Enhancing The Slovenia ’s Fiscal Framework : A Way Forward

1. EnhancingTheSlovenia’s FiscalFramework: A WayForward IMAD Conference: Fiscal Consolidation, Policy Framework and Governance Ljubljana, Slovenia June20th, 2011 Gonzalo Caprirolo Senior EconomistIMAD The views expressed are those of the author and do not necessarily represent those of the IMAD

2. Outline • Policy track record and relevance for improving the fiscal framework • Recent changes to fiscal framework • A way forward • Summary

3. Policy track record • Budget outcomes broadly in line with plans • Debt-to-GDP ratio declined before the crisis • Expenditure followed the facto a prudent expenditure growth rate (i.e. medium-term rate of potential growth) • Wage shocks and importance of sustainable public sector wage policy • Importance of revenue neutral tax reforms and cyclical tax revenue in enhancing fiscal framework

4. Recent changes to policy framework • Reliance on alternative macroforecast for estimating fiscal projections • Introduction of a “rule” to determine ceilings for general government’ expenditure • Creation of an independent fiscal council with the mandate of monitoring ex-post government’s adherence to stability of public finances

5. Fiscal framework and recent changes

6. No clear rationale for changing forecast No “biased” forecasts reducing overall fiscal discipline

7. Not a rule but a framework for setting expenditure ceilings A fiscal rule is defined as a permanent constraint on fiscal policy through simplenumerical limits on budgetary aggregates (Kopits and Symansky, 1998).

8. The expenditure’s celings framework: issues for improvement • The relation between the numerical target and instruments is not well defined (e.g. Does the debt level target expenditure or vice-versa?). Expenditure is not linked directly to the debt ratio without considering also the revenue side • Estimation subject to uncertainty (i.e. potential output) and involves discretionary parameters that makes it non-transparent • Overlapping among targets (i.e. debt, MTO, primary balance). Targets to be prioratized to enhance accountability and transparency • Aimed at period of fiscal consolidation but would require adjustment to cater for countercyclical policy in bad times • In setting expenditure ceilings targeted levels of expenditure-to-GDP ratio to be made explicit

9. Coverage of the ceilings • General government expenditure based on national methodology while relevant targets based on ESA 95 with a wider scope of general government. Need to enhace accountability • Sector general government is not under direct control of the Government (e.g. local government). Need of consistency between instrument and targets • It includes EU funds which should not be constrained • Not clear whether the time horizon to which ceilings apply goes beyond the term of incumbent government setting the ceilings

10. Testing the framework Besides expenditure ceilingsdiscretion is required to achieve fiscal targets

11. The track record so-far Weaker relation between deficit targeted in national methodology and debt developments Non-binding ceilings but what matters is binding targets • Econometric evidence inconclusive on: • fiscal rules triggering fiscal consolidation • rules and institutions causing the budget outcomes • or both are caused by the same third factor

12. Envisaged policy and adherence to targets Accountability on meeting fiscal targets rather than on abiding to constraints that becomes non-binding or not enough to deliver on targets. Need to enhance fiscal framework

13. Need to take into account both expenditure ceilings and revenue (tax policy and business cycle) 1 1 2 Expenditure ceilings to be underpinned by sustainable policies (i.e. wage (1) and revenue (2))

14. A way forward: A policy framework to provide right incentives • Fiscal stability objective to be made explicit in the legislation (Act on Public Finance) • Enhancing accountability in planning, approving, delivering and monitoring the objective of fiscal stability: • government to design fiscal strategy • parliament to approve and monitor implementation of fiscal strategy with respect to agreed principles of fiscal stability • Improving transparency by specifying the task and content of the respective responsibilities of the government and parliament with regard to fiscal stability thusanchoring fiscal sovereignity

15. A way forward: Changes to Public Finanec Act • Governments to elaborate 4-year fiscal strategies including targets (MTO) in relation to guiding set criteria on fiscal stability (principles) for their time in office and policy to attain them (i.e. responsibility). Ex-ante framework • Principles of fiscal stability: • Consistency with a sustained trend decrease in the debt-to-GDP ratio (e.g.towards pre-crisis debt-level) • Observance of a safety margin for not breaching the 3% of GDP deficit and with a maximum structural deficit for euro area countries of 1% of GDP • Consistency with 10-year ahead structural balance projections ensuring 3% of GDP safety margin • Medium Term Budget Framework aligned to political cycle (accountability) • Expenditure ceilings applied to State budget (exclude EU funds), enhance rules on local budgets. Fiscal projections beyond 4 year on rolling over basis • Procedural rules on revenue neutral tax reforms. Reporting on tax expenditure • 4-year fiscal strategy to be approved by parliament and implementation monitored annually at the time of budget approval

16. Enhancing parliament’s mandate with regard to fiscal stability • The most important roles of the parliament is scrutiny of the government policies (i.e. holding the government to account) • Enhanced parliament mandate with respect to: • Approving incumbent governments fiscal strategies in line with fiscal stability principles • Monitoring implementation of fiscal strategies on yearly basis at time of parliament approval of budgets (Government to present an annual implementation report) • Mandating government to correct for deviations from fiscal targets • Parliament’s fiscal surveillance capabilities in line with new mandate to be enhanced by: • Independent fiscal institutions reporting to parliament on consistency of government strategies with fiscal stability objectives and its fulfillment • Yearly report of Fiscal Council to parliament or/and • Yearly report from IMAD

17. Enhancing governance of fiscal framework and accountability of Fiscal Council • Fiscal Council governance structure to be streamlined by FC submitting its independent annual report to the parliament for consideration • Report to be basis for: • Parliament’s assessment of government’s adherence to its fiscal strategy and to fiscal stability principles • Assessment of fiscal council’s adherence to its mandate (i.e. Independent ex-post positive assessment of government fiscal strategy compliance with fiscal stability). Accountability to tax payers

18. Preserving ownership and legitimacy on fiscal stability • New parliament’s mandate with regard to fiscal stability (i.e. approving and monitoring the fulfillment of the government’s fiscal strategy) to strenghten policy ownership at the times when fiscal surveillance framework in the EU is enhanced and is becoming closer to the process of formulation of budget targets in the context of the so-called EU semester

19. Summary • Fiscal policy strategies (4-year) to be shaped and monitored in line with principles of fiscal stability (i.e. does not affect adversely the level of interest rates in the economy, that provides public finances’ resiliency to shocks and ensures its long-term fiscal sustainability) • MTBF to ensure that budget planning (i.e. expenditure ceilings and government revenue policy) enables reaching fiscal targets • Relyance on a single forecast (IMAD) • Government and parliament share responsibility for fiscal stability • Government to elaborate fiscal strategy • Parliament to approve fiscal strategy and monitor its implementation • Parliaments surveillance capabilities to be enhanced by relying on assessment (reports) of independent fiscal institutions • Streamline role of Fiscal Council in line with proposed policy set up