fiscal risks: sources, disclosure and management
DESCRIPTION
“Fiscal Risks: Sources, Disclosure and Management” Ricardo Velloso, Deputy Division Chief, Fiscal Affairs Department, International Monetary Fund This session will cover main sources of the fiscal risks, their magnitude in advanced, emerging and developing countries, as well as key principles in management of fiscal risks. Mr. Velloso will also introduce some good practices in fiscal risk disclosure.TRANSCRIPT
Fiscal Risks Sources, Disclosure and Management
Ricardo VellosoFiscal Affairs Department, IMF
Presentation at 2009 ICGFM Miami Conference May 21, 2009
Introduction
• Fiscal Risks could be defined as deviations of fiscal outturns (deficits, debt/GDP) from expectations at the time of the budget and/or other fiscal forecasts.
• How large are fiscal risks for different groups of countries?
• What are the most important sources of risk?• What can policy makers do about fiscal risks?
Context• Increasing interest in fiscal risk disclosure and
management: more countries are preparing fiscal risk statements.
• Presentation draws on recent FAD paper discussed at IMF’s Executive Board.
• Extension of IMF’s ongoing work on fiscal transparency (revised Code and Manual on Fiscal Transparency).
• Preliminary Guidelines: tool for policymakers that will evolve with experience.
• More requests for advisory services in this area.
Outline of Presentation
• How large are fiscal risks?• What are the main sources of fiscal risks?• How do countries disclose fiscal risks in
practice?• Preliminary guidelines for identification,
disclosure and management of fiscal risks.• A possible statement of fiscal risks
How Large Are Fiscal Risks? Surprise Deviations in Debt/GDP
10th Percentile
02
04
06
08
01
001
201
40F
req
uenc
y
mean-1sd +1sd-2sd +2sd-3sd +3sd-4sd +4sd-5sd +5sd
-30 -20 -10 0 10 20 30In percent of GDP; positive deviation if actual > forecast
Total obs. 398; mean=-0.77; sd=6.78; skewness=0.21; kurtosis=6.96
Deviations of Debt/GDP--All Countries
How Large Are Fiscal Risks? Surprise Deviations in Balance/GDP
10th Percentile
04
08
01
201
602
002
402
803
20F
req
uenc
y
mean-1sd +1sd-2sd +2sd-3sd +3sd-4sd +4sd-5sd +5sd-6sd +6sd
-20 -15 -10 -5 0 5 10 15 20In percent of GDP; positive deviation if actual > forecast
Total obs. 1397; mean=-0.36; sd=3.21; skewness=-0.47; kurtosis=8.96
Deviations of Balance/GDP--All Countries
Surprise Deviations in Balance/GDP
10th Percentile
01
02
03
04
05
06
07
08
09
01
00
Fre
qu
en
cy
mean-1sd +1sd-2sd +2sd-3sd +3sd-4sd +4sd-5sd +5sd
-10 -5 0 5 10In percent of GDP; positive deviation if actual > forecast
Total obs. 378; mean=0.02; sd=2.20; skewness=-0.42; kurtosis=6.80
Advanced Countries
10th percentile
02
04
06
08
01
00
12
01
40
Fre
qu
en
cy
mean-1sd 1sd-2sd 2sd-3sd 3sd-4sd 4sd-5sd 5sd-6sd 6sd
-20 -15 -10 -5 0 5 10 15 20In percent of GDP; positive deviation if actual > forecastTotal obs. 388; mean=-0.57; sd=3.52; skewness=-0.66; kurtosis=10.34
Emerging Countries
10th Percentile
02
04
06
08
01
00
12
01
40
16
0F
req
ue
ncy
mean-1sd +1sd-2sd +2sd-3sd +3sd-4sd +4sd-5sd +5sd
-15 -10 -5 0 5 10 15In percent of GDP; positive deviation if actual > forecast
Total obs. 631; mean=-0.45; sd=3.49; skewness=-0.21; kurtosis=6.86
Developing Countries
Sources of Fiscal Risk• Fiscal risks arise from macroeconomic shocks
and the realization of contingent liabilities.• Sources of macroeconomic shocks include real
GDP growth, inflation, commodity prices, and interest and exchange rates.
• Contingent liabilities are obligations triggered by uncertain events and can be:– Explicit: defined by law or contract, e.g., debt
guarantees.– Implicit: arising from government ownership
of SOEs, expectations that the government will provide assistance (e.g., following natural disasters, to depositors in event of bank failures, etc).
Currency Crises(depreciation by at least 25 p.p. and at least 10 p.p. greater than the previous year)
10th percentile
05
10
15
Fre
que
ncy
mean-1sd +1sd-2sd +2sd-3sd +3sd
-10 -5 0 5 10In percent of GDP; positive deviation if actual > forecast
Total obs. 46; mean=-2.22; sd=3.33; skewness=-0.91; kurtosis=3.12
Deviations of Balance/GDP--All Countries
Oil Exporters: Years of Oil Price increase0
510
1520
Fre
que
ncy
mean-1sd +1sd-2sd +2sd-3sd +3sd-4sd 4sd
-30 -20 -10 0 10 20 30 40In percent of GDP; positive deviation if actual > forecastTotal obs. 27; mean=-6.07; sd=10.23; skewness=-0.70; kurtosis=2.94
Deviations of Debt/GDP--Fuel Exporters
03
69
1215
18F
req
uenc
y
mean-1sd +1sd-2sd +2sd-3sd +3sd
-15 -10 -5 0 5 10 15 20In percent of GDP; positive deviation if actual > forecastTotal obs. 26; mean=3.16; sd=5.18; skewness=-0.41; kurtosis=5.69
Deviations of Balance/GDP--Fuel Exporters
Sources of Fiscal RisksResults
• Really big, immediate, unexpected increases in debt/GDP ratio: banking crises; exchange rate crises (especially when large share of debt is denominated in foreign currency); assumptions of debts.
• More common risks to the fiscal deficit: economic growth slowdowns, adverse terms of trade changes.
Fiscal Costs of Banking Crises
Gross costs vs. Net costs
Recovery rates: fiscal risks on the asset side
Banking Crises: Net Fiscal Costs(in percent of GDP)
0%
10%
20%
30%
40%
50%
60%
Argent
ina
1980
Indo
nesia
Jam
aica
Thailand
Turkey
Korea
Domini
can R
ep.
Mex
icoChil
e
Ecuad
or
Bulga
ria
Philip
pines
Nicara
gua
Venez
uela
Finlan
d
Urugu
ay
Brazil
Paragu
ay
Vietn
am
Argent
ina
2001
Croat
ia
Argent
ina
1989
Russia
Japa
n
Czech
Rep.
Mala
ysia
Colom
bia 198
2
Sri La
nka
Latvi
a
Lith
uania
Bolivi
a
Colom
bia 199
8
United
Sta
tes
Argent
ina
1995
Eston
ia
Norway
Banking Crises: Recovery rate(recovery as a share of gross fiscal costs)
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Sweden
Norway
Mala
ysiaChil
e
Colom
bia 199
8
Japa
n
Bolivi
a
Urugu
ay
United
Sta
tes
Korea
Ecuad
or
Brazil
Paragu
ay
Thailand
Venez
uela
Czech
Rep.
Eston
ia
Finlan
d
Jam
aica
Indo
nesia
Nicara
gua
Mex
ico
Lith
uania
Domini
can R
ep.
Turkey
Bulga
ria
Argent
ina
1995
Argent
ina
1980
Argent
ina
1989
Argent
ina
2001
Colom
bia 198
2
Croat
ia
Latvi
a
Philip
pines
Russia
Sri La
nka
Vietn
am
Benefits of Disclosure
• Strengthens incentives to ensure that key risks are identified, estimated and carefully managed.
• Promotes earlier, smoother policy responses. • Increases confidence amongst stakeholders in the
quality of fiscal management.• Reduces uncertainty for investors and taxpayers.• Improves access to international capital markets.• International trend toward greater disclosure.
Macroeconomic Shocks
• Fiscal risks from macro shocks are disclosed by many countries, including all EU countries, most OECD members and some emerging market countries (Brazil, Chile, Indonesia).
• Modalities:– Sensitivity analysis (e.g., minimum wage in Brazil).– Full-fledged alternative macroeconomic scenarios
(New Zealand).– Uncertainty surrounding baseline projections is
sometimes illustrated through a fan chart (US).
16
New Zealand• Clear responsibilities for macro and fiscal
forecasting to help ensure realistic budgets.• Independent experts assess macro and fiscal
forecasts.• Sensitivity of budget and medium-term fiscal
forecasts to variations in the key assumptions.• Full-fledged alternative macroeconomic and
fiscal scenarios are considered alongside baseline scenario.
• This approach provides policy-makers with a better feel for the likely path of fiscal aggregates, and improve their ability to judge whether the effects of fiscal shocks are likely to be temporary or permanent.
17
18
General definition
- Obligations that have been entered into, but the timing and amount of which are contingent on the occurrence of some uncertain future event outside the control of the Government.
Other definition
- Off-balance sheet contingent obligations (accounting).
Contingent Liabilities
Contingent Liabilities
Contingent Liabilities
Explicit (obligations based on contracts, laws,
or clear policy commitments).
Implicit(political or moral obligations,
rather than contractual)
Guarantees(loan; trade and exchange rate; minimum pension;
income, profit and rate of return guarantees under PPPs)
Bailouts(of public enterprises, financial institutions,
subnational governments, strategic private firms)
Natural disaster spending
Legal claims against the state
Natural disaster relief
Othere.g. ideminities; insurance programs; uncalled capital
Environmental cleanup
19
20
• Disclosure practices driven by accounting, reporting and transparency standards.
– Accounting Standards (IPSAS):
– Statistical Standards (GFSM 2001).– OECD Best Practices (2001), IMF Fiscal Transparency Code and Manual (2007).
• Required also by PFM or fiscal transparency legislation (Australia, Brazil, Canada, Chile, Colombia, France, New Zealand, Nigeria, Pakistan, Peru, UK).
Loss can be measuredRecord in financial statements
and disclose nature of contingency
Disclose nature of contingency and amount
No Disclosure
Loss cannot be reasonably measured
Disclose nature of contingencyDisclose nature of
contingencyNo
Disclosure
Likelihood and measurability of loss
Loss more likely than not (probability > 50%)
Loss less than likely but more than remote
Loss remote
Contingent Liabilities
21
• Disclosure venues:– Financial statements (Australia, Canada, New Zealand, US).
– Budget documentation
– Medium-term fiscal framework (Chile, Colombia, Peru).
– Debt management reports (Japan, Czech Republic, Turkey).
– Statements of fiscal risks (Australia, Brazil, Chile, Colombia, Indonesia, New Zealand).
Contingent Liabilities
22
• Disclosure statements usually include:1. Classification by major category.
2. Fiscal significance, nature and rationale.– Total exposure, expected cost and “unexpected” loss.– Explanations for changes in CLs between periods.– When quantification hard, discussion of nature and scope.– Public policy purpose, duration and intended beneficiaries
3. Major individual CLs: description of their nature, scope and quantification (often face value).
4. Information on past calls on the government.
5. Information about reserve assets (e.g., deposit insurance fund).
Contingent Liabilities
23
• Exemptions from disclosure:• Implicit CLs, to minimize moral hazard.• Information that, if quantified, would
prejudice:– Substantial economic interests of the country. – Security or defense of the country.– International relations of the government.– Ongoing litigation and negotiation.
• Exemptions primarily apply to quantification of CLs; existence, nature and overall scope should still be disclosed.
Contingent Liabilities
24
What countries disclose
Loan GuaranteesGuarantee and Insurance Programs
Infrastructure Guarantees
Pension Guarantees
Lawsuits
Environmental Liabilities
Callable Capital (International Org.)
Quasi-fiscal deficit Central Bank
Implicit Liabilities
Unquantifiable Liabilities
Australia, Canada, Chile, Colombia, New Zealand, South Africa, US
Chile, Colombia
Chile, South Africa, US
Australia, Brazil, Canada, Chile, Colombia, New Zealand, US
Canada, New Zealand, US
Australia, Chile
Australia, Canada, New Zealand
Australia, Canada, New Zealand
Chile, Pakistan, US
Maximum authorized, face value, expected loss (annual & NPV), unexpected loss (annual & NPV; 95% & 99% probability), details of guarantee and guaranteed loan (maturity, currency, interest)
Face value
SELECTED COUNTRIES QUANTIFIABLE INFO DISCLOSED
Maximum loss, expected loss (annual & NPV), unexpected loss (annual & NPV; 5, 50, 95, 99% probability), evolution of NPV expected costs
Face value, expected payments (annual & NPV), calls on past guarantees
Face value (amounts claimed), expected losses (annual, NPV), range of expected losses, unexpected losses (99%), past success rates
Expected costs
Quasi-fiscal deficit and capital position of CB; guaranteed CB liabilities
Description of liability
Fiscal cost of past banking crisis, past costs of stabilizing fuel prices
CL Disclosure in Practice
Guidelines for Fiscal Risk Disclosure and Management
• Fiscal risks to which the government is exposed should be identified and disclosed to facilitate an effective fiscal policy.
• Risks should be mitigated in a cost-effective manner.
• There should be a clear legal and administrative framework to regulate overall fiscal management and the government’s exposure to fiscal risks.
• Risks should be systematically incorporated in fiscal analysis and the budget process.
GuidelinesIdentification & Disclosure
• Availability of information: compilation and monitoring of all risks—importance, probability, and where possible, quantification.
• Legislative/accounting framework for disclosure of risks, with presumption of publication; exceptions based on clear criteria (materiality, moral hazard, prejudice of national interest).
• Full presentation of risks in budget documentation, possibly in statement of fiscal risks.
GuidelinesCost-Effective Risk Mitigation
• Efforts to address or reduce fiscal risks before they are taken or materialize include a combination of:– Assessing if the government should take on a
particular risk.– Modifying the activity to reduce risk.– Taking up insurance or otherwise transfering or
sharing the risks particularly with those able to influence outcomes.
– Allocating risks based on an assessment of best ability to bear and manage risks.
GuidelinesLegal/Administrative Framework
• Clear allocation of responsibilities between CG and rest of public sector on use of public funds.
• Fiscal risk management may be facilitated by a CG unit that can monitor and control overall risk and consider interactions.
• Integration with overall fiscal management is facilitated by location of unit within MOF.
• Ministries/agencies to have clearly specified responsibilities for managing their risk exposure.
• Responsibility for taking on risks should be separate from that of estimating potential costs.
GuidelinesIncorporating Fiscal Risks in
Fiscal Policy & Budget Process
• Risk analysis should be incorporated in the macroeconomic policy framework, with fiscal targets allowing for the possibility that some risks may materialize.
• Exposure to fiscal risks should be incorporated in fiscal sustainability analysis.
GuidelinesIncorporating Fiscal Risks in
Fiscal Policy & Budget Process
• Decisions over contingent liabilities should be integrated with the annual budget cycle so that proposals are considered alongside competing instruments.
• A framework should be in place to require parliamentary approval of contingent liabilities.
• An annual budget appropriation could be included to cover the expected cost of contingent liabilities (general, by main category, or specific).
Macroeconomic Risks and Budget Sensitivity
- Discussion of the macroeconomic forecasting record in recent years, comparing the assumptions used in budget forecasts against actual outcomes.-Sensitivity of aggregate revenues and expenditures to variations in each of the key economic assumptions on which the budget is based (e.g., impact of exchange rates and interest rates on revenues and expenditures), with explanation of underlying mechanisms.
- Possible methods and presentational devices include alternative scenarios or fan charts.
Statement of Fiscal Risks
Statement of Fiscal Risks
Public Debt
- Sensitivity of public debt levels and debt servicing costs to variations in assumptions regarding e.g., exchange rates and interest rates. Impact of debt management strategy on the government’s risk exposure.
- Policy and institutional framework for government borrowing and on-lending.
Contingent Central Government Expenditure
- Expected value and government’s gross exposure to contingent liabilities—especially central government guarantees (e.g., to public enterprises); reporting to include broad groups of guarantees but also any major individual guarantees. Rationale and criteria for the provision of guarantee should be disclosed.
Statement of Fiscal Risks
Contingent Central Government Expenditure (cont.)- Banking sector: Deposit insurance scheme and—to the extent that the authorities feel this does not generate moral hazard—risks from the banking sector.- Legal action against the central government: Past claims (including amounts) and the face value of current claims, including a disclaimer that reporting the risk does not indicate government acknowledgement of liability.- Natural disasters: Fiscal impact of disasters in recent years. Level and operation of possible contingency reserve for natural disasters (if applicable).
Public Private Partnerships- Summary of the PPP program, including (i) how it fits with country’s infrastructure and other investment needs, as well as (ii) policy framework and rationale for PPPs.
Statement of Fiscal Risks
Public Private Partnerships (cont.)- Cumulative overall exposure from government’s existing PPPs, and gross exposure from guarantees and similar instruments.
State-Owned Enterprises- Policy framework for SOEs (pricing policy, dividend policy). - Financial performance and position of the SOE sector and the largest SOEs.- Financial performance and position of state-owned banks.
Subnational Governments- Legal framework for intergovernmental fiscal relations, and summary of recent (aggregate) subnational government financial performance and financial position.
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Thank you!