Financial Programing and Policies, Part 2 Module 5

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Financial Programing and Policies, Part 2 Module 5 Forecasting the Government Sector This training material is the property of the International

1 Financial Programing and Policies, Part 2 Module 5 Forecasting the Government Sector This training material is the property of the International Monetary Fund (IMF) and is intended for use in IMF Institute for Capacity Development (ICD) courses. Any reuse requires the permission of the ICD.

2 Fiscal Policy affects 1. Level and Composition of Aggregate Demand (AD) 2. Price Level 3. External Sector (CAB, ER, KA) 4. Monetary Aggregates

3 Fiscal Policy and Aggregate Demand GDP = C + I + G + NX

4 Fiscal Policy and Inflation Fiscal expansions can be inflationary through different channels: Demand Supply Financing Expectations

5 Fiscal Policy and the External Sector CAB = GNDI - R + TR + R - TR - C - I CAB = [ Y - C - I ] + [ R - C - TR - I ] 14 p 2 43 p p g 4 3 g S p CAB = [ S p - I p] + OB { Private Sector Gap S g Public Sector Gap = overall balance

6 Impact of Fiscal Policy through the Monetary Survey M2 = NFA + NDA NDA = DC + OIN DC = NCG + Claims on other sectors

7 The Importance of Fiscal Policy In the short-term: Stabilizing Tool In the long-term: Sustainable Savings and Growth

11 Forecasting the Fiscal Sector Fiscal forecasting must be based on a consistent set of macroeconomic assumptions. Consistency between the fiscal accounts and the macroeconomic environment calls for an iterative process.

12 Useful Concepts of Revenues

13 Useful Concepts of Revenues Effective Tax Rate: Statutory tax rate = legal tax rate schedule Effective tax rate = actual revenue / tax base Project Tax revenues with ETR and Proxy Tax Base: Tax revenues t+1 = ETR * (Proxy Tax Base) t+1 Your tax revenue forecast requires the forecast of the proxy tax base

14 Useful Concepts of Revenues

15 Useful Concepts of Revenues Buoyancy: Growth in tax collection T relative to tax base (TB). b =%r T/%r TB Elasticity: Growth in tax collection adjusted for tax measures (AT) relative to tax base. ε =%r AT/%r TB

16 Revenues: Elasticity-Buoyancy Elasticity-Buoyancy depends on: Tax structure If e > 1: Tax system is elastic Revenues grow faster than the tax base Tax administration and compliance If e < 1: Tax system is inelastic Revenues grow slower than the tax base

17 Revenues: Evaluating Elasticity-Buoyancy Tax system likely to be elastic with respect to GDP when: Taxes levied on growing sectors; Tax rates are progressive and ad valorem and evasion is not a problem; and Taxes are collected promptly.

18 Revenues: Forecasting Approaches: Effective Tax Rate Marginal/Buoyancy Tax

19 Effective Tax Statutory tax rate = legal tax rate schedule Effective tax rate = actual tax revenue / tax base Forecast: D % Revenue = D % Tax base * Effective rate Legal tax base vs. Proxy tax base

20 Tax Buoyancy 1 Buoyancy (b ) = D % actual tax revenue D % in GDP Forecast: D %Revenue = b * D % in GDP

21 Tax Buoyancy 2 Sources of estimates: Historical experience Foreign experience In general: VAT = 1.0 or slightly less for consumption Income tax = or > 1.0 Land/property: usually low Excise or selective sales tax often < 1.0 (e.g., alcohol, tobacco)

22 Forecasting Non-Tax Revenues and Grants Nontax Revenue: Grants: Diverse items Official transfers from BOP Central Bank profits Forecast: extrapolate past trends Other categories Forecast: % of GDP, Trend growth

23 Expenditure Analysis Expenditure structure and composition Expenditure/GDP ratios: total, current, capital, interest payments Effect of exchange and interest rates on expenditure Productive vs. unproductive expenditure

24 Categories of Expenditure Discretionary: Depend on government policies Can be changed in the short term Nondiscretionary: Outside the control of the government Governed by previous decisions, demographic factors, and the economic situation

25 Wage Bill The wage bill depends upon: Government policy Size of civil service Average salary Wage developments in the private sector Changes in the cost of living

26 Subsidies and Transfers Subsidies and transfers depend upon: Government policy Consumer prices of basic goods and services Producer prices of main agricultural goods Volume of goods and services demanded or produced Growth rate of number of beneficiaries

27 Other Goods and Services Expenditure on goods and services depends upon: Government policy Size of civil service Inflation

29 Interest Payments 1 Interest payments depend upon: Stock of public debt Composition of debt Interest rate Exchange rate

30 Interest Payments 2 Interest Payments on Domestic Debt: INT = i t /100* average (D t, D t-1 ) Interest Payments on Foreign Debt: INT $ = i $ t/100*average(d $ t-1,d $ t)* ER t

31 Interest Payments 3 Simultaneity Problem: Know current level of debt. Need also future debt levels, which depend on future borrowing, which depends on interest costs. Iterative Approach: Make an initial estimate of interest costs. Use this information to calculate overall balance and to re-evaluate the financing needs. Recalculate estimates of interest costs. Repeat as necessary.

32 Net Operating Balance and Net Lending/ Borrowing GFSM 2001: STATEMENT OF GOVERNMENT OPERATIONS A. REVENUES B. EXPENSES A B = NET OPERATING BALANCE (NOB) C. NET ACQUISITION OF NONFINANCIAL ASSETS (NANA) D. NET LENDING (+)/BORROWING (-) = NOB - NANA

33 Sources of Financing Derive financing as the residual between the forecast of NOB and NANA Assess the break down of financing sources External Domestic (Bank vs non-bank)

34 Net Acquisition of Non-Financial Assets (NANA) Capital expenditures depend upon: Government policy (real growth of public investment) External financing Current projects and commitments Exchange rate Investment deflator EXP t = EXP t-1 *(1+ D P/100) *(1+ D Q/100) Where D P = I deflator;; D Q = real I growth

Session 2. The IMF's macroeconomic framework

Session 2. The IMF's macroeconomic framework 1. Overview of the Macro Framework Some takeaways Linkages between sectors and policies are critical Financial programming (FP) is a tool for ensuring accounting