Public Information Notice No. 10/59

Public Information Notice: IMF Executive Board Discusses Revenue and Expenditure Policies for Fiscal Consolidation in the Wake of the Global Financial Crisis

May 14, 2010

On May 5, 2010, the Executive Board of the International Monetary Fund (IMF) discussed “From Stimulus to Consolidation—Revenue and Expenditure Policies in Advanced and Emerging Economies.”¹

Background

An earlier Board discussion on February 17 had noted that on current trends, general government debt in advanced countries was expected to rise 36 percentage points of gross domestic product (GDP) during 2007–2014 and that age-related (health and pension) expenditures would rise by about 4–5 percentage points of GDP over the next 20 years, requiring a large adjustment to restore fiscal positions to more sustainable levels. In emerging economies, the outlook was more favorable, but adjustment would be needed here too. ² Against this background, Directors considered possible policies, as outlined in “From Stimulus to Consolidation—Revenue and Expenditure Policies in Advanced and Emerging Economies,” to stabilize age-related spending in relation to GDP, reduce non-age related expenditure ratios, and increase revenues in an efficient manner. The staff analysis noted that bold reforms would be needed to offset the projected rise in age-related spending, particularly in health care; and that in other spending areas, in addition to allowing stimulus spending increases to expire, a possible policy goal could be to freeze spending in real per capita terms for the next 10 years. On the revenue side, the staff analysis noted that boosting revenues in a global economy required strengthening broad based taxes on relatively immobile bases, and improving tax compliance through enhanced risk management approaches and better international cooperation to tackle pervasive tax abuse.

Executive Board Assessment

Executive Directors welcomed the opportunity to discuss policies to support fiscal consolidation. Most Directors concurred that the consolidation strategy, particularly in advanced economies, should aim to stabilize age-related spending in relation to GDP, reduce non-age related expenditure ratios, and increase revenues in an efficient manner. Directors underscored that the appropriate mix of measures is different for each country, although for the most part spending cuts would likely need to dominate. Still, where adjustment requirements are large, revenue measures should also be significant. In this context, some Directors pointed to the need to sustain growth while moving toward fiscal consolidation through structural reforms. When considering debt dynamics in assessing the size and pace of fiscal adjustment, a few Directors noted that net rather than gross debt may be a better indicator of debt vulnerability.

Directors acknowledged that reform of public healthcare spending is a high priority. They noted the challenge of balancing the need to provide high-quality health services to a wide share of the population while containing the growth of spending. Directors noted that the fiscal outlook for pensions already reflected considerable reform efforts undertaken, particularly in many advanced economies. Most Directors viewed increases in statutory retirement ages as the starting point for further reform, especially in light of projected increases in life expectancy.

Directors concurred that a possible policy goal would be to stabilize aggregate non-age related public spending in real per capita terms, so that the ratio of GDP drops as economic growth picks up. They took note of staff’s assessment that freezing such spending in real per-capita terms over the next 10 years—beyond the savings arising from non-renewal of stimulus-related spending—could generate structural savings. To achieve this, Directors considered that medium-term reforms to improve the composition and efficiency of expenditure would be needed. They advised that these should focus on containing the wage bill, and also saw scope for reducing expenditure on social benefits, without sacrificing equity objectives, through better targeting, and reducing spending on subsidies, including for energy.

Directors concurred that the standard principles of equity, efficiency and ease of implementation should continue to guide tax policy reform. They noted that initial positions with regard to both tax levels and structures differ greatly across countries. While this requires country specificity in designing revenue reforms, many Directors agreed that reasonably efficient measures with regard to excises, value-added tax (VAT) policy changes, real property taxes, and the introduction of efficient carbon pricing in the United States and Europe could raise revenues significantly.

Directors saw substantial scope for improving the revenue performance of the VAT in almost all countries, and agreed that excises could make a significant contribution to increased revenues from differing combination of tobacco, alcohol, and fuel excises in specific countries. Property taxes were also seen by Directors as a promising source of added revenue in countries where they are under-exploited at present.

Directors were cognizant of the impact of international tax competition on the corporate income tax over the past two decades, agreeing that the significant decrease in statutory rates results from strategic competition in tax-setting. Most Directors concurred that international coordination would be required to limit or reverse these pressures on corporate income tax revenues, and that this coordination could take a variety of forms—agreement on minimum rates; scaling back incentives; formulary apportionment; or more limited agreements, for example, to deal with hybrid entities used for tax planning purposes. Directors noted that the personal income tax is considered key to the pursuit of equity in the tax system, but that in advanced economies top rates were already relatively high. Nonetheless, Directors observed that there is significant scope in some countries for base-broadening and equity-enhancing simplification, which could raise substantial revenues. They further noted that, in some countries with the greatest need of fiscal adjustment, increases in intermediate personal income tax rates are needed.

Directors expressed concern regarding the compliance gaps in tax systems of many countries, and the evidence of pervasive tax abuse through informality, aggressive tax planning, offshore tax abuse, fraud, and increasing tax debt as a result of the crisis and recession. They observed that recent advances in international collaboration in tax information exchange and transparency are an important step forward, and saw a need for a further strengthening of compliance through risk management approaches, intensifying use of modern information technology to manage tax compliance, tackling endemic abuses to improve the taxpaying culture in some countries, and improving legal frameworks.

To conclude, Directors had a wide-ranging and productive discussion of various issues and policy recommendations provided in the staff report. They encouraged staff to include the analysis in the Fund’s bilateral surveillance. Some Directors noted that this work would be a useful input in the context of the G-20 Mutual Assessment Process.

¹ IMF Policy Paper, April 30, 2010.
² See PIN No. 10/27, “IMF Discusses Exiting from Crisis Intervention Policies.”