Managing Fiscal Risks Gerd Schwartz Tokyo Fiscal Forum 11 June 2015
Managing fiscal risks and uncertainties Outline of Presentation
I. Defining fiscal risks
II. Importance of fiscal risks
III. Managing fiscal risks
IV. Tools and diagnostics
V. Conclusion
I. Defining fiscal risks
Fiscal risks are factors that may cause fiscal outcomes to differ from forecasts or expectations
Macroeconomic Institutional Contingent liabilities
Explicit Implicit
Outside of immediate control
3
II. Importance of Fiscal Risks Financial crisis demonstrated impact of fiscal risks
Sources of Unexpected Increase in General Government Debt (percent of GDP, 2007-2010)
FRA DEU NLD ESP PRT GBR USA GRC IRL ISL AVE*
Underlying fiscal position 1.7 3.2 -2.4 1.8 11.3 3.7 8.1 16.3 1.3 10.9 6.0
Revisions to 2007 deficit & debt 1.7 1.8 -0.9 -0.1 0.1 1.5 7.1 2.5 1.6 4.0 4.7
Changes to government boundary -0.7 1.4 -0.2 0.6 9.4 1.9 0.9 11.2 -0.1 2.5 1.1
Cash-accrual adjustments 0.7 0.0 -1.3 1.3 1.7 0.3 0.0 2.6 -0.2 4.5 0.2
Exogenous shocks 8.4 12.8 14.2 15.4 8.1 17.0 6.3 40.0 60.2 39.5 9.8
Macroeconomic shocks 8.3 4.7 5.2 13.0 4.4 8.9 3.8 38.4 35.7 -3.3 6.0
Financial sector interventions 0.0 8.1 9.0 2.5 3.6 8.1 2.5 1.6 24.5 42.8 3.8
Policy changes 2.3 3.8 1.9 4.9 4.7 1.1 6.4 -8.0 -9.9 -4.3 4.7
Other factors 2.1 -0.3 6.5 1.9 3.7 6.2 8.3 -6.7 7.5 21.6 5.9
Total Unforecast Increase in Debt 14.4 19.5 20.2 24.0 27.8 28.0 29.1 41.7 59.1 67.7 26.4
* GDP-weighted average 4
Unreported Deficits
SoEs & PPPs
Arrears
Macroeconomic Risks
Contingent Liabilities
Stimulus / Consolidation
Issues Revealed by the Crisis
II. Importance of Fiscal Risks Iceland hit by financial sector liabilities
5
Increase in debt of around 70% GDP between 2007 and 2010:
• Mainly driven by cost of bank-bail outs – implicit contingent liabilities
• Also due to macroeconomic recession and build-up of arrears
0
20
40
60
80
100
120
2004 2005 2006 2007 2008 2009 2010 2011 2012
Forecast debt, 2007 Actual debt, 2013
General government gross debt, per cent GDP
0100200300400500600700800900
1000
Iceland UK Greece Japan USA
Bank assets as a share of GDP, 2007/08
0
10
20
30
40
50
60
70
80
Other
Bank bail outs
Revisions to debt including for arrears
Contribution to unexpected increase in general government debt between 2007-2010,
40
60
80
100
120
140
160
40
60
80
100
120
140
160
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014(f)
General Government debt excluding reclassified SOEs, PPPs or financial sector*
GG Gross debt reported in Dec 2009
SOE & PPP debt outside the General Government sector
SOE & PPP reclassifications post Dec 2009
Financial sector bailouts
General Government Gross Debt
Arrears
Fin Sector
SOE &
PPP reclassification
Debt
dynamics
II. Importance of Fiscal Risks Half the increase in Portugal’s debt due to risks
III. Managing Fiscal Risks
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Identify and Quantify
Analyze and Assess
Mitigation
Build fiscal buffers
Monitor and Report
0
20
40
60
80
100
120
140
Guarantees Monitored PPPs
Unmonitored Concessions
Callable Capital in
ESM
Deposit Guarantee
Scheme
Others
III. Managing Fiscal Risks: Identify and Quantify – Results from FTEs
Contingent liabilities can be very large
Portugal: Quantified Contingent Liabilities (Percent of GDP)
8
Russia: Equity Purchases and Subsidies (Percent of GG Expenditure)
And public corps pose significant risks
III. Managing Fiscal Risks Analyze and Assess
9
Likelihood that fiscal risks will be realized Guarantees Financial sector assessments
Nature of the risk – what factors will determine Macroeconomic, exchange rate exposure,
business conditions, natural disaster, financial sector
Potential co-movement: are risks linked? When things go wrong, they go really wrong
Potential impact on public finances
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III. Managing Fiscal Risks Analyze and Assess – Philippines
Philippines Fiscal Risk Statement: Interest and Exchange Rate Sensitivity
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Whether to bear risk
• Pros: public policy benefits eg, automatic stabilizers for macro stability; guaranteeing bank deposits to discourage bank runs; guaranteeing student loans to encourage education
• Cons: moral hazard; disguised transfers; fiscal transparency; solvency
Whether to mitigate risk
• Deliberately not bearing all the risk, e.g. partial guarantees
• Regulating those benefiting from government risk-bearing, e.g. bank capital requirements
• Transferring risk to third parties, e.g. international reinsurance
How to absorb remaining risk
• Lower debt
• Stabilization funds / reserves
• Diversification eg widening tax base or financial asset investment strategy
For each risk the government, in theory, faces the following choices:
Decision will be influenced by type of risk – size, degree of uncertainty, degree of govt. control – and ability of govt. to bear risk
III. Managing Fiscal Risks Mitigation
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• Low debt / Stabilization funds • Contingency reserves / Margins Buffers
• Virements • Supplementary budgets
Budget flexibility
• Include SOE flows and stocks within fiscal projections, plans and objectives
Public sector fiscal planning
• Create budget ceilings for contingent liabilities such as guarantees, PPPs etc Caps
III. Managing Fiscal Risks Building Fiscal Buffers
0
2
4
6
8
0
200
400
600
800
Liabilities to Income (LHS)
Cumulative liablities to GDP (RHS)
Municipalities, Cities and Provinces, (ordered by liabilities to income)
Percent of income Percent of GDP
-150 -100 -50 0 50 100 150
Net Worth
Public Sector
Consolidation
Com Parastatals
Central Bank
General Government
Sub-Nat govt
Non-com Parastatals
Budgetary Central Govt
ReportedUnreported
Liabilities Assets
0
20
40
60
80
100
Assets and liabilities: Public sector balance sheet (percent of GDP)
Large exposure to the financial
sector
Macroeconomic uncertainty: forecast fan charts (percent of GDP)
Significant macro and fiscal forecast
uncertainty
Contingent liabilities: guarantees to the financial sector (percent of GDP)
Sub-national risks: Municipal government liabilities
Less than half of public sector
liabilities reported
Small number of municipalities with
large liabilities, but small overall
risk
III. Managing Fiscal Risks Reporting and monitoring
III. Tools and Diagnostics
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Fiscal Transparency Code provides a guide to managing fiscal risks
Fiscal Transparency Evaluations provides an assessment of risks
PPP Fiscal Risk Assessment Model helps design and assess PPP
V. Conclusions
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• Dealing with risks and uncertainties is a key issue in fiscal management
• Global financial crisis clearly illustrates the dangers • Successful fiscal risk management involves
identification, analysis, mitigation, incorporation in budget, and reporting
• Fiscal Transparency Code and Evaluation provides a guide and assessment of risks