How Accountants Can Help Save Public Finances

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Focusing on net worth and the balance sheet is a better way to manage public assets and liabilities than relying on debt- and cash-based fiscal rules.
Many governments do not produce full financial statements, publish them too late, or value assets on historical cost rather than market value, depriving policymakers of crucial information for managing public services and public finances.
Adopting accrual-based public financial management and a primary fiscal rule based on net worth can reveal significant opportunities to improve public-sector efficiency and fiscal resilience.

Historical demographic context:
- Life expectancy at birth around the time Bismarck introduced pensions was about 40 years; pension qualifying age was 70.
- German average life expectancy reached Bismarck’s pension age in the mid-1960s; today it surpasses 80 years.
Government size and spending:
- Until the beginning of the 20th century, warfare and servicing war debt dominated government spending and rarely exceeded 10 percent of GDP.
- Today the UK government accounts for about 40 percent of GDP.
- For developed economies, government expenditure typically represents between 40 and 55 percent of GDP.
Demographics (aging populations) and rising health and pension costs imply upward trends in fiscal burdens and long-term liabilities.

Common practice focuses on income versus expenditure and debt-to-GDP ratios, which have several major flaws:
- Nondebt liabilities such as pension obligations to state employees are excluded, and often—especially in highly developed economies—these exceed debt liabilities.
- Assets and the uses of borrowing (investment versus consumption) are ignored.
- Debt-based fiscal rules may encourage consumption at the expense of investment.
- Cash measures obscure accruals: consumption of assets, changes in market valuations, and incurrence of liabilities.
Recommendation: measure and manage net worth (total assets minus total liabilities), with assets valued at current market value rather than historical cost.

IMF efforts and data:
- IMF research sought to address lack of public sector balance sheet data and in March 2023 published updated data.
- The data expanded the universe to 55 countries, although only 24 have consolidated public sector balance sheet data up to 2020 or 2021.
Observed findings:
- General government net worth for the G7 is positive for only one country according to the IMF’s latest data, and the picture has deteriorated markedly since the global financial crisis.
- Governments frequently undervalue or fail to recognize property holdings and other assets; basing assets on market value could mean an uplift of up to 100 percent of GDP in the public sector balance sheet.

Constructing a comprehensive balance sheet:
- Add implicit liabilities and implicit assets (future service delivery costs and anticipated government revenue) to the conventional balance sheet to obtain intertemporal net worth.
IMF-based assessment of required fiscal adjustment (50-year forecast, starting point 2018):
- The UK, US, and Italy all need adjustments of about 5 percent, starting immediately, to set international net worth at zero over the 50-year forecast period.
- France and Germany already have higher tax burdens than would be required for the UK and US to meet the target without reducing policy costs.
Political challenge: generating support for near-term tax increases or spending cuts to address long-term problems remains uncertain.

Asset-side gains:
- Potential to extract efficiency gains equivalent to 1.5 percent of asset value for undermanaged government assets.
- Scope for improvement in government revenues of perhaps 1–1.5 percent of GDP from recognizing and commercially managing unrecognized government property holdings.
- Examples of successful institutional arrangements: public wealth funds in Singapore, Hong Kong SAR, Sweden, Hamburg, and Copenhagen.
Liability-side gains:
- By implementing continuous borrowing and investment in a global portfolio, a G7 government can expect to capture a spread larger than its cost of borrowing—perhaps 3 percent on average.
- In the UK case, funding existing public sector pension obligations through investment returns could raise government revenues by the equivalent of 3 percent of GDP within a couple of decades and improve balance-sheet resilience.
- Existing debt-based fiscal rules typically would not permit substituting debt for nondebt liabilities, but an accounting-driven focus on net worth would enable such opportunities.

Replace or complement current debt- and cash-based fiscal rules with a primary rule based on net worth that comprehensively reflects the government’s financial position.
Implement accrual-based public financial management and comprehensive balance-sheet reporting, valuing assets at market value where possible.
Use balance-sheet information to:
- Assess major fiscal decisions (for example, asset sales) by their impact on net worth and balance-sheet structure.
- Create institutional arrangements for commercially oriented management of public assets (for example, public wealth funds).
- Consider funding nondebt liabilities (pensions) through investment strategies that aim to capture spreads over the government’s cost of borrowing.
For less-developed and emerging market economies: adopt a net worth– and balance sheet–focused approach early to avoid repeating mistakes of more developed economies.

Source: How Accountants Can Help Save Public Finances, F&D Magazine (Ian Ball, John Crompton, Dag Detter).