The Performance Dimensions in Budget > What makes a budget credible?

Let's play Ministers of Finance

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Napodano:
From an article published in the Economist (downloadable from the board 'Have you seen this?):
'IMF's calculations  suggest that to reduce their ratios of public debt to GDP to 60% by 2030, the rich world's governments need to improve their budget balances by an average of 8% of GDP by 2020. The average structural deficit (ie, before interest payments) must swing from 4.3% of GDP in 2010 to a surplus of 3.7%. They must then maintain that surplus. A fifth of the rich world's economies (including America and Britain) would need adjustments of around 10% of GDP or more'.

Now, let's play Ministers of Finance for a moment. Where would you start your fiscal adjustment intervention?

Spending cuts or tax hikes? A mix of the two?
Challange your PFM Board fellows by being specific in your prescriptions. Careful, some Ministers of Finance in real life may lurk on  ;) 

John Short:
Start by deciding on affordable tax to GDP ratio and affordable borrowing target for the next 3 years commensurate with maintaining economic incentives to generate steady non inflationary economic growth.  Then
1 Carry out a tax review with a focus on VAT, excise, income tax and corporation tax (no national insurance!) and set ad valorem rates against tax base to estimate revenue in line with above.
2 spend 90% of that by carrying out a strategic spending review to focus on priority sectors over a three year period
3 give the revenue in line with spending review to the relevant ministries to spend on their internal priority programmes over a three year period
4 Carry over any surplus for a rainy day (but obviously reduce short term borrowing when in surplus).
5 Go and watch Ireland win the Rugby World Cup in New Zealand. 
6. Celebrate Ireland's victory with a few (?) bottles of red wine!

STONE:
I have just watched George Osborne's announcement about his plans for independent economic forecasts in the UK with the appointment of Alan Budd as head of an Office of Budget Responsibility and his announcement of his intention to announce GBP 6 billion of expenditure cuts so he'll be playing minister of finance soon.

There's an interesting point about the IMF's calculations on reaching the 60 per cent thing - where did the 60 per cent debt and (3 per cent deficit) targets (or are they limits?) come from in the Maastricht Treaty - why 60 per cent and why not 61 or 59 per cent?

The thing I like about Fiscal Responsibility Laws is that they are enshrined in legislation - voted by Parliaments and then Parliaments vote budgets... quis custodiet ipsos custodes

Napodano:
This is what OECD Governments agreed on fiscal consolidation:

'What instruments should be used?
Fiscal consolidation should focus on instruments that minimise its adverse impact on trend growth. There are policy trade-offs that need to be taken into consideration in the choice of spending components and sources of taxation to achieve consolidation. Also, to the extent that the costs and benefits of different instruments differ across social groups, fiscal consolidation will have implications for income distribution and equity. In particular:

* While expenditure cuts are needed, fiscal retrenchment should preserve pro-growth programmes. This includes productive outlays, such as on education, R&D and infrastructure, which are expected to be growth-enhancing in the longer term. Education policies have a bearing on growth through productivity gains arising from human capital accumulation. Support for innovation, including through tax expenditures on R&D, has the scope for creating new sources of growth by enhancing labour and multifactor productivity. Initiatives to improve public infrastructure are pro-growth to the extent that they unleash opportunities for private investment.
* As for tax hikes, they should rely on the least growth-distorting instruments.6 Taxes on immobile bases, such as property, and consumption are less distortive than those on factor income (such as personal and corporate income). Income tax hikes have a bearing on growth, because they influence labour utilisation (by affecting decisions on labour force participation and hours worked) and productivity (through incentives for human capital accumulation). Moreover, there could be greater recourse to green revenue in fiscal consolidation programmes, including receipts from green taxes and carbon trading, which would also be welfare-enhancing'.
It is interesting to see more and more suggestions to shift from income tax to sales/VAT taxes. What is your opinion on this shift, fellow PFM Boarders?

The full document, PREPARING FISCAL CONSOLIDATON, is attached below.

John Short:
I think this is a good example of the need to have a relationship between tax policy and tax administration.  The focus has to be on being able to collect what should be collected so there is no point in a switch from a collectable tax to one that does not have the administration in place to collect it.  This should also address evasion where the cost of collection is high in relation to what is being collected and minimising loopholes to eliminate avoidance.  Then it becomes an issue of balance and equity, ensuring that distortions are minimised and disincentives to work are not rife.  There is a great temptation to use tax too much when it should be expenditure policy (or neither) to implement social policy.  As a result, tax administration can become over burdened and there are diminishing returns.   (If people want to marry, marry for love not because of a small tax benefit, but higher tax thresholds are good for raising the disposable income of the lower paid and then expenditure policy can then take over with respect to education and health, as examples.)
 
I read over the weekend of advice to Greece to get out of the euro, devalue and default because it is the only way to generate growth to raise revenue to service whatever debt that may be left.  Yet, one of the reasons Greece is in such a mess is that it does not collect the taxes that it should be collecting.  Surely, that has to be the first plank in its reform package?  Did not hear of any mention of that over the weekend!

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