Despite weak recovery, fiscal adjustment is expected to continue in most economies including Greece, Portugal and Italy
The global fiscal situation is improving with the fiscal deficits declining gradually in most advanced economies despite continuation of fiscal risks and difficult path to fiscal sustainability, according to the Fiscal Monitor released by the IMF on April 16, 2013. In the US, overall fiscal tightening is one of the largest in recent decades and is excessive in light of cyclical considerations. Notwithstanding the weak recovery, fiscal adjustment is expected to continue in most advanced economies like France, Netherlands, Italy, the UK, Ireland, Portugal and Greece. The emerging markets are expected to continue with neutral fiscal policies, given their low levels of debts and deficits, but many have still to work on restoring policy buffers and address other medium-term concerns. India?s fiscal efforts like reduction in subsidies, spending cuts and tax administrative measures are also discussed.
The process of fiscal consolidation is reflected in the performance of many advanced countries but debt levels continue to be high (see table). The Fiscal Monitor has an interesting discussion on various options to reduce the value of debt?high inflation, restructuring, privatisation of government assets, structural reforms, and fiscal adjustment. The foremost of the options is to set out and implement a clear and credible plan to bring debt ratios down over the medium term. In higher debt countries like Japan and the US, specific medium-term plans are urgently required to put debt ratios in downward trajectory; an absence of such a plan in the US and Japan are a matter of significant concern.
In the US, though fiscal cliff has been averted, durable solutions are still awaited. However, the World Economic Outlook (WEO) released two hours before the Fiscal Monitor questions the impact of debt on economic growth, in the current context of deficient global aggregate demand. Box 1.2 in the report, titled Public Sector Overhang and Private Sector Performance, offers mixed results on the effect of debt on growth. Debt overhang is generally believed to have growth-retarding implications on the economy through various channels like reduced public and private investment. In traditional literature, debt ?overhang threshold? levels are discussed which give broadly similar results. In contrast, recent studies to understand debt restructuring channels and its distributional effects across different sectors of the economy indicate a reverse result, according to the WEO.
In an informative Box 4, titled Potential Sources of Contingent Liabilities in Emerging Market Economies, two specific examples of China and India are discussed. In the case of China, the focus is local government financing vehicles financing local infrastructure. In the case of India, the discussion pertains to the deteriorating quality of credit. Credit growth in Indian economy remained consistently high, with growing concentration on infrastructure in the post crisis years. But with the slowing down of the economy, public sector banks seem vulnerable to losses from delayed infrastructure projects as well as dented profits of large companies that account for bulk of bank loans. Gross non-performing assets in public banks reached 3.3% of advances in 2012. RBI has taken steps to tighten the reporting requirement in parity with increased capital standards of Basel III. Yet there is a fear of rise in contingent liabilities due to India?s state-owned enterprises and the large public-private partnership programmes.
Fiscal Monitor has an appendix titled Reforming Energy Subsidies, summarising another IMF paper (Energy Subsidy Reform: Lessons and Implications; forthcoming) that examines 176 countries. The appendix discusses reforms based on insights from 22 case studies and observes that energy subsidies have wide-ranging economic consequences. Though aimed at protecting consumers, subsidies aggravate fiscal imbalances and exacerbate macroeconomic imbalances. By diluting incentives to reduce domestic energy consumption, incomplete pass-through of increasing international energy prices to domestic consumers worsens the balance of payments further. Subsidies are distorting in the long run and lead to inequitable distribution. Globally, energy subsidies are pervasive and impose substantial fiscal costs on the exchequer. Institutional reforms that depoliticise energy pricing, introduction of automatic pricing and phased price increases coupled with measures to protect the poor is recommended.
In India, recent energy price reforms in 2012 are addressing some of the distortions that had arisen in petroleum pricing. This needs to be extended to pricing of other sources of energy like natural gas and electricity and other petroleum-using sectors like fertilisers.
Charan Singh is RBI Chair Professor, IIM Bangalore. Arvind Virmani is President@www.ChintanLive.com and former executive director, IMF. Views are personal
