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### Introduction — context and urgency
- Unprecedented surges in public debt in many countries since the COVID-19 pandemic have rekindled interest in fiscal consolidation.
- Debt-to-GDP ratios have declined somewhat in many countries in the wake of economic recovery and higher than expected inflation in 2022, but they remain elevated and above pre-pandemic levels in most countries.
- About 60 percent of low-income countries and 30 percent of emerging market economies are at high risk of or already in debt distress (IMF, 2022a).
- Mounting spending pressures: infrastructure investment, climate change mitigation and adaption, and ageing populations—raising pension and healthcare spending especially in advanced economies (AEs) and emerging market economies (EMs) (IMF, 2022b).
- For many low-income developing countries (LIDCs), meeting the Sustainable Development Goals (SDGs) is a daunting challenge given pandemic scarring and the need to keep debt at sustainable levels.

### Core policy choices and trade-offs
- Key design questions facing policymakers:
  - How much to reduce the fiscal deficit.
  - Whether deficit reduction should come from raising additional revenue, cutting expenditure, or both.
  - When to start the consolidation process.
  - How long and how fast the consolidation effort should be.
  - Whether to frontload or backload policy measures.
  - What role to give to fiscal institutional reform.
  - Political and social feasibility and ramifications are central to design.

### Purpose, scope, and methods of the paper
- Overview of lessons from past fiscal consolidation episodes based on a literature survey, including research since the Global Financial Crisis.
- Coverage: LIDCs, EMs, and AEs; surveys growth impacts and impacts on income distribution; examines political economy and the role of fiscal institutions and capacity development.
- Notes substantial new research on fiscal multipliers (Auerbach and Gorodnichenko, 2012; Ilzetzki, Mendoza, and Végh, 2013) and economic impacts (Carrière-Swallow, David, and Leigh, 2021; Guajardo, Leigh, Pescatori, 2014).
- Structure: Section II historical record and success factors; Section III growth and distributional impacts and fiscal multipliers; subsequent sections on size, pace, duration, phasing, and composition.

### Section IV — empirical survey overview and scope
- Empirical literature is "suggestive rather than conclusive."
- Much literature focuses on AEs; exercise caution applying AE findings to EMs and LIDCs.
- Table 1 in source summarizes key findings across pre-existing conditions, growth and distributional consequences, program design, and institutions/capacity development.

### Success rates and empirical definitions
- Success rate of historical consolidation episodes reported as 1/5–2/3, depending on approach and criteria.
- Two empirical approaches:
  - Ex-post vs. ex-ante outcomes: success rates ranging from 38 to under 50 percent.
  - Ex-post minimum-threshold improvements in key macro-fiscal outcomes: reported success rates range from 21 to 65 percent.
- Example study criteria:
  - Alesina and Perotti (1995) lower-end success: 21 percent using criteria of at least 5 percent of GDP decline in gross debt three years following consolidation and an increase in the structural primary balance by at least 1.5 percent of GDP per year during 1960-92.
  - Afonso and Jalles (2011) upper-bound success: 65 percent based on two-year improvement in the CAPB by at least one standard deviation of the sample (1.6 percent of GDP).

### Pre-existing conditions associated with higher probability of success
- Positive correlates:
  - high income levels,
  - favorable global and domestic environment (strong global and domestic growth, low interest rates, competitively valued currency, rising net export demand),
  - strong fiscal institutions and a strong track record in fiscal management,
  - broad-based political support and good communication.
- Institutional findings:
  - Strong fiscal institutions correlate with stronger fiscal adjustment, quicker plan formation, protection of public investment, better implementation via adherence to annual budgets, improved response to shocks, and ability to reallocate expenditure while sticking to plans.
  - History of poor fiscal management adversely affects achieving a sustainable stance; legacy dissipates rapidly for OECD and middle-income countries but not for LIDCs.
- Political economy:
  - Parliamentary majority and no imminent elections correlated with higher likelihood of success; coalition governments appear less successful.
  - Fiscal retrenchment can increase social instability and carry electoral costs.
- Policy implication:
  - Effective communication strategy and early stakeholder engagement are important; contingency plans should be in place.

### Growth and distributional impacts — short-term and long-term
- Short-term impacts:
  - Fiscal consolidations often have short-term adverse growth and distributional impacts: higher unemployment, smaller wage shares in value added, and lower disposable incomes for low-income and credit-constrained groups.
  - Magnitude depends on fiscal multipliers, which vary with structural characteristics and cyclical conditions (larger impact in more closed economies and during downturns).
  - Expenditure-based consolidations widened income inequality more frequently than tax-based consolidations; faster consolidations more often worsened inequality.
- Long-term impacts:
  - Consolidations may improve growth relative to no-consolidation and can boost growth and improve equality in the long run, especially if public investment and social spending are protected.
  - Risk of "self-defeating" consolidations: poor growth outcomes can raise debt-to-GDP via lower denominators and reduced revenue, increasing primary deficits and borrowing.

### Box 1 — Self-Defeating Fiscal Consolidations (framework and key equations)
- Fundamental debt dynamics relation (percent of GDP):
  - B_t = (r - g) / (1 + g) D_t  (Eq 1)
  - ∆B_t = (r - g) / (1 + g) ∆D_t  (Eq 2)
- Short-term fiscal multiplier μ: ∆Y_t = μ ∆G_t
- Change in debt from spending cut: ∆D_t = (1 − μ τ) ∆G_t  (Eq 3)
- Change in allowable primary balance: ∆B_t = (r − g) / (1 + g) (1 − μ τ) ∆G_t  (Eq 4)
- Hysteresis/permanent revenue loss: τ ϑ μ ∆G_t  (Eq 5)
- Self-defeating condition: τ ϑ μ ∆G_t > (r − g) / (1 + g) (1 − μ τ) ∆G_t  (Eq 6)
- Rearranged reproducing DeLong-Summers result in symbolic form (Eq 7).
- Comparative statics: lower r and higher g increase self-defeating likelihood; larger hysteresis and larger μ increase likelihood.
- Numerical examples reported:
  - If r = 5%, g = 2.5%, τ = 1/3:
    - A fiscal consolidation is self-defeating for μ = 2.5 as long as τ > 0.005;
    - It is self-defeating for μ = 1.5 as long as τ > 0.025.
  - DeLong and Summers (2012) calibration used for a severely depressed economy at the zero lower bound: μ ∈ {0, 2.5} and τ ∈ {0, 0.2}.
- Caveat: analysis assumes r exogenous; if markets would raise r absent consolidation, failure to consolidate could raise borrowing costs.

### Case example — Portugal macroeconomic and distributional outcomes
- Growth:
  - "6.7 percent in real GDP, growth turned positive in 2014 and averaged 2.6 percent per year from 2015-19, compared with 0.6 percent during 2005-10."
- Public finances and external sector:
  - "Public debt started to trend downward from 2015 onward."
  - "The external current account balance improved rapidly and turned to a surplus in 2013."
- Composition:
  - "Overall reduction in government expenditure (including gross fixed capital formation), which accounted for one-third of the total consolidation."
- Social protection and poverty:
  - Authorities increased social protection spending by 1.6 percent of GDP from 2010 to 2014 despite overall expenditure reduction.
  - Poverty headcount: "increased by over 2 percentage points between 2010 and 2014, compared to 5½ percentage points had there been no increase in net government transfers."
- Income distribution:
  - "Disposable income Gini broadly unchanged during the reform while market income Gini increased by nearly 2¾ percentage points."
  - Disposable incomes declined most for households in the bottom decile as well as the top two deciles during 2010-14; middle of distribution fell least.
- Education and health:
  - Public education spending fell "nearly 1½ of GDP" (in source phrasing); OECD data showed Portugal continued to close educational performance gaps via targeted incentives and greater school autonomy.
  - Health spending fell similarly, but a 2015 OECD review found improved healthcare quality through more nurses and physicians per 1,000 people and reduced procurement costs.

### Fiscal multipliers — empirical ranges and contextual factors
- Multipliers vary by method, country, cyclical conditions:
  - Spending multipliers: "at peak they hover around a range of 0.6-1 but are lower (0.3-0.6) during the first year."
  - Public investment multipliers: "tend to be higher than consumption multipliers, with some evidence that the former are even higher in LIDCs than in AEs."
  - Tax multipliers: "peak tax multipliers are more often above one with the first-year magnitude estimated at 0.6-1."
  - Low-income country evidence: cumulative spending multipliers ≈ 0.7 and impact multipliers < 0.2; tax impact multipliers ≈ 0.3.
- State dependence:
  - Multipliers larger during downturns than upswings; more powerful when there is slack and when monetary policy is accommodative or at the Zero-Lower Bound (ZLB).
- Example model estimates reported in source (Sims and Wolff (2018) reported figures preserved in text):
  - Consumption: 0.2 (First-Year) / 0.6 (Peak)
  - Labor: 0.3 / 1.4
  - Capital: 1.4 / 2.7

### Methodologies for estimating multipliers and credibility effects (Box 3 excerpts)
- Cross-sectional/Bartik instruments and regional approaches: Nakamura and Steinsson (2014), Chodorow-Reich (2019) produce large regional multipliers; aggregation and corrections (Ramey, 2019) reconcile estimates.
- Credibility and markets:
  - David, Guajardo, and Yépez (2022): sovereign spreads barely move on executive announcements but decline significantly after legislation, especially with IMF-supported programs.
  - Hatchondo, Martinez, and Roch (2020): credible commitment can reduce sovereign spreads by as much as 80 percent and cut default probability by half.
  - End and Hong (2022): markets reward credibility with more favorable sovereign financing conditions.
- Pace, size, duration empirical regularities:
  - Most consolidations improve CAPB by 1-2 percent of GDP per year and last 3-4 years.
  - Post-WW2 consolidations: cumulative CAPB improvements about 3-5 percent of GDP over 3-4 years (Escolano, Jaramillo, and Mulas-Granados, 2018).
  - Around 40-60 percent of consolidations are front-loaded with at least 50 percent of adjustment occurring in first half.
  - Back-loaded consolidations tend to stabilize debt more permanently with more contained output losses but face reversal risk from adjustment fatigue.
  - Back-loaded large consolidations seem more successful in EMs and LIDCs; PRGT-funded programs are typically back-loaded, GRA-funded more front-loaded.
- Composition:
  - Large consolidations typically require both revenue and expenditure measures.
  - Revenue-raising measures are more durable in LIDCs and EMs where revenue-to-GDP ratios are modest.
  - When tax revenues ≥ 25 percent of GDP, spending-based adjustments prove more lasting though not necessarily less contractionary.

### Structural reforms, spending composition, and guidance
- Revenue-side guidance:
  - Conduct tax policy reviews and medium-term revenue mobilization strategies.
  - Focus on less distortive taxes: property taxes, environmental taxes; rationalize tax expenditures; curb fraud and evasion.
- Spending-side guidance:
  - Use medium-term expenditure reviews to identify priorities and saving measures (Doherty and Sayegh, 2022; Daniel et al., 2006).
  - Avoid cuts in capital expenditure—especially infrastructure, education, and health—due to long-term growth impacts.
  - If cuts unavoidable, postpone new projects rather than cancel existing ones; improve investment efficiency.
  - Generally less harmful to cut current expenditure such as public sector wage bills and subsidies for SOEs; accompany utility-related cuts with tariff increases to achieve full cost recovery.
- Evidence: IEO (2021) found a 1 percent increase in public investment and social spending during an IMF-supported program produced lasting growth benefits of 0.07 and 0.18 percentage points, respectively.

### Climate policies as support for consolidation (Box 4)
- Fiscal potential:
  - Eliminating explicit fossil fuel subsidies globally estimated to unlock about half a trillion U.S. dollars, or 0.6 percent of global GDP annually in 2021-25 (Parry, Black, and Vernon, 2021).
  - Carbon prices of $50 per ton would raise revenues of about 0.5–2 percent of GDP across countries in 2030.
- Challenges:
  - Transitioning from fuel subsidy regimes requires time because of weak safety nets and political/technical constraints.
  - Revenue gains may not offset revenue losses from reduced fossil fuel demand or additional climate adaptation investment needs.
- Timing and sequencing:
  - Current high inflation and elevated fuel and food prices make immediate additional climate revenue measures difficult; drafting and announcing reform plans now, implementing as prices recede, is recommended.
  - Where domestic prices are administered, allow recent fuel price signals to pass through to contain subsidy bills and improve targeted assistance.
- Implementation requirements:
  - Policymakers need volume and timing of revenue streams from climate policies and concrete plans to mobilize projected revenues under a medium-term revenue framework.
  - Communication strategy should include targeted engagement on climate policies; international cooperation and support are important.

### Fiscal rules, MTFFs, transparency, and capacity development
- Fiscal rules and MTFFs:
  - MTFFs can be powerful devices for fiscal discipline; contingency reserves help build space for shocks.
  - Rigid rules can encourage procyclicality, divert spending from quality investment, and lead to off-balance sheet operations.
  - Escape clauses should be well specified, activated only for rare events, and followed by careful recalibration when needed.
- Transparency and independent fiscal institutions:
  - Transparency strengthens program design and accountability; independent fiscal councils improve realism of projections.
  - Publication of public sector balance sheets provides comprehensive statements of assets/liabilities and enhances debate (example: New Zealand intertemporal net worth statistics cited).
- Institutional capacity and sequencing:
  - Building strong budgetary institutions takes time and must be well sequenced, especially in LIDCs.
  - Reforms should prioritize core PFM functions (accounting, regulatory, IT), then annual and medium-term budgeting, then program/performance budgeting.
  - Where capacity is weak, pace consolidations gradually and integrate capacity development; diagnostic tools include FTE, TADAT, PEFA, PIMA.
  - Development partners should adopt tailored, country-centric, medium-term focused capacity development; fragile states require long-term engagement.

### Post-COVID fiscal adjustment challenges and scenarios
- By historical standards, many countries need large fiscal consolidations given elevated deficits and unprecedented debt levels.
- Monetary policy may not support consolidation as inflation is high and policy is tightening.
- External pressures: rising global interest rates, current food and energy crises, geopolitical tensions, and possible global simultaneous consolidations that could depress global demand.
- Preferred approach:
  - Policymakers may need relatively slow-paced, protracted consolidations to avoid large short-term output losses and worsening inequality.
  - For LIDCs and small EMs, gradual consolidations free resources to address COVID-19 scarring and spend on social sectors, infrastructure, and climate mitigation/adaptation.
  - Gradual approach feasible only if financing remains available—depending on external support, debt restructuring, and credibility.
- Risks:
  - Reform fatigue and exogenous shocks during slow consolidations.
  - High debt and shocks may force rapid, front-loaded consolidations to restore market confidence, increasing short-term output costs.
- Strengthening medium-term fiscal frameworks early, building institutions, and having contingency plans helps anchor expectations and sustain reforms.

### Practical policy recommendations and design principles (distilled)
- Ensure credible commitment via a comprehensive, realistic medium-term fiscal framework to ease financing constraints and expand policy space.
- Tailor size and pace:
  - Consider gradual approaches when feasible to contain output losses and allow capacity building, but recognize external financing and confidence needs.
  - Most historical consolidations improved CAPB by 1-2 percent of GDP per year and lasted 3-4 years.
- Composition:
  - Combination of expenditure and revenue measures will likely be needed in post-COVID consolidations; exact mix tailored to country circumstances.
  - Countries with large governments can cut current expenditure (wage bill and transfers) but must consider social and political repercussions.
  - Countries with low revenue should give greater weight to revenue mobilization.
  - Growth-friendly revenue measures: reduction of tax expenditures; hikes in property taxes; increases in consumption taxes such as VAT, excise duties and environmental taxes.
- Protect public investment, education, and health to safeguard long-run growth potential.
- Protect vulnerable groups with targeted social assistance to mitigate short-term distributional harms and preserve political support.
- Complementary measures:
  - Accommodative monetary and exchange rate policy where feasible, and structural reforms (labor/product markets) to reduce short-term costs.
  - Strengthen fiscal institutions, PFM systems, and transparency; sequence institution-building early and tailor capacity development to country needs.
- Debt restructuring:
  - Engage creditors early when debt treatment operations are needed to regain market access and lower output losses; preemptive and collaborative restructuring tends to reduce haircuts and speed re-access.
- Communication and credibility:
  - Early and regular engagement with stakeholders and an effective communication strategy strengthen credibility and anchor expectations.
  - Credibility matters for sovereign spreads and financing conditions.

_Italic: Source: wpiea2023063-print-pdf — IMF Working Paper — Fiscal Consolidations: Taking Stock of the Success Factors, Impact, and Design (excerpts)._

### Introduction ...........................................................................................................

### Introduction

### Context and urgency
- Unprecedented surges in public debt in many countries since the COVID-19 pandemic have rekindled interest in fiscal consolidation.
- Debt-to-GDP ratios have declined somewhat in many countries in the wake of economic recovery and higher than expected inflation in 2022, but they remain elevated and above pre-pandemic levels in most countries.
- About 60 percent of low-income countries and 30 percent of emerging market economies are at high risk of or already in debt distress (IMF, 2022a).
- Many countries will need to bring down fiscal deficits in the coming years to rebuild fiscal space; for some, the task is urgent as current public debt levels have become unsustainable.
- Mounting spending pressures include infrastructure investment, climate change mitigation and adaption, and ageing populations—raising pension and healthcare spending especially in advanced economies (AEs) and emerging market economies (EMs) (IMF, 2022b).
- For many low-income developing countries (LIDCs), meeting the Sustainable Development Goals (SDGs) is a daunting challenge given pandemic scarring and the need to keep debt at sustainable levels.

### Core policy choices and trade-offs
Policymakers face multiple, interrelated decisions in designing fiscal consolidations:
- How much to reduce the fiscal deficit.
- Whether deficit reduction should come from raising additional revenue, cutting expenditure, or both.
- When to start the consolidation process.
- How long and how fast the consolidation effort should be.
- Whether to frontload or backload policy measures.
- What role to give to fiscal institutional reform.
- Consideration of political and social feasibility and ramifications in addition to economic impact.

### Purpose and scope of the paper
- Provides an overview of lessons learned from past fiscal consolidation episodes based on a literature survey.
- Offers a comprehensive stocktaking of the literature, including research since the Global Financial Crisis.
- Covers all income groups of countries—LIDCs, EMs, and AEs—and attempts to differentiate lessons learned for these groups.
- Surveys both economic growth impacts and impacts on income distribution, reflecting policymakers’ increasing interest in inequality.
- Examines the political economy of fiscal consolidations, an area less developed in the literature but increasingly recognized as important for program impact and design.
- Reviews the role of fiscal institutions and capacity development, an increasing focus for policymakers and development partners in LIDCs.

### Relation to prior work and methods
- International institutions such as the IMF and OECD have undertaken periodic reviews and ad hoc studies to guide operational work (OECD, 2010, 2012 and 2013; IMF, 2014a; Eyraud and Weber, 2013; IMF, 2010a; IMF, 2010b; Daniel et al., 2006).
- There has been no comprehensive update in recent years despite substantial new research, including on fiscal multipliers (Auerbach and Gorodnichenko, 2012; Ilzetzki, Mendoza, and Végh, 2013) and economic impacts (Carrière-Swallow, David, and Leigh, 2021; Guajardo, Leigh, Pescatori, 2014).
- The global economic landscape has changed substantially since the Global Financial Crisis, prompting expanded research on fiscal consolidation issues, initially focused on AEs.

### Structure of the working paper
- Section II examines the historical record of fiscal consolidations and factors that influence their chances of success.
- Section III surveys growth and distributional impacts of fiscal consolidations—including estimates of fiscal multipliers.
- Subsequent sections address issues related to approaches to fiscal consolidation in terms of size, pace, duration, phasing, and composition of the adjustment.

*IMF Working Paper — Introduction*

### Section IV, and those on how fiscal institutions and capacity development can support fiscal consolidation are

### Section IV

### Overview and scope
- The paper surveys empirical literature on fiscal consolidations and stresses that observed patterns are "suggestive rather than conclusive."
- Much of the literature focuses on AEs; caution is advised when applying AE findings to EMs and LIDCs, which may need differentiation.
- Table 1 in the source summarizes key findings across topics: pre-existing conditions, growth and distributional consequences, program design, and the role of institutions and capacity development.

### Success rates and definitions of successful consolidations
- Success rate of historical consolidation episodes is found to be 1/5–2/3, depending on approaches and criteria used to assess outcomes.
- Two broad empirical approaches to define success:
  - Ex-post vs. ex-ante outcomes: literature based on this approach reports success rates ranging from 38 to under 50 percent.
  - Ex-post minimum-threshold improvements in key macro-fiscal outcomes: reported success rates range from 21 to 65 percent.
- Example study criteria:
  - Alesina and Perotti (1995) lower-end success: 21 percent using criteria of at least 5 percent of GDP decline in gross debt three years following consolidation and an increase in the structural primary balance by at least 1.5 percent of GDP per year during 1960-92.
  - Afonso and Jalles (2011) upper-bound success: 65 percent based on two-year improvement in the CAPB by at least one standard deviation of the sample (1.6 percent of GDP).

### Pre-existing conditions that increase probability of success
- Factors associated with higher success probability:
  - high income levels,
  - favorable global and domestic environment (strong global and domestic growth, low interest rates, competitively valued currency, rising net export demand),
  - strong fiscal institutions and a strong track record in fiscal management,
  - broad-based political support and good communication.
- Institutional findings:
  - Strong fiscal institutions are associated with: stronger fiscal adjustment, quicker plan formation, protection of public investment, better implementation via adherence to annual budgets, improved response to external shocks, and ability to reallocate expenditure while sticking to original adjustment plans.
  - A history of poor fiscal management (recurring large deficits, elevated debt) adversely affects achieving/maintaining sustainable fiscal stance; this legacy dissipates rapidly for OECD and middle-income countries but not for LIDCs.
- Political economy:
  - Parliamentary majority and no imminent elections are correlated with higher likelihood of success.
  - Coalition governments appear to have a less successful track record.
  - Fiscal retrenchment can increase social instability and carry electoral costs, undermining durability of consolidations.
- Policy implication:
  - An effective communication strategy and early engagement with stakeholders are important; contingency plans should be in place to respond to shocks and maintain political support.

### Growth and distributional impacts
- Short-term impacts:
  - Fiscal consolidations often have short-term adverse growth and distributional impacts compared to the pre-consolidation period.
  - Dampened activity leads to more unemployment, smaller wage shares in value added, and lower disposable incomes for low-income and credit-constrained groups.
  - Short-term output loss magnitude depends on fiscal multipliers, which vary with structural characteristics and cyclical conditions (e.g., larger impact in more closed economies and during downturns).
  - Expenditure-based consolidations widened income inequality more frequently than tax-based consolidations; faster consolidations more often worsened inequality.
- Long-term impacts:
  - Consolidations may improve growth performance relative to the counterfactual of no-consolidation and can boost growth and improve equality in the long run, especially if public investment and social spending are protected.
  - Risk of "self-defeating" consolidations: poor growth outcomes can raise debt-to-GDP via lower denominators and reduced revenue, increasing primary deficits and borrowing.
- Conditional/exceptional findings:
  - Some studies report short-term expansionary consolidations under non-Keynesian channels (improved market sentiment, private investment, lower interest rates), but methodological critiques exist; narrative approaches have challenged some ex-post cyclical-adjustment-based findings.
  - Expenditure-based consolidations could be expansionary in very open economies or where starting public debt exceeds 60 percent of GDP and interest rate risk premiums increase.

### Program design (size, pace, composition, phasing)
- Typical historical patterns:
  - Most consolidation episodes improved the cyclically adjusted primary balance (CAPB) by 1-2 percent of GDP per year and lasted 3-4 years.
  - Faster consolidations were often driven by larger and more urgent needs for reform and by financing constraints.
- Phasing and tempo:
  - Front-loaded consolidations often reflect concerns about fiscal sustainability and/or credit risk premia.
  - Gradual and back-loaded consolidations tend to stabilize debt more permanently with more contained output losses and allow time for capacity development in LIDCs; however they require external financing and market confidence.
- Composition:
  - Large consolidations generally require both revenue and expenditure measures.
  - Revenue-raising measures are found to be more durable in developing countries where revenue-to-GDP ratios are modest to begin with.
  - Protecting vulnerable groups helps mitigate short-term distributional impacts and minimize social and political costs.
  - Cuts in capital investment, education, and health should be avoided to preserve long-run growth potential.
  - Tax measures should ideally target less distortionary bases such as property taxes, excise duties on sin goods, and environmental taxes.
- Complementary policies:
  - Accommodative monetary and exchange rate policies, reforms in labor and product markets, and targeted social assistance can alleviate short-term adverse output and distributional impacts.

### Role of institutions and capacity development
- Key points:
  - Consolidation programs should be underpinned by a credible medium-term fiscal framework supported by sound institutions.
  - Sound fiscal rules and public financial management (PFM) systems help strengthen fiscal discipline and meet adjustment targets.
  - Transparency contributes to successful consolidations by improving program design (e.g., realistic macro-forecasts and public debate) and government accountability.
- Sequencing and timing:
  - Building strong budgetary institutions takes time and needs to be well sequenced and undertaken early on, especially for LIDCs and EMs.
  - Capacity development should be part of consolidation program design, tailored to country needs, and start as early as possible.
  - In low-capacity countries, capacity development should focus on revenue mobilization and core PFM functions.

### Practical policy recommendations distilled from the literature
- Ensure credible commitment via a comprehensive, realistic medium-term fiscal framework to ease financing constraints and expand policy space.
- Design consolidations with attention to size and pace: consider gradual approaches when feasible to contain output losses and allow capacity building, but recognize external financing and confidence needs.
- Use a balanced policy composition: combine revenue and expenditure measures for large adjustments; prioritize durable revenue measures in developing countries.
- Protect public investment, education, and health to safeguard long-run growth potential.
- Implement targeted social assistance and protect the vulnerable to mitigate short-term distributional harms and preserve political support.
- Complement fiscal consolidation with accommodative monetary/exchange rate policy and structural reforms to reduce short-term costs.
- Strengthen fiscal institutions, PFM systems, and transparency; sequence institution-building early and tailor capacity development to country needs.
- Develop and execute an effective communication strategy and stakeholder engagement plan; prepare contingency plans for shocks.

*Source: wpiea2023063-print-pdf - Section IV, and those on how fiscal institutions and capacity development can support fiscal consolidation are*

### Box 1. Self-Defeating Fiscal Consolidations

### Box 1. Self-Defeating Fiscal Consolidations

### Framework and key equations
- Fundamental debt dynamics relation (percent of GDP):
  - B_t = (r - g) / (1 + g) D_t  (Eq 1)
  - ∆B_t = (r - g) / (1 + g) ∆D_t  (Eq 2)
- Definitions:
  - B_t — primary fiscal balance in year t (percent of GDP) consistent with long-term debt-to-GDP ratio D_t
  - g — real GDP growth rate (assumed constant)
  - r — real government borrowing rate (assumed constant)
  - G_t — government primary spending in percent of GDP in year t
  - T_t — taxes in percent of GDP in year t
  - Y_t — level of GDP in year t
- Spending cut and short-run output effect:
  - ∆G_t = G_t − G_{t−1} (measured in percent of GDP)
  - Short-term fiscal multiplier μ: ∆Y_t = μ ∆G_t
  - Baseline marginal tax-and-transfer rate τ implies ∆T_t = τ ∆Y_t
- Change in debt (percent of GDP) from spending cut:
  - ∆D_t = ∆G_t − ∆T_t = ∆G_t − τ ∆Y_t = ∆G_t − μ τ ∆G_t = (1 − μ τ) ∆G_t  (Eq 3)
- Consequent change in allowable primary balance:
  - ∆B_t = (r − g) / (1 + g) (1 − μ τ) ∆G_t  (Eq 4)

### Hysteresis, permanent revenue loss, and self-defeating condition
- Hysteresis effect on potential output and permanent revenue loss:
  - Permanent loss of government revenue = τ ∆Y_t^p = τ ϑ ∆Y_t = τ ϑ μ ∆G_t  (Eq 5)
    - Here ϑ (appears in source as a hysteresis parameter) relates potential output loss to cyclical change in output.
- Fiscal consolidation is self-defeating if the loss in tax revenues from hysteresis exceeds net savings from the spending cut:
  - τ ϑ μ ∆G_t > (r − g) / (1 + g) (1 − μ τ) ∆G_t  (Eq 6)
- Rearranged (omitting (1 + g) as constant and close to 1), reproducing the DeLong-Summers result:
  - r − g < [휏휏휏휏휏휏] / [ (1 − 휏휏휏휏) ]  (Eq 7)
  - (Eq 7 appears in the source text in the given symbolic form.)

### Interpretation and calibration examples from the source
- Comparative statics:
  - The lower the government’s real borrowing cost r and the higher potential growth g, the more likely a fiscal consolidation is self-defeating.
  - Given r − g, larger hysteresis and larger multiplier μ increase the likelihood a consolidation is self-defeating.
- Numerical example reported in the source:
  - If r = 5%, g = 2.5%, τ = 1/3:
    - A fiscal consolidation is self-defeating for μ = 2.5 as long as τ > 0.005;
    - It is self-defeating for μ = 1.5 as long as τ > 0.025.
- DeLong and Summers (2012) calibration used in the source for a severely depressed economy at the zero lower bound:
  - μ ∈ {0, 2.5} and τ ∈ {0, 0.2}

### Caveat on borrowing rates and expectations
- The analysis assumes the government’s real borrowing rate r is exogenous.
- If markets expect consolidation and would raise r if the government did not consolidate, then anticipated consolidation could be self-fulfilling: failing to consolidate could prompt higher borrowing costs, altering the outcome.

_Italic: Source: Box 1. Self-Defeating Fiscal Consolidations, from the provided IMF working paper content._

### 6.7 percent in real GDP, growth turned positive in 2014 and averaged 2.6 percent per year from 2015-19,

### wpiea2023063-print-pdf - 6.7 percent in real GDP, growth turned positive in 2014 and averaged 2.6 percent per year from 2015-19,

### Macroeconomic outcomes and fiscal consolidation in Portugal
- Growth: "6.7 percent in real GDP, growth turned positive in 2014 and averaged 2.6 percent per year from 2015-19, compared with 0.6 percent during 2005-10."
- Public finances and external sector:
  - "Public debt started to trend downward from 2015 onward."
  - "The external current account balance improved rapidly and turned to a surplus in 2013."
- Composition of consolidation:
  - "Overall reduction in government expenditure (including gross fixed capital formation), which accounted for one-third of the total consolidation."

### Distributional and poverty impacts
- Social protection and poverty:
  - "The authorities increased social protection spending by 1.6 percent of GDP from 2010 to 2014 despite the overall reduction in government expenditure."
  - Poverty headcount: "increased by over 2 percentage points between 2010 and 2014, compared to 5½ percentage points had there been no increase in net government transfers."
- Income distribution:
  - "Disposable income Gini broadly unchanged during the reform while market income Gini increased by nearly 2¾ percentage points."
  - Distributional pattern: "Disposable incomes declined the most for households in the bottom decile as well as the top two deciles during 2010-14, while households around the middle of income distribution fell the least."
  - Policy targeting challenge: "These findings underscore the difficulties in adequately targeting social assistance to anticipate and prevent income distribution from worsening during a fiscal consolidation."

### Role of social protection and structural reforms in mitigating adverse effects
- Social protection: "These numbers underscore the importance of social protection in mitigating the short-term adverse impacts on poverty and income distribution, but they also highlight the challenges in eliminating such impacts when the economy suffers large contractions in output and employment during a consolidation."
- Education and health spending cuts and outcomes:
  - Education: "The consolidation led to a fall of nearly 1½ of GDP in spending on public education, but OECD data indicated that Portugal continued to close its educational performance gaps with other EU countries during the program, thanks to such measures as targeted incentives to improve student performance and greater autonomy for schools in planning teacher schedules and subjects."
  - Health: "On the health front, there was a similar reduction in government spending, and yet a 2015 OECD review found that Portugal was able to increase the quality of its healthcare through measures that increased the number of nurses and physicians per 1,000 people and reduced the procurement costs of pharmaceuticals and medical devices."

### Fiscal multipliers and contextual factors
- Business cycle and monetary accommodation:
  - "Multipliers have been found to be larger during downturns than upswings" and "a fiscal policy change is more powerful when there is slack in the economy."
  - Channel: "the proportion of credit-constrained households and firms increases during economic downturns and these agents are unable to offset the reduction in their disposable income and revenues by borrowing."
  - Asymmetry: "Multipliers steadily increase if the initial spending shock occurs in a recession while they steadily decline if the shock happens in an expansion."
- Zero-Lower Bound (ZLB) effects:
  - "Multipliers could be larger when monetary policy is constrained at the Zero-Lower Bound (ZLB) relative to normal times."
  - Mechanism: "Public spending cuts at the ZLB reduce aggregate demand, subdue inflation, and lead to rising real ex-ante interest rates. As monetary policy is not able to provide any accommodation, these dynamics would further reduce consumption and output."
- Empirical ranges and findings:
  - Spending multipliers: "at peak they hover around a range of 0.6-1 but are lower (0.3-0.6) during the first year."
  - Public investment multipliers: "tend to be higher than consumption multipliers, with some evidence that the former are even higher in LIDCs than in AEs."
  - Tax multipliers: "peak tax multipliers are more often above one with the first-year magnitude estimated at 0.6-1."
  - Low-income country evidence: "multipliers are often lower for LIDCs, with estimates of 0.7 for cumulative spending multipliers and less than 0.2 for impact multipliers, while the latter for taxes were estimated at about 0.3."
- Heterogeneity by method and context:
  - "Reflecting these factors and methodologies and data used, empirical work shows a wide range of estimates of fiscal multipliers depending on the methodology, country coverage, and the type of multipliers estimated."
  - Table summary examples (selected reported estimates preserved in text): spending multipliers first-year 0.4 to 1.2 in various studies; peak G multipliers around 0.6-1.3 in model ensembles; consumption, labor, capital multipliers in Sims and Wolff (2018) reported as Consumption: 0.2 (First-Year) / 0.6 (Peak); Labor: 0.3 / 1.4; Capital: 1.4 / 2.7.

### Policy design implications and recommendations
- Program design and timing:
  - "Program design—timing, composition, and pace of consolidation—has significant implications for distributional outcomes of fiscal adjustments."
  - "A fiscal contraction may be less harmful to inequality when implemented during an economic boom in AEs and EMs."
- Composition:
  - "Expenditure-based consolidations often widen income inequality more than a tax-based approach, especially in AEs whose existing expenditure policy is more progressive than in LIDCs."
  - "Tax-based consolidations can be designed to either improve or worsen equity outcomes: raising value-added taxes without returning the revenue to the poor tends to be regressive... whereas raising personal income taxes has in some cases yielded more progressive outcomes."
- Pace:
  - "Faster fiscal consolidations have a larger negative impact on output and income distribution."
- Complementary policies:
  - "Accommodative monetary and exchange rate policies and structural reforms are found to alleviate the output and distributional impacts of fiscal retrenchments."
  - "Structural reforms such as labor and product market liberalization... could positively impact the supply side of the economy and help offset some of the contractionary effects."
  - "Policies that support both equity and growth objectives such as targeted social transfers could mitigate the losses."
- Long-term perspective:
  - "In the long term, successful consolidation programs can boost growth and improve equality" by lowering public debt, crowding in private investment, reducing policy uncertainty, and strengthening resilience.
  - Caveat for developing economies: "the long-term growth dividends appear to be non-linear, with the effects disappearing or reversing when fiscal contraction is large."

*Source: IMF (2022c).*

### Box 3. (Continued) Methodologies for Estimating Fiscal Multipliers

### Box 3. (Continued) Methodologies for Estimating Fiscal Multipliers

### Cross-Sectional Estimates
- Bartik instruments (Goldsmith-Pinkham, Sorkin, and Swift, 2020) exploit geographical variation to identify exogenous shifts in fiscal policy and remove measurement biases in the multiplier.
- Application has primarily focused on spending multipliers.
- Nakamura and Steinsson (2014): large regional multipliers validate models where output responds strongly to demand shocks; aggregate multiplier large when monetary policy is accommodative (for example, at the zero lower bound).
- Chodorow-Reich (2019): generalizes regional approach and aggregates regional multipliers into a national one, obtaining large spending PV multipliers; argues regional estimates are a “lower bound” for national multipliers because regional estimates suffer from downward bias due to spillover effects.
- Adopting Ramey (2019) corrections brings national multipliers back within the ballpark of previous studies.
- Cross-sectional estimates rely on assuming a closed economy, with a no-monetary-policy-response, deficit-financed expansion; each violation of these hypotheses would imply an upward bias.

### Approaches to Fiscal Consolidations — Design and Credibility
- Successful consolidations are typically underpinned by credible commitment to reform and sound program design.
- IMF (2021) definition: “fiscal credibility” is the public’s confidence in the government’s fiscal plans and its ability to achieve its commitments.
- Evidence on credibility and markets:
  - David, Guajardo, and Yépez (2022): sovereign spreads barely move when austerity measures are announced by the executive branch but decline significantly following news that such measures have been legislated, particularly in economies with high sovereign spreads, elevated debt levels, and low credit risk ratings; effects larger with an IMF-supported program.
  - Hatchondo, Martinez, and Roch (2020): a credible commitment can reduce sovereign spreads by as much as 80 percent and cut the probability of default by half.
  - End and Hong (2022): markets reward credibility with more favorable sovereign financing conditions.
  - Caldas-Montes, Bastos, and Oliveira (2019): fiscal announcements and credibility reduce uncertainty surrounding public debt.

### Pace, Size, and Duration of Consolidations — Empirical Regularities
- Most consolidations are paced at an annual improvement of 1-2 percent of GDP in the CAPB.
- Post-WW2 consolidations: cumulative improvements in the CAPB were on average about 3-5 percent of GDP and took place over 3-4 years (Escolano, Jaramillo, and Mulas-Granados, 2018), equivalent to about 1 percent of GDP per year.
- Larger consolidations have occurred:
  - 7-8 percent of GDP cumulative (equivalent to 2 percent or more per year).
  - Magnitudes occasionally up to 5 percent per year during periods of economic crisis.
- Some large consolidations last for 4-8 years.
- pace and front-/back-loading:
  - Around 40-60 percent of consolidations are front-loaded with at least 50 percent of the total adjustment occurring in the first half of the consolidation episode.
  - Gradual and back-loaded consolidations tend to stabilize debt more permanently with more contained output losses, especially when retrenchments are large.
  - Back-loaded consolidations may be preferable during protracted contractions because multipliers remain high into the medium-term (Dell'Erba, Koloskova and Poplawski-Ribeiro, 2018) and can avoid hysteresis (DeLong and Summers, 2012).
  - Gradual consolidations over extended horizons face higher risk of reversal due to adjustment fatigue (von Hagen, Hallett, and Strauch, 2002).
  - Back-loaded large consolidations seem more successful in EMs and LIDCs as they allow time for structural reforms and accommodate limited institutional capacity; PRGT-funded programs are typically back-loaded and may allow fiscal easing in the first year and more time for tax mobilization (IEO, 2021).
  - Adjustments remain more front-loaded under GRA-funded programs.
  - Front-loaded consolidations often occur under fiscal pressures or to signal credible reform commitment; quick, large adjustments often come with large output losses.
- Additional empirical notes:
  - The average size of consolidation is sensitive to the indicator used (primary balance or cyclically adjusted primary balance) and time period examined.
  - Pace sensitivity footnote: the pace referred to here is that for every additional year of adjustment, its size increases by 1 ppt in advanced countries and 0.6 ppt in developing countries.
  - Example: An EM starting the episode with debt at 60 percent of GDP could be expected to adjust its CAPB by 1¼ percentage point of GDP more than another that started with 30 percent.

### Composition of Adjustment: Revenue vs. Expenditure
- Early literature (Alesina and Perotti, 1995; McDermott and Westcott, 1996; Kumar, Leigh, and Plekhanov, 2007) found current expenditure cuts (wage bill and transfers) tend to result in lower output losses than tax increases in AEs and were more likely to last; subsequent work contested these conclusions.
- Announced consolidations often intended to rely on expenditure cuts but in practice spending was cut by less than planned and policymakers relied more on revenue increases (Abbas et al., 2011).
- Narrative approach results: some studies still show spending-based adjustments lead to smaller output losses than tax-based adjustments (Yang, Fidrmuc, and Ghosh, 2015).
- IMF (2017): revenue-raising measures were less contractionary for LIDCs.
- Molnár (2012): large consolidations typically require both tax and spending measures to stabilize debt permanently.
- Baldacci et al. (2004): expenditure cuts accompanied by revenue reforms were successful in EMs.
- Adam and Bevan (2003): when revenues are low and consolidation needs are large, multiple instruments and revenue reforms are major.
- Revenue-raising measures are more lasting in LIDCs and EMs where revenue-to-GDP ratios are modest; scope for revenue gains includes excise taxes, property taxes, and value added taxes (Gupta et al., 2004).
- When tax revenues are not so low (no less than 25 percent of GDP), spending-based adjustments prove more lasting but not necessarily less contractionary (Tsibouris et al., 2006).

### Structural Reforms and Policy Guidance
- Consolidation must be underpinned by lasting structural reforms to promote growth and protect the vulnerable; genuine structural reforms help ease trade-offs between consolidation, equity, and long-term growth objectives (OECD, 2013).
- Revenue-side guidance:
  - Policy measures should be based on a tax policy review and guided by a medium-term revenue mobilization strategy.
  - Avoid immediate revenue gains that are inconsistent with efficiency or distributional objectives.
  - Focus on raising less distortive taxes like property taxes or environmental taxes (Cournède et al., 2013; Attinasi and Klemm, 2016).
  - Rationalize tax expenditures and broaden the tax base by curbing fraud and evasion and replacing tax holidays with tax credits or investment allowances.
- Spending-side guidance:
  - Cuts should be based on a medium-term expenditure review identifying spending priorities and saving measures (Doherty and Sayegh, 2022; Daniel et al., 2006).
  - Avoid cuts in capital expenditure, particularly infrastructure, education, and health, due to adverse long-term growth impacts and negative effects on private investment (OECD, 2013; Daniel et al., 2006; Honda, Miyamoto, and Taniguchi, 2020).
  - IEO (2021) finding: a 1 percent increase in public investment and social spending during an IMF-supported program period produced lasting growth benefits of 0.07 and 0.18 percentage points, respectively.
  - If cuts to capital expenditure are unavoidable, postpone new projects rather than cancel existing ones; improve investment efficiency where gaps exist.
  - Generally less harmful to cut current expenditure such as public sector wage bills and subsidies for SOEs; if utility-related cuts occur, accompany with tariff increases to achieve full cost recovery.

### High Inflation, Banking Crises, and Special Circumstances
- High inflation effects:
  - Higher-than-expected inflation can temporarily raise revenue, reduce some real expenditures, and lower debt burdens in the short run.
  - Inflation increases political and societal demands for lower taxes and higher expenditures; countries should avoid permanent tax reductions (including excise and consumption taxes) and broad subsidy increases.
  - Policy focus should be on protecting the vulnerable through targeted assistance (Amaglobeli et al., 2023).
  - To neutralize inflation’s impact on taxes, consider indexing key tax parameters to inflation (personal income tax brackets, allowances and credits, VAT registration thresholds, etc.) (Beer, Griffiths, and Klemm, forthcoming).
- Post-banking-crisis consolidations:
  - Post-crisis consolidations were often sizable and consisted of lowering the debt-to-GDP ratio by 20-40 percentage points of GDP (Baldacci, Gupta, and Mulas-Granados, 2010).
  - Such consolidations are challenging, less successful, face high probability of reversal, and may be impeded by collapsed banking sectors reducing private activity and revenue potential.
  - Some studies recommend prioritizing growth, restoring banking sector stability, and maintaining exchange rate stability before fiscal consolidation; fiscal consolidations could start once the dust settles (Baldacci, Gupta, and Mulas-Granados, 2010; Barrios, Langedijk, and Pench, 2010).

### Debt Restructuring
- When debt sustainability cannot be achieved through fiscal consolidation alone, debt restructuring may become necessary; debt tolerance varies greatly across countries (IMF, 2006).
- Debt restructuring is often delayed, leading to larger adjustment costs, negative impacts on investment and growth, and increased financial uncertainty (IMF, 2014d).
- Debtors delay restructuring out of fear of losing market access and because of domestic balance sheet effects, especially with private sector debt.
- Evidence: pre-restructuring episodes often involve large currency depreciations and recessions, rapidly increasing debt ratios and servicing difficulties.
- Asonuma and Trebesch (2016): preemptive and collaborative restructuring operations are more likely to be associated with lower haircuts, a shorter duration of debt restructuring negotiation, quicker re-access to international capital markets, and significantly lower output losses.

*Box 3. (Continued) Methodologies for Estimating Fiscal Multipliers — IMF Working Paper excerpt*

### Box 4. Role of Climate Policies in Supporting Fiscal Consolidation

### Box 4. Role of Climate Policies in Supporting Fiscal Consolidation

### Fiscal potential from climate policies
- Eliminating explicit fossil fuel subsidies globally by correcting their underpricing relative to supply cost is estimated to unlock about half a trillion U.S. dollars, or 0.6 percent of global GDP annually in 2021-25 (Parry, Black, and Vernon, 2021).
- Carbon prices of $50 per ton would raise revenues of about 0.5–2 percent of GDP across countries in 2030, with revenues being larger in countries with higher emissions intensity.
- Climate policies can also improve the efficiency and redistributive impacts of public spending and taxation and reduce fiscal risks (e.g., containing volatile fuel subsidy bills) (Parry, Black, and Zhunussova, 2022).

### Main challenges and constraints
- Transitioning from current fuel subsidy regimes to targeted and more efficient regimes takes time because of weak social safety nets and other constraints in many countries.
- Political economy and technical challenges can generate social tensions and make potential revenue streams less predictable.
- In some cases revenue gains from climate policies may not create fiscal space for fiscal consolidation because the revenue gains are insufficient to offset either the revenue losses from reduced fossil fuel demand or additional investment needs for climate adaptation.

### Practical timing and sequencing
- The current environment of higher inflation and higher fuel and food prices makes it difficult to introduce additional climate policies to raise revenue, but countries can draft and announce reform plans now and implement them as energy prices and inflation recede from their peak levels. This would lock in carbon pricing and energy subsidy reform without an increase in energy prices relative to recently experienced levels.
- Where domestic prices are administered, countries should allow the more recent fuel price signals to pass through to domestic prices to contain the subsidy bill and improve targeted assistance to cushion the price impact on the vulnerable (Amaglobeli et al. 2023).

### Planning, implementation, and institutional requirements
- Policymakers need to know the volume and timing of revenue streams from climate policies based on their climate commitments; the World Bank-IMF’s CPAT Climate Tool can help estimate such revenue gains under various scenarios.
- Concrete plans are needed to mobilize projected revenue streams from climate policies, ideally under a medium-term revenue mobilization framework.
- Policymakers need to tackle broad challenges in implementing climate policies to address concerns over social impact (households), cost (firms), and SOEs inefficiencies to improve the acceptability of reforms.
- The communication strategy for fiscal consolidation should include targeted engagement on climate policies and rally broad stakeholder support.
- Securing revenue streams from climate policies requires good international cooperation, including delivering on promised aid to developing countries, sharing climate technologies, and addressing cross-border competitiveness concerns (Parry, Black, and Zhunussova, 2022).

*IMF WORKING PAPERS — Fiscal Consolidations: Taking Stock of the Success Factors, Impact, and Design (Box 4).*

### 1. Fiscal Reporting, 2. Macro-Fiscal Forecasting, 3. Fiscal Risk Management, 4. Independent Fiscal Agency, 5. Fiscal Obj

### wpiea2023063-print-pdf - 1. Fiscal Reporting, 2. Macro-Fiscal Forecasting, 3. Fiscal Risk Management, 4. Independent Fiscal Agency, 5. Fiscal Obj

### Fiscal Rules, Medium-Term Frameworks, and Flexibility
- The nature of fiscal rules varies: some strengthen transparency or accountability mechanisms; others are procedural rules embedded in a medium-term fiscal framework (MTFF) that sets hard ceilings on ministerial spending.
- Numerical rules can constrain the stance of fiscal policy or limit key aggregates (expenditure or budget balance rules).
- MTFFs can be powerful devices for fiscal discipline as they are often approved by cabinet and/or legislature (van Eden, Khemani, and Emery Jr., 2013).
- As medium-term expenditure targets are made more legally binding, actual compliance with spending targets improves.
- Contingency reserves are helpful to build space for potential adverse shocks.
- Rigid fiscal rules have drawbacks:
  - Earlier nominal deficit caps may encourage procyclical policy, divert spending away from high-quality investment, and lead to off-balance sheet operations or creative accounting (Eyraud et al., 2018).
  - In exceptionally large shocks, rigid rules may constrain stabilization efforts.
- Escape clauses can provide flexibility but should be:
  - Well specified,
  - Activated only for rare events beyond the government's control,
  - Followed by careful consideration of returning to the rule, including possible recalibration when existing rules are inadequate to accommodate large adjustment needs (IMF, 2021; Ardanaz et al., 2021; Basdevant et al., 2020).
- Frameworks may need updating to incorporate long-term challenges such as aging and climate change (IMF, 2022d).

### Transparency, Independent Fiscal Councils, and Public Sector Balance Sheets
- Transparency contributes to successful fiscal consolidations by strengthening program design and accountability.
- Independent fiscal councils help through more realistic macro-fiscal projections and independent assessments of policies (IMF 2022d; OECD, 2010).
- More transparent budget processes aid fiscal consolidations in advanced economies (European Commission, 2007).
- In LIDCs, more transparent budget processes have the biggest impact on improving the primary fiscal balance (Dabla-Norris et al., 2010).
- Publication of public sector balance sheets provides a comprehensive statement of what a country owns and owes and may improve policy debate through enhanced fiscal transparency (IMF, 2018).
  - Example: New Zealand measures its intertemporal net worth and finds that despite a static net worth of 41 percent of GDP, deficits over the next 40 years result in intertemporal net worth of -57 percent GDP. This transparency helps policymakers and the public understand adjustment needs today.

### Institutional Capacity, Sequencing, and Country Specificity
- Building strong budgetary institutions to support a credible MTFF takes time and needs well-sequenced effort, especially in LIDCs.
- Reform progress in LIDCs has been slow (Allen, 2013); reforms must be country-specific and mindful of political economy considerations (Allen, 2013; Diamond, 2013).
- Logical sequencing is critical: implementing fiscal rules in a country with weak PFM systems is unlikely to succeed.
- Reforms in LIDCs should concentrate first on core PFM functions with a focus on accounting, regulatory, and IT systems; then move to annual and medium-term budgeting and later program and performance-based budgeting.
- IMF-supported program experience highlights the role of country capacity:
  - Bulı́rˇ and Moon (2006) found no quantitative evidence that structural conditionality aimed at raising revenue was successful in a study of 112 countries during the 1990s.
  - Post-program expenditure compression was stronger in countries with structural conditionality, but the risk of reversal was higher, especially in sub-Saharan Africa.
  - The IEO (2021) found modest success in revenue mobilization during programs, often limited by political or internal capacity constraints.
  - In some cases, tax revenue mobilization was only achieved after the program period with continued capacity building and institutional reforms.
  - Weak expenditure controls led to accumulation of domestic arrears.
  - Questions remain on effectiveness and efficiency of protected public investment; lack of data and tracking means very little evidence that floors on social spending have been effective (IEO, 2021).
- Where capacity is weak, fiscal consolidation programs should be paced more gradually, supported by well-integrated capacity development, and expect modest chances and degrees of success.
- Diagnostic tools such as FTE, TADAT, PEFA and PIMA can help program designers understand individual country circumstances (IEO, 2021).
- Development partners should adopt tailored, country-centric, medium-term focused capacity development; in fragile and conflict states, long-term CD engagement is essential.

### Post-COVID Fiscal Adjustment Challenges and Scenarios
- By historical standards, many countries will need large fiscal consolidations given elevated fiscal deficits and the need to reduce public debt from unprecedented levels.
- Monetary policy may not support economies as inflation is high and monetary policy is in a tightening cycle.
- External pressures:
  - Rising global interest rates and current food and energy crises will reduce policy space and external demand while increasing the need for larger consolidations.
  - Geopolitical tensions may disrupt global supply chains and fragmentation in trade, technology, and investment, increasing uncertainty and dampening confidence.
- Simultaneous consolidations across many countries could depress global demand.
- Policymakers may need to undertake relatively slow-paced, protracted fiscal consolidations to avoid large short-term output losses and likely deterioration in inequality.
  - For LIDCs and small EMs, gradual consolidations free resources to address COVID-19 scarring and spend on social sectors, infrastructure, and climate mitigation and adaptation.
  - A gradual approach may be feasible only if financing remains available, depending on external support, debt restructuring, and policymakers’ credibility.
- Risks:
  - Reform fatigue and exogenous shocks during slow consolidations.
  - High debt and shocks may force rapid, front-loaded consolidations to restore market confidence, increasing short-term output costs.
- Strengthening medium-term fiscal frameworks early, including institutions, and having a contingency plan helps anchor expectations and sustain reform efforts.

### Policy Recommendations and Design Principles for Fiscal Consolidations
- A combination of expenditure and revenue measures will most likely be needed in post-COVID consolidations; the exact mix should be tailored to country circumstances.
  - Countries with large governments have more room to cut current expenditure (wage bill and transfers) but must consider social and political repercussions.
  - Social spending and public investment should be relatively protected for poverty reduction and long-term growth.
  - Countries with low revenue should give greater weight to revenue mobilization to address fiscal consolidation and long-term challenges (poverty reduction, climate change, population ageing).
  - Growth-friendly revenue measures could include reduction of tax expenditures; hikes in property taxes; and increases in consumption taxes such as VAT, excise duties and environmental taxes.
- When debt treatment operations are needed, countries should engage creditors early to regain access to international capital markets and lower output losses.
- Program design should consider economic and political dynamics and the strength of institutions:
  - Fiscal consolidation programs are more likely to succeed with public and political support.
  - Mitigating short-run negative impacts on growth and income distribution is important to avoid political backlash.
  - Early and regular engagement with stakeholders improves implementation and program design quality.
- Effective communication strategy should be integral: clarity on consolidation objectives, expected impacts, and mitigation policies strengthens credibility and anchors expectations.
- Fiscal consolidation programs should include well-integrated structural reforms and capacity development to strengthen fiscal institutions:
  - Support revenue raising and expenditure efficiency when fiscal space is limited.
  - Target product and labor market reforms to facilitate resource allocation and boost private sector activity.
  - Start capacity development early, well-sequenced with a medium-term focus, and integrated with budgetary and tax institution reforms.
  - For many LIDCs, initial focus should be on core PFM functions along with revenue administration.

*Source: IMF Working Paper — Fiscal Consolidations: Taking Stock of the Success Factors, Impact, and Design (excerpts).*

### References

### References (wpiea2023063-print-pdf)

### Fiscal consolidation: success factors, design, and historical analyses
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- Alesina, Alberto, and Silvia Ardagna, 2010, “Large Changes in Fiscal Policy: Taxes versus Spending,” Tax Policy and the Economy, Vol. 24, pp. 35-68.
- Alesina, Alberto, and Silvia Ardagna, 2013, “The Design of Fiscal Adjustments,” Tax Policy and the Economy, Vol. 27, No. 1, pp. 19–68.
- Baldacci, Emanuele, Benedict Clements, Sanjeev Gupta, and Carlos Mulas-Granados, 2004, “Front-Loaded or Back-Loaded Fiscal Adjustments: What Works in Emerging Market Economies?” IMF Working Paper No. WP/04/157 (Washington: International Monetary Fund).
- Debrun, Xavier, Jonathan D. Ostry, Tim Willems, and Charles Wyplosz, 2019, “Public Debt Sustainability”, Chapter 4, in S. Ali Abbas, Alex Pienkowski, and Kennet Rogoff (eds.), “Sovereign Debt: A Guide for Economists and Practitioners”, Oxford University Press, pp. 151–191.
- Eyraud, Luc, and Anke Weber, 2013, “The Challenge of Debt Reduction during Fiscal Consolidation.” IMF Working Paper No. WP/13/67 (Washington: International Monetary Fund).
- Villafuerte, Mauricio, Cemile Sancak, Jan Gottschalk, S. M. Ali Abbas, Olivier Basdevant, Ricardo Velloso, Fuad Hasanov, Greetje Everaert, Stephanie Eble, and Junhyung Park, 2010, “Strategies for Fiscal Consolidation in the Post-Crisis World,” IMF Departmental Paper, No 2010/008 (Washington, International Monetary Fund).
- Molnár, Margit, 2012, “Fiscal Consolidation: What Factors Determine the Success of Consolidation Efforts?” OECD Journal: Economic Studies, Vol. 2012/1, pp. 123-149.
- Mauro, Paolo, and Mauricio Villafuerte, 2013, “Past Fiscal Adjustments: Lessons from Failures and Successes,” IMF Economic Review, Vol. 61, No. 2, pp. 379-404.
- McDermott, Christopher J., and Robert F. Wescott, 1996, “An Empirical Analysis of Fiscal Adjustments,” IMF Staff Papers, Vol. 43, No. 4, pp. 725-753 (Washington: International Monetary Fund).

### Fiscal multipliers, state dependence, and macroeconomic effects
- Auerbach, Alan J., and Yuriy Gorodnichenko, 2012, “Measuring the Output Responses to Fiscal Policy,” American Economic Journal: Economic Policy, Vol. 4, No. 2, pp. 1-27.
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- Baum, Anja, Marcos Poplawski Ribeiro, and Anke Weber, 2012, “Fiscal Multipliers and the State of the Economy,” IMF Working Paper No. WP/12/286 (Washington: International Monetary Fund).
- Christiano, Lawrence, Martin Eichenbaum, and Sergio Rebelo, 2011, “When Is the Government Spending Multiplier Large?” Journal of Political Economy, Vol. 119, No. 1, pp. 78–121.
- Coenen, Günter, Christopher J. Erceg, Charles Freedman, Davide Furceri, Michael Kumhof, René Lalonde, Douglas Laxton, Jesper Lindé, Annabelle Mourougane, Dirk Muir, Susanna Mursula, Carlos de Resende, John Roberts, Werner Roeger, Stephen Snudden, Mathias Trabandt, and Jan in't Veld, 2012, "Effects of Fiscal Stimulus in Structural Models," American Economic Journal: Macroeconomics, Vol. 4, No. 1, pp. 22-68.
- Dell’Erba, Salvatore, Ksenia Koloskova, and Marcos Poplawski-Ribeiro, 2018, “Medium-term Fiscal Multipliers During Protracted Economic Contractions,” Journal of Macroeconomics, Vol. 56, pp. 35-52.
- Ilzetzki, Ethan, Enrique G. Mendoza, and Carlos A. Végh, 2013, “How Big (Small?) are Fiscal Multipliers?” Journal of Monetary Economics, Vol. 60, No. 2, pp. 239-254.
- Nakamura, Emi, and Jon Steinsson, 2014, “Fiscal Stimulus in a Monetary Union: Evidence from US Regions,” American Economic Review, Vol.104, No. 3, pp.753-792.
- Ramey, Valerie A., and Sarah Zubairy, 2018, “Government Spending Multipliers in Good Times and in Bad: Evidence from US Historical Data,” Journal of Political Economy, Vol. 126, No. 2, pp. 850-901.
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- Canzoneri, Matthew, Fabrice Collard, Harris Dellas, and Behzad Diba, 2016, “Fiscal Multipliers in Recession,” The Economic Journal, Vol. 126, No. 590, pp.75-108.
- Collected works on multipliers in specific contexts: Amendola et al. 2019 “The Euro-Area Government Spending Multiplier at the Effective Lower Bound”, IMF Working Paper No. WP/19/133; Goode, Liu, and Nguyen, 2021, “Fiscal Multiplier at the Zero Bound: Evidence from Japan”, FRBSF Economic Letter 2021-14; Dime, Ginting, and Zhuang, 2021, “Estimating Fiscal Multipliers in Selected Asian Economies,” ADB Economics Working Paper Series, No. 638.

### Distributional effects, inequality, and social outcomes
- Aghnello, Luca, and Ricardo M. Sousa, 2014, “How Does Fiscal Consolidation Impact on Income Inequality?” Review of Income and Wealth, Vol. 60, No. 4, pp. 702-706.
- Azevedo, João P., Antonio C. David, Fabiano R. Bastos, and Emilio Pineda, 2014, “Fiscal Adjustment and Income Inequality: Sub-National Evidence from Brazil,” IMF Working Paper No. WP/14/85 (Washington: International Monetary Fund).
- Bastagli, Francesca, David Coady, and Sanjeev Gupta, 2012, “Income Inequality and Fiscal Policy,” IMF Staff Discussion Note No. SDN/12/08 (Washington: International Monetary Fund).
- Furceri, Davide, João Jalles, and Prakash Loungani, 2016, “Fiscal Consolidation and Inequality in Advanced Economies: How Robust Is the Link?” In B. Clements, R. Mooji, and S. Gupta, Inequality and Fiscal Policy, ed. by Benedict J. Clements, Ruud A. de Mooij, Sanjeev Gupta, and Michael Keen (Washington: International Monetary Fund).
- Peralta-Alva, Adrian, Marina Tavares, Xuan Song Tam, and Xin Tang, 2018, “The Macroeconomic and Distributional Implications of Fiscal Consolidations in Low-Income Countries,” IMF Working Paper No. 2018/146 (Washington: International Monetary Fund).
- Woo, Jaejoon, Elva Bova, Tidiane Kinda, and Yuanyan S. Zhang, 2013, “Distributional Consequences of Fiscal Consolidation and the Role of Fiscal Policy: What Does the Data Say?” IMF Working Paper No. 2013/195 (Washington: International Monetary Fund).
- McManus, Richard, F. Gulcin Ozkan, and Dawid Trzeciakiewicz, 2021, “Fiscal Consolidations and Distributional Effects: Which Form of Fiscal Austerity is Least Harmful?” Oxford Economic Papers, Vol. 73, No. 1, pp. 317–349.

### Institutions, fiscal rules, and public financial management
- Allen, Richard, 2013, “Challenges of Reforming Budgetary Institutions in Developing Countries.” In Public Financial Management and its Emerging Architecture, ed. by Marco Cangiano, Teresa Curristine, and Michel Lazare (Washington: International Monetary Fund).
- Dabla-Norris, Era, Richard Allen, Luis-Felipe Zanna, Tej Prakash, Eteri Kvintradze, Victor Lledo, Irene Yackovlev, and Sophia Gollwitzer, 2010, “Budget Institutions and Fiscal Performance in Low-Income Countries,” IMF Working Paper, No. WP/10/80 (Washington: International Monetary Fund).
- Eyraud, Luc, Xavier Debrun, Andrew Hodge, Victor Duarte Lledo, and Catherine A. Pattillo, 2018. “Second-Generation Fiscal Rules: Balancing Simplicity, Flexibility, and Enforceability,” IMF Staff Discussion Notes No. SDN/18/04 (Washington: International Monetary Fund).
- Basdevant, Olivier, Taz Chaponda, Fabien Gonguet, Jiro Honda, and Saji Thomas, 2020, “Designing Fiscal Rules to Protect Investment.” In Well Spent: How Strong Infrastructure Governance Can End Waste in Public Investment, ed. by Gerd Schwartz, Manal Fouad, Torben Hansen, and Geneviève Verdier (Washington: International Monetary Fund).
- Diamond, Jack, 2013, “Good Practice Note on Sequencing PFM Reforms,” January 2013.
- van Eden, Holger, Pokar Khemani and Richard P. Emery Jr., 2013, “Developing Legal Frameworks to Promote Fiscal Responsibility: Design Matters” in Public Financial Management and Its Emerging Architecture, ed. by Marco Cangiano, Teresa Curristine, and Michel Lazare (Washington: International Monetary Fund).
- Robinson, Marc, 2014, “Spending Reviews,” OECD Journal on Budgeting, OECD Publishing, Vol. 13(2), pp 81-122.
- Escolano, Julio, Laura Jaramillo, and Carlos Mulas-Granados, 2018, “How Much is A Lot? The Maximum Size of Fiscal Adjustments,” Journal of Applied Economics, Vol. 21, No. 1, pp. 137-159.

### Sovereign debt, restructuring, and spreads
- Asonuma, Tamon, and Christoph Trebesch, 2016, “Sovereign Debt Restructurings: Preemptive or Post-Default,” Journal of the European Economic Association, Vol. 14, No. 1, pp. 175-214.
- International Monetary Fund (IMF), 2006, “Cross-Country Experience with Restructuring of Sovereign Debt and Restoring Debt Sustainability,” Policy Paper (Washington: International Monetary Fund).
- Eyraud, Luc, and Anke Weber, 2013, “The Challenge of Debt Reduction during Fiscal Consolidation.” IMF Working Paper No. WP/13/67 (Washington: International Monetary Fund).
- David, A., J. Guajardo, and J. Yepez, 2022, “The Rewards of Fiscal Consolidations: Sovereign Spreads and Confidence Effects,” Journal of International Money and Finance 123 (May): 102602.
- Reinhart, Carmen M., and M. Belen Sbrancia, 2015, “The Liquidation of Government Debt,” Economic Policy, Vol. 30, No. 82, pp. 291- 333.
- Hatchondo, Juan Carlos, Leonardo Martinez, and Franciso Roch, 2020, “Constrained Efficient Borrowing with Sovereign Default Risk,” IMF Working Paper No. 2020/227 (Washington: International Monetary Fund).

### Political economy, electoral effects, and social stability
- Alesina, Alberto, Gabriele Ciminelli, Davide Furceri, and Giorgio Saponaro, 2021, “Austerity and Elections,” IMF Working Paper No. 2021/121 (Washington: International Monetary Fund).
- Arias, Eric, and David Stasavage, 2019, “How Large Are the Political Costs of Fiscal Austerity?” Journal of Politics, Vol. 81, No. 4, pp. 1517-1522.
- Brender, Adi, and Allan Drazen, 2005, “Political Budget Cycles in New Versus Established Democracies,” Journal of Monetary Economics, Vol. 52, No. 7, pp. 1271–1295.
- Ponticelli, Jacapo, and Hans-Joachim Voth, 2020, “Austerity and Anarchy: Budget Cuts and Social Unrest in Europe, 1919-2008,” Journal of Comparative Economics, Vol. 48, No. 1, pp. 1-19.
- Ziogas, Thanasis, and Theodore Panagiotidis, 2021, “Revisiting the Political Economy of Fiscal Adjustments,” Journal of International Money and Finance, Vol. 111, pp. 102-312.
- End, Nicolas and Gee Hee Hong, 2022, “Trust What You Hear: Policy Communication, Expectations, and Fiscal Credibility”, IMF Working Paper, WP/22/36 (Washington: International Monetary Fund).

### Climate, energy prices, and environmental policy interactions with fiscal policy
- Amaglobeli, David, Mengfei Gu, Emine Hanedar, Gee Hee Hong, Céline Thévenot, 2023, “  Policy Responses to High Energy and Food Prices,” IMF Working Paper (forhthcominig) (Washington: International Monetary Fund).
- Parry, Ian, Simon Black, and Karlygash Zhunussova, 2022, “Carbon Taxes or Emissions Trading Systems? Instrument Choice and Design,” IMF Staff Climate Note No. 2022/006 (Washington: International Monetary Fund).
- Parry, Ian, Simon Black, and Nate Vernon, 2021, “Still Not Getting Energy Prices Right: A Global and Country Update of Fossil Fuel Subsidies,” IMF Working Paper No. 2021/236 (Washington: International Monetary Fund).
- IMF, 2020, “Mitigating Climate Change – Growth and Distribution-Friendly Strategies,” in World Economic Outlook October 2020 (Washington: International Monetary Fund).

### Methodology, identification, and empirical techniques referenced
- Caliendo, Marco and Kopeinig, Sabine, 2008, “Some Practical Guidance for the Implementation of Propensity Score Matching,” Journal of Economic Surveys, 22, pp. 31-72.
- Goldsmith-Pinkham, Paul, Isaac Sorkin, and Henry Swift, 2020, “Bartik Instruments: What, When, Why, and How,” American Economic Review, Vol. 110, No. 8, pp. 2586-2624.
- Ramey, Valerie, 2016, “Macroeconomic Shocks and Their Propagation,” in Handbook of Macroeconomics, ed. by John B. Taylor, and Harald Uhlig, Vol. 2, pp. 71-162.
- Nakamura, Emi, and Jon Steinsson, 2018, “Identification in Macroeconomics,” Journal of Economic Perspectives, Vol. 32, No. 3, pp. 59-86.
- Leeper, Eric M., Nora Traum, and Todd B. Walker, 2017, “Clearing Up the Fiscal Multiplier Morass,” American Economic Review, 107(8):2409–54.

*Fiscal Consolidation: Taking Stock on the Success Factors, Impact, and Design — Working Paper No. WP/2023/063*

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_Source: https://www.imf.org/-/media/files/publications/wp/2023/english/wpiea2023063-print-pdf.pdf_