IMF Survey : Crisis Offers Preliminary Lessons on Fiscal Policy
IMF News, September 17, 2013
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Bibliographic details
- Published: September 17, 2013
Overview
- Publication: IMF Survey
- Date: September 17, 2013
- Core message: Evidence from how advanced economies performed during and after the 2008–09 crisis sheds new light on fiscal risks and on the effectiveness of using fiscal policy to stabilize the economy.
- Lead commentators: Bernardin Akitoby (division chief, Fiscal Affairs Department) and Daniel Leigh (Research Department).
Fiscal policy to fight recessions
- Main findings:
- "Fiscal policy can have powerful short-run effects on the economy" under certain conditions.
- Fiscal effects are larger when:
- central banks are unable to reduce interest rates below zero,
- the financial sector is weak,
- the economy is producing at significantly below its potential.
- New research raises doubts about precrisis evidence that fiscal contractions can be expansionary.
- Precrisis concerns about the timing and implementation of discretionary fiscal stimulus were overblown in many cases.
- Most advanced economies quickly enacted fiscal stimulus measures when the crisis erupted, and most temporary measures were allowed to lapse or were rolled back after the crisis’s initial phase.
- Concerns remain that discretionary stimulus measures may not always be timely and reversible, especially during less severe recessions.
- Policy implication:
- Use of discretionary fiscal stimulus going forward should depend on whether future conditions resemble those during the crisis (for example, "monetary policy constrained by near-zero interest rates").
Fiscal risks and debt sustainability
- Main findings:
- Before the crisis a full-blown fiscal crisis in an advanced economy was generally considered remote; events since 2008 showed otherwise.
- Most advanced economies’ fiscal buffers were not big enough to absorb the severe shocks experienced since 2008, and several countries experienced sovereign debt crises.
- Lesson: governments should take a "risk-based" approach to analyzing public debt sustainability, including risks from the financial sector and other country-specific fiscal vulnerabilities.
- The level of debt considered "safe" depends on the potential risks each country faces.
- As countries rebuild buffers, prudent policymakers should aim for a long-run debt level that is lower than what was considered reasonable before the crisis.
Designing fiscal adjustments
- Main findings:
- Economists are questioning the merits of doing the bulk of fiscal adjustment upfront.
- Appropriate speed of adjustment depends on:
- the state of the economy,
- the condition of public finances,
- the extent of financial market pressures.
- Most advanced economies should adjust at a gradual pace within a credible medium-term plan to limit short-run growth impact.
- Excessive delay in adjustment risks loss of investor confidence, higher interest rates, and destabilizing debt dynamics at high debt levels.
- Countries under market pressure or without market access may need to "frontload" adjustments, but there may be a "speed limit" beyond which faster adjustment is counterproductive.
- Revenue/expenditure mix guidance:
- Evidence is less clear-cut on the best mix of measures.
- Importance of equity considerations, for example through better targeting of revenue and spending measures.
- "Raising taxes further when the tax burden is already high can undermine a country’s potential growth," so:
- Countries with a relatively high tax burden should focus on reducing spending.
- Countries with lower spending and revenue levels would have more scope to boost revenues.
Fiscal institutions and transparency
- Main findings and recommendations:
- Well-functioning fiscal institutions (e.g., medium-term budget frameworks and fiscal rules) are important to ensure fiscal sustainability.
- These tools need credibility and sufficient flexibility to respond to economic fluctuations.
- Design features:
- Targeting structural fiscal balance can help avoid overspending in good times.
- “Escape clauses” allow freedom to use fiscal policy when hit by large shocks.
- Independent fiscal agencies can help monitor rule adherence and prevent abuse of flexibility.
- Crisis revealed shortcomings in fiscal transparency.
- Further efforts needed to improve the timeliness and institutional coverage of fiscal reporting.
- Countries should publish fiscal risk assessments to raise awareness about potential sources of fiscal risks.
IMF Survey : Crisis Offers Preliminary Lessons on Fiscal Policy — IMF Survey, September 17, 2013