GDP? NO (48,6%)
2.¿Is short-term external debt to reserves ratio greater than 1.34? NO (0,98)
In Colombia…
3.¿Is the public external debt to revenue ratio greater than 2.15? NO (1)
4.¿Is the economy growth rate greater than -5.45? YES (3.13)
Colombia is not crisis-prone (probability = 2.3%)
In Colombia…
ASSESSING FISCAL SUSTAINABILITY:ASSESSING FISCAL SUSTAINABILITY:
A NEW APPROACHA NEW APPROACH
Enrique G. MendozaEnrique G. Mendoza
Pedro Marcelo OviedoPedro Marcelo Oviedo
Comments by:Comments by:
Andres F. AriasAndres F. AriasMinisterio de Hacienda y Crédito PúblicoMinisterio de Hacienda y Crédito Público
Republic of ColombiaRepublic of Colombia
