european union accession: the challenges for public liability management in central europe

title:EuropeanUnionAccession:TheChallengesforPublicLiabilityManagementinCentralEurope

author:publisher: WorldBank

isbn10|asin: 0821343521printisbn13: 9780821343524ebookisbn13: 9780585218540

language: English

subject

Debts,Public--Europe,Central--Management--Congresses,Finance,Public--Europe,Central--Congresses,EuropeanUnion--Europe,Central--Congresses.

publicationdate: 1999lcc: HJ8618.E871999eb

ddc: 336.3/4/094

subject:

Debts,Public--Europe,Central--Management--Congresses,Finance,Public--Europe,Central--Congresses,EuropeanUnion--Europe,Central--Congresses.

Pagei

EuropeanUnionAccession:TheChallengesforPublicLiabilityManagementinCentralEuropeCosponsoredbytheEuropeanCommissionandtheWorld

Bank(AEuropeanBorrowersNetworkInitiative)

ã1999TheInternationalBankforReconstructionandDevelopment/THEWORLDBANK1818HStreet,N.W.Washington,D.C.20433

AllrightsreservedManufacturedintheUnitedStatesofAmericaFirstprintingDecember1998

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CoverdesignbyLauraC.Johnson

LibraryofCongressCataloging-in-PublicationDataEuropeanUnionaccession.ThechallengesforpublicliabilitymanagementinCentralEurope/WorldBank&theEuropeanCommission.p.cm.Includesbibliographicalreferencesandindex.ISBN0-8213-4352-11.Debts,PublicEurope,CentralManagement.2.Finance,PublicEurope,Central.3.EuropeanUnionEurope,Central.I.WorldBank.II.European

Central.3.EuropeanUnionEurope,Central.I.WorldBank.II.EuropeanCommission.HJ8618.E8719881998336.3'4'004dc2198-46551CIP

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CONTENTSForeword v

Acknowledgments vii

Part1Introduction

Background 3

SummariesoftheWorkshopPresentations

Selowsky 5

Ghanem-Kharas 6

Polackova 8

Blejer 10

Wheeler 11

deMontpellier 12

Glatzel 13

Forte 14

Part2PresentationoftheEightMajorPapersfromtheWorkshop

FiscalDeficitsandtheQualityoftheFiscalAdjustmentbyMarceloSelowsky

19

MacroeconomicIssuesforSovereignDebtManagementintheEUAccedingCountriesbyHafezGhanemandHomiKharas

26

GovernmentContingentLiabilities:AHiddenRisktoFiscalStabilityAConsiderationforEUAccessionbyHanaPolackova

35

PublicDebtManagementandMonetaryPolicy:MacroeconomicandInstitutionalInteractionsbyMarioI.Blejer

62

NewZealand'sTransitiontoResponsibleFiscalManagementbyGraemeWheeler

70

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ManagementStrategyoftheBelgianPublicDebtwithRegardtotheEuropeanMonetaryUnion:TheChallengesoftheTransitionbyLouisdeMontpellier

77

TheMeasurementofDeficitandDebtundertheMaastrichtTreaty:SomeStatisticalConsiderationsbyDieterGlatzel

85

AccountingandFinancialPracticesintheLightoftheContextoftheMaastrichtTreatybyFrancescoForte

105

Appendixes

ProfileofSpeakers 127

ParticipantsfromCentralEuropeanCountries 131

TablesandFigures

Selowsky

Table1.FiscalDeficit1993-1996 19

Table2.PublicSectorCapitalExpenditure1993-1996 20

Table3.CentralEurope:ExternalIndicators1993-1996 23

Figure1.PublicPensionDeficitsinHungary;NoReformsvs.MultipillarReforms1997-2015

25

Figure2.PublicPensionDeficitsinSlovenia;NoReformsvs.MultipillarReforms1997-2015

25

Ghanem-Kharas

Table1.TrendsinCapitalFlowstotheCEECs 27

Table2.ChangesinGrossDomesticSaving 30

Polackova

Table1.TheFiscalRiskMatrix:TheSourcesofPossibleFinancingPressuresonCentralGovernment

38

Table2.GovernmentOpportunisticBehaviorstoMeettheMaastrichtDeficitandDebtCeilings

50

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FOREWORDTheprocessofEuropeanUnion(EU)accessionand,moreimmediately,thelaunchoftheEuropeanMonetaryUnion(EMU)in1999posenewopportunitiesandchallengestoCentralEuropean(CE)states.

Themostpressingissuestheywillhavetoaddressarestrengtheningtheirpublicliabilitymanagementandachievingsignificantadjustmentsintheirsovereignborrowingpracticesandpolicies.InthecontextofEUaccession,boththemacroeconomicenvironmentofthenationalborrowingpolicyandthechoiceofborrowingandriskmanagementinstrumentswillbeevolvingrapidly.SeveralCEcountrieshavebeendevelopingsophisticatednationaldebtofficesandhaveshowntheircommitmenttoadheretotheprinciplesofprudentfiscalmanagement;othersneedtomakefundamentalinstitutionalchanges.

TheEuropeanCommission'sDirectorate-GeneralforEconomicandFinancialAffairsandtheWorldBankhavereceivedrequestsfromseveralCEcountriesforsupportoftheireffortstoadoptthebestinternationalpracticesinpublicliabilitymanagementasameansofintegratingsmoothlyintotheEU.TheEuropeanCommissionandtheWorldBankjoinedforcesandrespondedtotheserequestsbyspearheadinganinformalregionalnetworkofexcellencetheEuropeanBorrowersNetwork(EBN)todisseminatethebestpracticesinpublicliabilitymanagementandinstitutionbuilding.

EBN'sfirstactivitywastheorganizationofatwo-dayseminarinBrusselsinmid-December1997,cochairedandcofundedbytheEuropeanCommissionandtheWorldBank.TheseminarfeaturedpresentationsbyseniordebtmanagementofficialsfromCEandEU

countries,aswellasfromtheEuropeanCommission,EBRD,IMF,theWorldBank,andotherinstitutions.Thefollowingareexamplesofsomeofthepaneltopicspresented:sustainabilityofborrowingpolicy;institution-buildingforactiveliabilitymanagement;andportfoliooptimizationinthecontextofEMUandEUaccession.All10CEcountriesapplyingtotheEUparticipatedintheseminar:Bulgaria,theCzechRepublic,Estonia,Hungary,Latvia,Lithuania,Poland,Romania,theSlovakRepublic,andSlovenia.

FindingsoftheBrusselsworkshoparepresentedinthispublication.Thefirstsegmentgivesabriefoverviewofeightofthemajorpresentations,whilethesecondpartpresentstheseeightpresentationsintheirentirety,includingconclusionsandrecommendations.Thispublication

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willbedisseminatedthroughtheCommission'swebsite(onthehomepageofeitherPhareorDGII)andviatheWorldBank'sEBNwebpage,aswellasthroughthepublicationsofficesoftheEuropeanCommissionandtheWorldBank.

Asoneofitsnextactivities,EBNisworkingonafollow-upseminartothepolicyworkshopheldinBrusselsinlate1997.TheforthcomingseminarwillfocusonPrivateCapitalFlowsandEUAccession:ImplicationsforSovereignLiabilityManagement,andwillbeonceagainco-sponsoredbytheEuropeanCommissionandtheWorldBank.Officialsfromall10CEcountriespreparingforaccessiontotheEUhavebeeninvited,andpresentersincludeexpertsfrombothinternationalorganizationsandtheaccedingcountries.

EBNisplanningtoproduceapublicationsimilartothisoneaftertheforthcomingseminarandwillcontinuetodisseminateknowledgeonpublicliabilitymanagementusingseveralvenues,includingahotlineandtheaforementionedwebpages.TheprimaryaimofthesecommunicationswillbetofacilitateEBNagenda-settingandactivities,regularizethetiesbetweennationaldebtoffices,andfacilitatethedevelopmentofjointinitiatives.ThecontentsofboththehotlineandthewebpageswillbedrivenprimarilybytheinterestsoftheEUapplicantcountriestosupporttheirpublicliabilitymanagementinstitutionbuildingandproblemsolvingcapacities.

GiovanniRavasio JohannesF.Linn

DirectorGeneral VicePresident

Directorate-Generalfor EuropeandCentralAsia

EconomicandFinancialAffairs

Region

EuropeanCommission WorldBank

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ACKNOWLEDGMENTSThispublicationisaresultoftheDecember1516,1997,BrusselsCentralEuropeanPolicyWorkshop,EUAccessionandSovereignDebtManagement,sponsoredjointlybytheEuropeanCommissionandtheWorldBank.

WewouldliketothanktheEuropeanCommissionforhostingthisoutstandingevent,especiallyMr.JolyDixonandMs.JoanPearcefromDGIIandMessrs.ConstantinCostopoulosandAntonioPitronefromDGIA.WegivespecialthankstoMs.KarenHodgsonforherroleinthepreparationandexecutionoftheworkshop.

OnthepartoftheWorldBank,wewouldliketothanktheteamwhocontributedtothesuccessoftheworkshop,aswellasintheproductionofthispublication:Mmes.HanaPolackova,IlenePhotos,ChristinaBogyo,andMarinetteGuevara;Mr.SergeiShatalov;andMr.DonReismanfromtheOfficeofthePublisher.WewouldalsoliketoexpressourgratitudetoMessrs.MarceloSelowskyandHafezGhanem,bothofwhomprovidedinvaluableadviceandsupport.

Wealsowouldliketothanktheauthorsofthevariouspaperspresentedinthispublication,whowereamongthedistinguishedspeakersattheBrusselsworkshop:Ms.HanaPolackova;andMessrs.MarceloSelowsky,HomiKharas,HafezGhanem,GraemeWheeler(theWorldBank),MarioBlejer(InternationalMonetaryFund),LouisdeMontpellier(TreasuryoftheKingdomofBelgium),DieterGlatzel(EUROSTAT),andFrancescoForte(UniversityofRome).

And,finally,wewouldliketoextendourspecialthankstotheparticipants,colleagues,andexpertsfromthe10EuropeanUnionaccedingcountriesfortheircontributionandactiveparticipation.

PART1INTRODUCTION

BackgroundTheprocessofEuropeanUnion(EU)accessionand,moreimmediately,thelaunchoftheEuropeanMonetaryUnion(EMU)in1999posenewchallengesforpublicliabilitymanagementandsovereignborrowingpoliciesofCentralEuropean(CE)states.InthecontextofEUaccession,boththemacroeconomicenvironmentofthenationalborrowingpolicyandthechoiceofborrowingandriskmanagementinstrumentswillevolverapidly.SeveralCEcountriesalreadyhavebeendevelopingsophisticatednationaldebtofficesandhaveshowntheircommitmenttothefiscalcriteriaoftheMaastrichTreaty;othersneedtomakefundamentalinstitutionalchanges.

TheWorldBankandtheEuropeanCommissionhavereceivedrequestsfrommanyCEcountriestosupporttheireffortsinadoptingthebestinternationalpracticesinpublicliabilitymanagementasameanstointegratesmoothlyintotheEU.TheWorldBankandtheEuropeanCommissionjoinedforcesandrespondedtotheserequestsbyspearheadinganinformalregionalnetworkofexcellencetheEuropeanBorrowersNetwork(EBN)todisseminatethebestpracticesinpublicliabilitiesmanagementandinstitution-building.

Atwo-dayseminar,cochairedandcofundedbytheEuropeanCommissionandtheWorldBank,washeldinBrusselsinmid-December1997.TheseminarfeaturedpresentationsbyseniordebtmanagementofficialsfromCEandEUcountries,andinternationalorganizations.Amongthepaneltopicswerethefollowing:sustainabilityofborrowingpolicy;externalandfiscalaspects;institution-buildingforactivedebtmanagement;liabilitiesmanagementandportfoliooptimization;andimplicationsofEMUandEUaccessionforpublicdebtmanagement.All10EUapplicantcountries,Bulgaria,theCzechRepublic,Estonia,Hungary,Latvia,

Lithuania,Poland,Romania,theSlovakRepublic,andSlovenia,wereinvitedandparticipatedintheseminar.

Theworkshoppursuedthefollowinggoals:

ToinvestigatetheimplicationsofthelaunchoftheEuroandoftheEUaccessiononfiscalprudenceandborrowingstrategiesofCEcountries

Tofacilitatethedisseminationofthebestpublicliabilitiesmanagementtechniquesdevelopedworldwide

ToexploreplausiblearrangementsforpromotingprudentpublicliabilitiesmanagementinCentralEuropethrougharegionalexpertisenetwork.

Mainfindingsandrecommendationsoftheworkshopfallintothefollowingcategories:fiscalprudenceandintegratedmanagementofpublicliabilities,globalizationandvolatilityoffinancialmarkets,theimplicationsoftheproposedlaunchoftheEuroforpublicliabilitiesmanagementpolicychoices,andinstitutionalissues,whicharethekeyrequirementsforpublicliabilitiesmanagement.

Fiscalprudenceandtheintegratedmanagementofpublicliabilitiesrequirethefollowingactions:

Ensuringagoodqualityoffiscaladjustmentthatemphasizesnotonlydeficitreduction,butalsoadequatepublicinvestmentandprudentlevelsofcontingentfiscalrisksoutsidethebudgetarysystemforexample,inthebankingsector,pensionsystem,andsubnationalgovernments.

Developinganintegratedanalyticalandinstitutionalframeworkforgovernments'prudentandeffectivehandlingofdirectandcontingentliabilities,bothexplicitandimplicit.

Theglobalizationandvolatilityoffinancialmarketshavethefollowingimplications:

Emergingeconomiesarenowmoreresilienttocrisesthantheywereadecadeago,butonlythecountriescommittedtointroducingunpopularausteritymeasuresquicklycanminimizethelossesfromcapitalflowsvolatility.

CEcountriesurgentlyneedtoenhancetheiroverallcompetitivenessiftheyaretosuccessfullywithstandfurtherglobalshocks.

ThefollowingareimplicationsoftheproposedlaunchoftheEurofor

publicliabilitiesmanagementpolicychoices:

TheemergenceoftheEuromarketsignificantlychangesthestructureofportfoliorisksinsovereigndebtportfolio.

CEcountriesmustpositionthemselvesnowthroughlargebenchmarkissuesintheEuro,eventhoughnon-Euromarketsmayofferlowercosts.

TheEuromaystimulatedemandforissuesinCEcurrenciesasadiversificationtool.

Thedevelopmentofsecondarymarketsmustbesequencedcarefully.

Dealingwithinstitutionalissuesisakeyrequirementforpublicliabilitiesmanagement.Thefollowingactionswillbenecessary:

Theintegrationofdomesticandexternaldebtmanagement

ThefullintegrationofpublicdebtmanagementandfiscalriskintoabroaderTreasuryfunction

Theinsulationofdebtmanagementfrommonetarypolicy,butclosecoordinationbetweentheministryoffinanceandcentralbank

Thenecessaryfinancialandinstitutionalmeasurestoretainthebeststaffandenablethedebtmanagementofficetofulfillitsperformancecriteriaandrespondquicklytotheshiftingmarketconditions.

Summariesofeightspeakers'presentationsfollow.ThepresentationsintheirentiretyappearinPart2ofthistext,andprofilesofthespeakersappearintheappendix.

FiscalDeficitsandtheQualityoftheFiscalAdjustment

MarceloSelowsky

SignificantprogresshasbeenmadeinthereductionoffiscaldeficitthroughoutmostofCentralEurope.Theissueiswhethersuchaquantitativeimprovementhasalsobeenaccompaniedbyprogressinthequalityofthefiscaladjustmentandwhatmorecanbedonetoimprovethisqualitativedimension.

Thequalityoffiscaladjustmenthastwodimensions:sustainabilityandefficiency.Fiscaldeficitsmustbereducedthroughwidelyacceptedandinstitutionalizedmeasures,suchasdurabletaxreformsandclearrightsandresponsibilitiesoflocalgovernmentsontherevenueandexpendituresides.Deficitsthatarereducedthroughmeasuresthateveryoneknowsareunsustainablesuchaswagearrearsorunpaidbillstosupplierswillnothavethesamepositiveimpacton

interestrates,creditorattitudes,ortheoverallinvestmentclimate.Anddeficitsthatareclosedthroughraisingalreadyhighbuteasy-to-collecttaxesorcuttingpublicinvestmentexpenditures(toprotectsalaryexpenditures)areinconsistentwithlong-runefficiencyandgrowth.

Theremayevenbeatrade-offbetweenthespeedatwhichdeficitsarereducedandthequalityofthatreduction.Examplesincludethefollowing:

Ifpublicinvestmentissuppressed,publicsectorinfrastructuremaydeterioratesharply.

Iflittleattentionisgiventothebankingsectorreforms,futurecontingentliabilitiesmayemergefromthebankingsector.

Ifpensionreformsaredelayed,liabilitiesmayemergefromunfundedpay-as-you-gopensionsystems.

Someofthemostradicalreformstoassuresustainablereductionsofdeficitsinthelongrun,suchaspensionreformordownsizingbloatedcivilservices,mayincreasethatdeficitintheshortterm.Externalcapitalmarketsmaybecalledupontofinancethesetemporarilyhigherfiscaldeficits.Thesemarketsshouldbeabletovalueslower,butmoresustainableandefficient,pathsoffiscaldeficitreductions.

Althoughimportantreductionsinfiscaldeficitshavetakenplace,thepossibilityoflargefuturefiscalliabilitiesstillremains.Somearecontingentonfutureevents;otherscanbepredictedwithsomecertainty.Butwhatismostimportantisthatfuturefiscalliabilitiescanbereducedwithdecisivepoliciestoday.

MacroeconomicIssuesforSovereignDebtManagementintheEUAccedingCountries

HafezGhanemandHomiKharas

ThreedevelopmentsintheCentralandEasternEuropeanandBalticcountries(CEECs)makethisdiscussionofdebtmanagementpracticesespeciallyrelevanttoday:theincreaseinthesizeofforeigncapitalinflowspartlyinanticipationofEUaccession,whichraisesbroadissuesofforeignexchangeavailabilitytomeetfuturedebtservicingneeds,thechangeinthecompositionofinflowstowardmoreprivateandmoreshort-termflows,withacorrespondingneedtomanagethepotentiallyhighervolatilityofsuchflows,andtheimportanceofmarketcredibilitybasedinpartonanassessmentofincentivesfacingpolicymakersindeterminingthesustainabilityandimpactof

macroeconomicpolicies.EachofthesetrendshasimportantconsequencesforhowpublicdebtismanagedintheCEECcountries.

TheSizeofandCompositionofCapitalInflowstotheCEECs.

TheCEECshavegreatlyliberalizedtheirfinancialsectorsandopenedtheircapitalaccounts.EUaccessionwillmeangreaterandfreercapitalflows.FutureaccessiontotheEUmayleadtoanincreaseintheexpectedrateofreturnoninvestmentintheCEECs,becauseoftheopportunitiesofferedbythesinglemarketandthefreemovementofgoods,labor,andcapital.

TheincreasedinflowsweobserveintheCEECsarecomingfromtheprivatesector.Highercross-bordercapitalflowstotheprivatesectorin

theCEECsmeanthatdebtmanagerscannolongermakesomeassumptionsaboutgrowthandthendevisepublicborrowingstrategies.Growthitselfwilldependupontheperceptionofthestrategy.

ThesizeofcapitalinflowstotheCEECsshouldpushdebtmanagersinthosecountriestoaskquestionsaboutsustainability.AretheCEECsbuildingdebtataratefastenoughtocompromisetheirabilitytoserviceit?Istheirstockofforeigndebtbecomingtoohigh?

TheincreasedinflowsweobserveintheCEECsarecomingfromtheprivatesector.DebtmanagersintheCEECsneedtolookcarefullyatwhatishappeningtotherealexchangerate,becausethiswilldeterminewhetherenoughforeignexchangeresourcesarebeinggeneratedtoservicethepublicandprivateforeigndebtoverthemediumterm.Rapidlyappreciatingrealexchangeratesthatsupporthigherconsumptionandlowersavingareusuallyasignthatproblemsmaybeontheway.

Debtmanagersneedtolookcarefullyintotheprivatesectorusesforforeignborrowing.Borrowingforconsumptioncanbeanindicationofanunsustainableboom,whileborrowingforinvestmentismoresustainable.

ItisnotenoughtolooksolelyataggregatedebttoGDPratios.ThejobofCEECsdebtmanagersisbecomingmorecomplicatedbecausetheextentandnatureofpublicsectorinvolvementintheeconomyarechanging.Itisnowtakingonmoreofaregulatoryrolewherecontingenciesandguarantees(forexample,inthefinancialsectorandinpublicpensionschemes)areincreasinglyimportant.Governmentsmoreandmorefrequentlyhavetodealwiththecontingentliabilitiescomingoutofthefinancialsector.

Highercross-bordercapitalflowstotheprivatesectorintheCEECs

meansthatdebtmanagerscannolongerjustmakesomeassumptionsaboutgrowthandthendevisepublicborrowingstrategies.

Theamplitudeofeconomiccycles,oratleastofsuchkeyeconomicpricesasinterestandexchangerates,maybequitehigh,andthepublicdebtmayjumpsuddenly,independentlyofthebudgetdeficit,orhaveanunsustainablefuturetrajectory.

Aconservativedebtmanagementstrategytakesthesefactorsintoaccount.

TheInteractionbetweenPublicDebtManagementandMacroeconomicPolicy

Publicdebtmanagementchoices,thoughseeminglyarationalwayofreducingborrowingcosts,canendupbeingmuchmorecostlyforthecountrybecauseoftheinteractionwithotherelementsofmacroeconomicpolicyandbecausetheprobabilitythatadevaluationisnotfactoredintoborrowingcosts.Itisimportanttoshiftfromasimplebudget

costapproachindebtmanagementtoamorecomprehensivetotalcostapproach;publicdebtmanagementchoicesshouldbethoughtofasawaytomaintainmacroeconomicflexibility;andpublicdebtmanagersshouldtakeintoaccountprevailingmacroeconomicconditions.

CEECs'debtmanagersneedtocarefullymonitorexchangeratedevelopmentsandtheirimplicationsforborrowingstrategies.AkeyquestionfacingthemthesedaysishowtoadjusttheirportfoliosinresponsetotheintroductionoftheEuro.Theyalsoneedtothinkofpublicdebtmanagementchoicesasawaytomaintainmacroeconomicflexibilityandcredibility.

Today'sCEECs'publicdebtmanagementofficialswhoaregettingreadyforEUaccessionneedtohaveagoodunderstandingofthemacroeconomynotjustintermsofhowitfunctionsinnormaltimesandintermsofmedium-termtrends,butofhowmacroeconomicpolicycouldbeusedintheeventofashockandofwherestructuralweaknessmightforceadditionalpublicinterventionthatmustbefactoredintotherisksideofthedebtmanagementpolicyequation.

GovernmentContingentLiabilities:AHiddenRisktoFiscalStabilityAConsiderationforEUAccession

HanaPolackova

Mostrecently,theAsiancrisishasindicatedthatmajormoralhazardsinthemarketsandgreathiddenfiscalrisksareassociatedwithgovernmentcontingentliabilities.ContingentliabilitieshavecausedsignificantfiscalpressuresinEU-applicantcountriesalso.

Governmentsarebeingexposedtoincreasingfiscalrisksanduncertainties.Thistrendhasfourmaincauses:theincreasingvolumesandvolatilityofprivatecapitalflows;transformationofthestatefromfinancingofservicestoguaranteeingparticularoutcomes;relatedto

this,moralhazardsinthemarkets;andfiscalopportunismofpolicymakers.Transitionandemerging-marketeconomiesfaceparticularlylargefiscalrisks.Theirdependenceonforeignfinancing,opaqueownershipstructures,lowinformationdisclosure,andweakregulatoryandenforcementsystemselevatesfailuresinthefinancialandcorporatesectors.Suchfailures,inturn,oftengeneratepoliticalpressuresongovernmentstointervenethroughvariousbail-outs.

Thus,astudyofcountryfiscalpositionisfarfromcompleteifitskipsoverobligationstakenbythegovernmentoutsideitsbudgetarysystem.Allsourcesoffiscalrisksmustbeaddressedifgovernmentsaretoavoidsuddenfiscalinstabilityandrealizetheirlong-termpolicyobjectives.Fiscalrisksareoffourtypes:directandcontingent,eachofwhichiseitherexplicitorimplicit.

PossibleFinancingPressuresontheCentralGovernment:ATypology

Directliabilitiesareobligationsthatwillariseinanyevent.Theyarepredictableaccordingtospecificunderlyingeconomicandpolicyfactors.Contingentliabilitiesareobligationsthataretriggeredbyaparticulardiscreteevent,whichmayormaynotoccur.Theprobabilityofcontingencytooccurandthemagnitudeoftherequiredpublicoutlayareexogenous(e.g.,theoccurrenceofanaturaldisaster)orendogenous(e.g.,implicationsofmarketinstitutionsandofthedesignofgovernmentprogramsonmoralhazardinthemarkets)togovernmentpolicies.

Explicitliabilitiesarespecificgovernmentobligationsdefinedbylaworcontract.Thegovernmentislegallymandatedtosettlesuchanobligationwhenitbecomesdue.Implicitliabilitiesrepresentamoralobligationoranexpectedburdenofthegovernmentnotinthelegalsense,butbasedonpublicexpectationsandpoliticalpressures.

Accordingtothesecharacteristics,theFiscalRiskMatrixtablebelowprovidesatypologyoffiscalrisks.Foreachcategoryoffiscalrisks,table1onpage38illustratesitssourcesforcentralgovernment.

DirectExplicit ContingentExplicitDirectImplicit ContingentImplicit

MeasuresToReduceFiscalRisks

Fiscalanalysismustfactorinthecostofimplicitsubsidiesprovidedbycontingentsupportprograms.Forinstance,arrearsandotherobligationsofstate-guaranteedandownedinstitutionsmayclaimpublicresourcesinthefuture.Moreover,thegovernmentmayhavetakenadvantageofsomeinstitutionstofinanceandimplementitspoliciesoutsidethebudgetarysystem.Thus,astringofyearswithabalancedbudgetandlowpublicdebtsuggestsneitherthatthe

governmenthasbeenfiscallyprudentnorfuturefiscalstability.

Toidentifythefuturepotentialfiscalpressures,contingentfiscalrisksshouldbeanalyzedintheorderoftheirsignificance,basedonthestockofexistinggovernmentprogramsandpromises.Theanalysisfocusesonthefactorsofrisksandwaysofcontrollingthegovernment'sriskexposure,andallowstocostoutalternativegovernmentprograms.

Anadequateinstitutionalsystemrequiresthatthegovernmenttreatanynoncashprograminvolvingacontingentfiscalrisklikeanotherbudgetaryordebtitem.Mostimportantly,thesystemhasto

makethepotentialfiscalcostofoff-budgetprogramsvisibleexante.Accrual-basedbudgetingandaccountingsystemshelpfiscaldisciplinebutareneithersufficientnornecessaryintheirentirety.Rulesonstateguaranteesandinsuranceprograms,andonthebehaviorofstate-guaranteedandpublicagenciesandsubnationalgovernments,arecritical.

MacroeconomicandInstitutionalInteractions

MarioI.Blejer

Thispresentationdealtwithtwodistinctiveaspectsofpublicdebtmanagementissues:areviewoftheconnections,atthemacroeconomiclevel,betweenmonetarypolicyandpublicdebtmanagement;andtheissueofproperinstitutionalarrangementsformacroeconomicallyefficientdebtmanagementinparticular,thepolicylinkagesandtheneedforoperationalcoordinationbetweencentralbanksandtheTreasury,or,inrelevantcases,thefinanceministry.

Theimplementationofmonetarypoliciesandthemanagementofthepublicdebtareintrinsicallyconnectedaspectsofmacroeconomicpolicy.Themainareasofconcernforthemonetaryauthorityisthepropermonetarymanagementoftheeconomy,andthedebt-managementauthorityisconcernedwiththeprovisionofproperandefficientfinancingofthefiscaldeficit.

Aspecificmonetarypolicystancecouldaltersignificantlythecapacityofthegovernmenttofinancethebudgeddeficitbyaffectingthecostofdebtservicingandconditioningthevolumeofavailablefinancingsources.Ontheotherhand,thesizeofthefiscalgapthatrequiresdebtfinancingandtheplanneddebtstrategytobefollowedconstituteaconstraintintheabilityofthemonetaryauthoritytoachieveitsindependentmonetarygoals.

InstitutionalArrangementsforMacroeconomicallyEfficientDebtManagement

Itisnecessarytoclarifythegenuinefunctionsofcentralbanks,financeministries,andtreasuriesinmarketeconomies.Thecentralbankisgenerallymoreinterestedinfosteringmarketliquiditybecausethisenhancesitsabilitytoaffectmonetaryconditionsmoreswiftly.TheTreasury,ontheotherhand,generallywishestominimizethecostofborrowing.Thecentralbankshouldplayanadvisoryroleinthedesignofpublicdebtmanagementstrategy.

NewZealand'sTransitiontoResponsibleFiscalManagement

GraemeWheeler

Bythelate1970s,NewZealandhadoneofthepoorestperformingeconomiesinthewesternworld.Thekeytoreversingthissituationhasbeentoreexaminetheroleofgovernmentineveryaspect,tolengthenthefocusofpolicymanagement,andtouseinstitutionalchangetolockthatin.Redefiningthegovernment'sroleintheeconomywasessentialandwasaccomplishedinfivemajorareas:

Macroeconomicstabilization

Taxpolicy

Redefiningitsownershipofassets

Publicsectormanagement

Expenditures

Sincethemid-1980s,andbecauseofthisprogram,thenumberofpeopleemployedinthepublicsectorhasdeclined,thefiscalpositionhasbeencompletelytransformed,andnetpublicdebthasfallendramatically.

Severalfactorshavehelpedtolockinresponsiblefiscalmanagement.Theredefinitionoftheroleofgovernmentandtheideathatfiscalpolicyisheavilyconstrainedbymonetarypolicyhavebeenaccepted.Thisisparticularlytruewhenthegovernmenthasanopencapitalaccountandafloatingexchangerate.Finally,theFiscalResponsibilityAct,whichprovidesthelegislativeframeworkfortheconductoffiscalpolicyinNewZealand,wasadopted.

BenefitsofGreaterFiscalTransparency

Thesedisclosurerequirementsarefar-reaching.Theyforcethe

governmenttobetransparentaboutitsfiscalintentionsandtheshort-andlong-termimpactofitsspendingandtaxationdecisions.Thisemphasisontransparencyanddisclosureoffiscalrisksandcontingentliabilitieshasproducedsomemajorbenefits.Ithasforcedgovernmentstogivemoreweighttothelong-termimpactofspendingandtaxdecisions,andithasledtomoresustainablefiscalpolicy.Ithassignificantlyenhancedthecredibilityofthegovernment'seconomicstrategy.This,inturn,hashelpedencouragestrongprivatecapitalinflowsintoNewZealand.

ManagementStrategyoftheBelgianPublicDebtwithRegardtotheEuropeanMonetaryUnion:TheChallengesoftheTransition.

LouisdeMontpellier

TheaccessiontotheMonetaryUnionconfrontsthemanagersofpublicdebtacrossEuropewithamajorchallenge:anintegratedfinancialmarketundertheEuropeanMonetaryUnion(EMU)meansthateachissuer,andespeciallyasovereignissuer,willlosethenaturalprotectionofitsdomesticcurrency,asinvestors,whetherdomesticorforeign,willbeabletodiversifyintoamuchbroadercredituniversedenominatedinthesamecurrency.Furthermore,thisbroadinvestordiversificationcouldoccurratherquickly,andindeedthishasalreadybegun.

Anysovereignissuershouldrefrainfromprotectionistbehaviorregardinginternationalinvestors;onthecontrary,thesovereignissuerhasavestedinteresttobeextremelyproactivetowardsthem.

TwofundamentalorientationshavebeentakenbytheTreasuryofBelgiuminrespecttothepreparationfortheEMU:

ThedecisiontoissuethenewdebtandtoconverttheexistingdebtinEurofromJanuary1,1999

Theaccuratedefinitionofthefinancialstrategy,especiallyintermsofriskmanagement,tobepursuedbypublicdebtmanagers.

TheTreasurymustrespondtoatwinchallengeasitprogressestowardtheEMU.

TheBelgiangovernmentdebtmarketmustremainattractivetoitsdomesticinvestorsandintermediaries,butitalsomustattractnew,international,investorsandintermediaries,particularly,butnotexclusively,fromtherestofEurope.Inshort,theTreasurymust

Europeanizeitspublicdebtmarket,andinternationalizeitsinvestorbase.

Thechallengemustbemetatthesametimeinfourdifferent,butcomplementaryareas.TheTreasurymustbeabletooffertoinvestors:astrongcredit,intheframeworkofanefficient,transparentandliquidmarket;itmustalsobroadentheinvestorbaseofBelgium'sdebt,whilecontinuouslyensuringahighlyprofessionaldebtmanagement.

TheMeasurementofDeficitandDebtUndertheMaastrichtTreatySomeStatisticalConsiderations

DieterGlatzel

ThepapersetsoutthelegalframeworkandthedecisionprocessfortheclassificationoffinancialandnonfinancialtransactionsundertheMaastrichtrulesoftheexcessivedeficitprocedure.

TheLegalandAccountingFramework

ThereisadistributionofresponsibilitiesbetweentheCommission'sdirectorategeneralofeconomicandfinancialaffairs(DGII)andEurostat:DGIIisresponsiblefortheeconomicassessmentoftheexcessivedeficitdataand,thus,hastotakeintoaccountaspectsrelatedtotheeconomicsustainabilityofcertainbudgetarydecisionsofthememberstates'governments;Eurostat,ontheotherhand,isauthorizedtoevaluatethecorrectmethodologicalapplicationoftheEuropeanSystemofNationalAccounts(ESA),2ndedition,fortheexcessivedeficitprocedure.

ESA1978,whichisthebasisfortheimplementationoftheMaastrichtcriteria,wasrecentlyrevisedbyEurostat,andthenewversion(ESA95)willenterintoforceintheyear2000.

Thenewsystemwilltendtoproducesmootherresultsbecausethetimelagbetweenaccruedtaxesandsocialcontributionscomparedtocashpaymentstendstoincreaseinsuchsituations.AnothermatteronwhichthenewESAwillbringmoreclarityisthedelimitationofthesectorgeneralgovernmentinthesensethatcertainunits(enterprises)thatarenow,bydefinition,insidethesectorgeneralgovernmentwillbeoutsideifthemajorityoftheirrevenuesarederivedfromthesaleofmarketproduction.

Eurostathasuncoveredseveralcasesofopportunisticbehavior:

Decisionsaffectingthecalculationofdeficit(theFranceTélécomcase)

Treatmentofreceiptsfromindirectprivatization(Belgium)

Legaldecisionwitharetroactiveeffect(Irishcase)

Treatmentoftransactionsinfinancialleasing(caseraisedbyBelgianauthorities)

Treatmentofinterestinthecaseofzerocouponbonds

Financingandexploitingofpublicinfrastructurebytheenterprisesector

Treatmentofexportinsuranceguaranteedbythestate.

Eurostatdealswithall10CEEcandidatecountries,andnodistinctionismadeforthosethatmaystarttheirnegotiationsearlierthanothers.Theproblemsthathavebeenidentifiedsofarprimarilyconcernthedelimitationofthegeneralgovernmentandtheissuesconnectedwiththeprivatizationprocessthatgoesoninthesecountries.

AstartingpointfortheproductionofcomparablestatisticsofdeficitanddebtarethegovernmentfinancestatisticscompiledbytheministriesoffinanceinthesecountriesfortheInternationalMonetaryFund.Inthefuture,becausetherevisedGovernmentFinanceStatisticswillbeconsistentwiththeSystemofNationalAccountsandtheESA95,theneedforclosecooperationbetweentheministriesoffinanceandthestatisticalinstituteswilltendtoimprovethedeficitanddebtstatisticsinthesecountries,asdefinedintheMaastrichTreaty.

AccountingandFinancialPracticesintheLightoftheContextoftheMaastrichtTreaty

FrancescoForte

PrudentialAccountingandtheMaastrichtRules

Prudentialaccountingimplies:greaterattentiontotransparency;comprehensivenessasfarasthepublicentitiesareconsidered;accrualaccounting(thatis,accountingbyobligations);asymmetricalaccountinginthelifecycleoftheobligations,oneshallchoosethelaststageforrevenuestobesurethattheyarereallycollectible,andthefirststageofobligationsforexpenditures,totakeintoaccountthosethatinthefuturethegovernmentshallbeunabletoescape;closelinkagebetweentheflowsofthebudgetandthechangesinthestocksofthebalancesheet;andacarefulconsiderationofthegovernmentriskportfolio.

ImplementationoftheMaastrichtfiscalcriteriahasinducedsomeofthefollowingopportunisticbudgetaryandaccountingbehaviorsbygovernments.Possibleinitialdeficitparametersincludethefollowing:

Overlyrestrictivedefinitionofthegovernment,sothatpartofthetruegovernmentobligationsareoff-budget

Restrictivedefinitionsandunderassessmentofobligations,debts,andliabilitiesontheexpenditureside,sothattheyarenotrecordedeveniftheyalreadyexistorhaveagreatchanceofcomingintoexistence

Shiftingtopastbudgetdebts,whicharecomingintoexistencenowbuthavetodowithpreviousobligations

Possibleinitialdebtparametersincludethefollowing:

Overlyrestrictivedefinitionofgovernment,sothatdebtsofgovernmentalinstitutionsarenotconsolidatedingovernmentdebt

Formalisticdefinitionofpublicdebt,sothatsomegovernmentdebtsarenotincludedinit

Exclusionofcontingentliabilitiesforguaranteesfromdebt

Issuanceofguaranteesratherthanconcessionalloansorgrants

PublicEconomyDerivativesandPublicDebtManagementandControl

Governmentsmaybecomedemandersandsuppliersofderivativestoimprovetheirpublicdebtmanagementbyreducingitsrisksandcontainingitsamount.

Governmentsmayalsoactassuppliersofderivatives,asasubstituteforpublicdebt,andageneralguarantorofthefinancialsystemofthecountry.

Accountingforderivativesinapubliceconomyispossible,evenifitisdoneinwaysdifferentfromconventionalones,anditisnecessarybecausethepubliceconomyneedsderivatives.

Governmentsbuyingandissuingderivativestohedgeagainstrisksintheirdebtpolicyshouldnotbeexpectedtomakegainsonthem.

ContingentLiabilitiesandDebtDerivativesofCentralGovernments

Accountingforexplicitguaranteesandgovernmentcontingentliabilitiesisneeded,inthecontextoftheMaastrichtTreaty,inordertohaveacomprehensivepictureoftheconsideredgovernment'spossiblefuturedebtburdentobeaddedtoitsstandingliabilitiesforpublicdebtsandbudgetarydebts.

Prudentrecordingoftheseliabilitiesshouldbeameanstoascertainwhatthehiddencostsofchosenpoliciesare;andasameanstofocusonmeasurestobeundertakentopreventgovernments'undesiredcoverageforliabilitiesofotherpublicandprivateconcerns.

Transparentaccountingisneededtoassesstheeffectivecostsofthedifferentwaysofsupplyingpublicgoods,tocomparethemwiththeirbenefitsandwithotheralternatives.Governmentinstitutions'guaranteesonloansofotherinstitutionsshouldbemadetransparent,byproper

recordinginannexestotheannualbudgets.Otherwise,theycontinuetoconstitutehiddentransfers,withunknowncostsandunknownbeneficiaries.Thesurestwaytoavoidresponsibilitiesforexcessiveliabilitiesofpublicenterprisesistoprivatizetheseenterprises.Whatisalsoneededarerestrictiveregulationsthathindersubnationalgovernmentsfrommakingdebtsforcurrentexpendituresandlimittheirdebtsforinvestments,requiringfurtherthatthesedebtsshouldbeservicedthroughtheprovisionofearmarkedrevenues.

Asfornonprofitinstitutions,cooperatives,andconcernsofdubiouslegalnatureinwhichthegovernmenthasasubstantialinvolvement,itisnecessarytodecidewhethertheyarereallyapartofthegovernmentornot.Iftheyarepartofthegovernment,theyshouldberecognizedasoff-budgetgovernmentunits.Andtheirnetdebtsshouldbeconsolidatedinthegovernmentdebt.

PART2PRESENTATIONOFTHEEIGHTMAJORPAPERSFROMTHEWORKSHOP

FiscalDeficitsandtheQualityoftheFiscalAdjustmentMarceloSelowsky

SignificantprogresshasbeenmadeinthereductionoffiscaldeficitthroughoutmostofCentralEurope(seetable1).TodaymanyofthesecountrieswouldmeettheMaastrichtcriteriaforfiscaldeficit.FiscaldeficitsinthefivecountriesthathavestartedformalEUaccessionnegotiations(theCzechRepublic,Estonia,Hungary,Poland,andSlovenia)arebelowthoseofmanycurrentmembers(particularlyFrance,Germany,Greece,Portugal,andSpain).OnlyinRomaniaandBulgariahavefiscaldeficitsincreasedinthe199697period.Butthosearebelievedtobetemporarilyhighdeficits,fullyfinancedbyexceptionalexternalfinancingaspartofnecessarymacroeconomicworkoutscenariosaccompaniedbyimportantstructuralreforms.

Table1.FiscalDeficit1993-1996(percentageofGDP)Country 1993 1994 1995 1996Bulgaria -10.9 -6.4 -5.7 -11.0Croatia -0.8 1.5 -0.9 -0.5CzechRepublic 1.4 0.5 -0.8 -0.6Estonia -0.7 1.3 -1.2 -1.5Hungary -7.8 -7.4 -3.5 -0.8Latvia 0.6 -4.0 -3.3 -1.3Lithuania -3.4 -5.4 -4.3 -4.6Poland -2.3 -2.2 -1.9 -2.8Romania -0.4 -1.9 -2.6 -5.7SlovakRepublic -7.1 -1.3 0.2 -1.3Slovenia 0.3 -0.2 0.0Average -2.8 -2.3 -2.2 -2.9Source:WorldBankdatabase

Table2.PublicSectorCapitalExpenditure1993-1996(percentageofGDP)Country 1993 1994 1995 1996Bulgaria 2.5 2.5 1.7 1.4Croatia 1.6 3.6 4.2 6.0CzechR. 3.5 4.9 4.9 4.3Estonia 2.8 4.1 4.6 4.9Latvia 1.2 1.3 1.4Lithuania 2.4 2.1 2.5 2.0Poland 3.3 3.1 3.0 3.4Romania 3.4 3.2 4.3SlovakR. 3.9 3.6 3.9 5.6Slovenia 2.2 2.8 2.6 2.2Average 2.8 3.1 3.3 3.5Source:WorldBankdatabaseandIFS

Comparingpasttrendsinfiscaldeficitsislikecomparingtipsofanicebergatdifferentmomentsintime.InMarch1998theCzechgovernmentrevealedthatthedebtcreatedbytheCentralGovernmentoutsidethebudgetarysysteminthepasteightyearsamountedtoabout13percentofGDP.Thisisdoubletheearlierestimateofgovernmentdebtandcontrarytotheoriginallyreportedfigures,whichshowedeitherafiscalbalanceorasurplusduringmanyoftheseyears.Theremaybealotofactivityandhiddenlifeunderthewaterthatarenotexplicitlyobserved.Andthesizeandtrendsinthatactivitymaydominateandbethemajorforceofwhatweobserveinthefuture.Itisnotwisetoprojectfuturetipsoftheicebergbasedsolelyonpasttips.Weneedtounderstandandinfluencewhatisgoingonbeneaththesurface.ThisiswhatIcallinfluencingthequalityofthefiscaladjustment.

Thisqualityhastwodimensions:sustainabilityandefficiency.Fiscaldeficitshavetobereducedthroughmeasuresthatarewidelyaccepted

andinstitutionalized,suchasdurabletaxreformsandclearrightsandresponsibilitiesoflocalgovernmentsontherevenueandexpendituresides.Deficitsthatarereducedthroughmeasuresthateveryoneknowsareunsustainable,suchaswagearrearsorunpaidbillstosuppliers,willnothavethesameimpactoninterestrates,creditorattitudes,ortheoverallinvestmentclimate.Anddeficitsclosedthroughquicklyraisinghighandeasy-to-collecttaxesorcuttingpublic

investmentexpenditures(toprotectsalaryexpenditures)areinconsistentwithlong-runefficiencyandgrowth.

Complicatingthepictureevenmoreisthepossibilityofatrade-offbetweenthespeedofdeficitreductionandthequalityofthatreduction.Sustainableandefficientreductionsmaycallforinstitutionalchangesorchangesinlegislation(suchasanewtaxreformlaw),andthesewilltaketime.Otherlesssustainableandinefficientmeasuresdescribedearliercanbeexpedienttheycanbeimplementedbydefault.

Finally,someofthemostradicalreformsthatwouldassuresustainablereductionsofdeficitsinthelongrun,suchaspensionreformordownsizingbloatedcivilservices,mayevenincreasethedeficitintheshortrun.Thisincreasemayresultfromtransitionalcostsofmovingfromapay-as-you-gosystemtoafullyfundedone,orfromseverancepaymentsthathavetobepaidtodownsizecivilserviceorganizations.

Weshouldexplainthesetrade-offstointernationalinvestorsandholdersofgovernmentdebt.Thesemarketsshouldbeabletovalueslower,butmoresustainable,andefficientpathsoffiscaldeficitreductionsandincorporatethemintheirdecisionstofundsuchdeficits.Inthefollowingdiscussion,wewillexaminethreespecificareasthatgiverisetothesetrade-offs.

ThePublicSectorInfrastructureMaybeDeterioratingSharply.

Inmanycasesthefiscaldeficitreductionhasbeenachievedthroughsharpcontractionsinpublicinvestmentandmaintenanceexpendituresforpublicinfrastructure.Astable2shows,insomeyears,suchexpenditureshavebeenreducedto1.5percentofGDPinBulgariaandLatviaandtoabout2percentofGDPinLithuaniaandSlovenia.Theseexpenditurefiguressurelydonotcovertherateofdepreciation

ofinfrastructureevenifsomepartofthatstockmayhavebeenunsuitableforaliberalizedmarketeconomy.Somekeyinfrastructuredeficienciesmayemerge.Forexample,maintenanceandinvestmentinruralroadsisatpresentinsufficienttoaccommodatethegrowingEuropeantradeandthe11.5-tonaxle-loadtruckscommoninWesternEurope.

Off-budgetcrosssubsidizationremainshighinsomepublicutilityservices.Publicutilitiesarebeingdecapitalizedwhendirectbudgetarytransfersareeliminatedandcostrecoveryremainslowinordertosubsidizeconsumersasituationparticularlycommonforfuelsanddistrictheating(forexample,only70percentofheatingcostsisrecoveredinLithuania).

Sharplycuttingpublicinvestmentandeliminatingtransfertopublicutilitieswhilemaintaininglowconsumerpriceswilldecapitalizeinfrastructure.Openingthefinancingandbuildingofinfrastructuretothe

privatesectorandadvancingmoreaggressivelyincostrecovery(whilefocusingbudgetarytransfersonthepoorerconsumers)willmakedeficitreductionmeasuresmorecompatiblewiththemaintenanceofinfrastructurecapitalstock.

LiabilitiesMayEmergefromtheBankingSector

ThisissueisnowmuchmoreimportantafterthelessonslearnedfromtheEastAsiacrisis.HowisthatexperiencerelevantforCentralandEasternEurope?TherecentlargeandpersistentcurrentaccountdeficitsofthecrisiscountriesofEastAsiahavenotbeentheproductoffiscaldeficitswhichoverallwereonbalancebutofthedomesticprivatesectorborrowingabroaddirectlyorthroughthedomesticbankingsystem.Adangerousmismatchofmaturitiesandforeignexchangeopenpositionofbanksresulted.SignificantinsiderlendingandpoliticizationofcreditallocationcharacterizedtheoverallprocessInThailandandKorea,theshareofbadassetsinthebankingsystemstripledbetween1995and1997,andshort-termprivatedebtreached25percentofGDP.Theinsolvencyofcorporationsandbankswillhavemassivefiscalimplications,dwarfingthefiscalprogressmadeinthepast.

Lately,manycountriesintheBalticsandCentralEuropehaveexperiencedlargecurrentaccountsinspiteofsmallfiscaldeficits.ThishasbeenparticularlytrueforEstonia,Lithuania,Croatia,andtheSlovakRepublic(table3).Althoughdataarescanty,thereisevidencethatanimportantpartofthecurrentaccountdeficitistheproductofincreasedexternalborrowingbydomesticbankstofinanceinvestments,purchaseofdurables(particularlycars),andlendingforhousingandrealestate(table3).ThereareobviousdifferencesbetweenthissituationandtheoneinEastAsia:theinitialstockofprivatedebtisverysmallandwedonotobservethebubbleboomscharacterizingtheEastAsianeconomies.

Thecruciallessonistoadvancequicklyinenhancingtheprudentialregulationsandenforcementofbankingregulations.TheBaselCorePrinciplesmustbeimplemented,perhapsevensurpassed.Publicdisclosureofbankinginformationandfullindependenceofsupervisoryagenciesiscrucial.Centralbankshavetoactforcefullyinconfrontingthetypicalpoliticalresistancetodealingearlyonwiththeissueofproblembanks.Delayedactiononproblembankshascompoundedtheproblemovertime.ThesearethebitterlessonsoftheBulgarianandRomanianexperiences,wherebadloansmountedevenwithoutexternalborrowingbythebankingsystem.

Insummary,thebankingsectormaybethemajorsourceoffuturefiscalliabilitiesifactionsarenottakentoday.Bailoutsandrecapitaliza-

Table3.CentralEurope:ExternalIndicators1993-96(percentageofGDP)

CurrentAccountBalance PrivateCapitalInflows1 ExternalBorrowingbyBanks1993 1994 1995 1996 1997 1993 1994 1995 1996 1997 1993 1994

Croatia 0.9 0.7 -9.5 -7.6 -11.0 1.1 2.1 2.7 1.8 1.6 -2.6CzechRepublic 1.7 -0.1 -2.9 -8.7 -8.4 8.2 7.3 14.5 6.9 .. 0.1Estonia 1.3 -7.1 -4.6 -9.8 -10.0 9.2 8.7 5.4 7.6 5.8 -2.2Hungary -9.0 -9.4 -5.6 -3.7 -3.3 16.9 11.5 20.7 5.9 3.3 1.6Latvia 7.0 -2.4 -3.6 -7.0 -4.5 2.5 7.1 5.2 3.4 4.4 -2.0Lithuania -3.2 -2.2 -10.3 -9.3 -7.6 1.1 1.4 1.8 3.9 3.3 1.6Poland -2.7 -1.0 4.6 -1.0 -4.1 2.0 1.2 3.6 3.6 3.4 0.9SlovakRepublic -5.2 5.1 2.2 -11.5 -8.5 -0.3 7.2 5.3 10.3 4.5 -3.9Slovenia 1.5 3.8 -0.2 0.3 -0.1 2.1 4.3 3.7 7.6 1.7 -4.1Average -0.9 -1.4 -3.3 -6.5 -6.4 4.8 5.6 7.0 5.7 3.5 -1.21Includesforeigndirectinvestment,portfolioandnongovernmentexternalborrowingSource:WorldBankdatabase

tioncanbemassiverelativetofiscalfinances.Eveniftheprobabilitiesofthisoccurringwerelow,theexpectedvalueoffiscalliabilitiesissignificant.

LiabilitiesEmergingfromUnfundedPay-as-you-goPensionSystems

InmostofCentralandEasternEurope,long-termprojectionsshowthatpay-as-you-gopensionsystemsareunsustainable,giventheagingofthepopulation.Theratioof(presentvalueof)unfundedpensionobligationtoofficialpublicdebtisgreaterthaninWesternEurope.Long-runfiscalbalancesdependonthestrengthoftoday'spensionreforms.Figures1and2showprojectionsofthepensionsystemdeficitforHungaryandSloveniaunderano-reformscenarioandareformscenariothatgraduallyintroducesamultipillarsystem.Thissystemdivertsaportionofcontributionstowardafullyfundedschemewithprivatesectorparticipationand,itishoped,withabetterrateofreturn.Withreform,bothfiguresshowatemporaryhigherdeficitofthesystemasthediversionofcontributionsgenerateahigherdeficitinthepay-as-you-gosystem.However,astherelativesizeofthefullyfundedschemeincreasesovertime,theoveralldeficitisreducedsharplyoverthelongrun.

Fortunately,mostcountriesarenowimplementingorconsideringreformsoftheirpay-as-you-gosystemsandintroducingfullyfundedpillars.Hungaryisaheadintheprocess,butPoland,Latvia,Slovenia,andCroatiaarealsonowindifferentstagesofreformingtheirsystems.Estonia,Lithuania,andtheCzechRepublicarealsoconsideringmovinginthisarea.

Thesereformswillentailsomeextrafiscalcostsduringthetransitionfromthepay-as-you-gotothefullyfundedsystem.Forthatreason,long-runsustainabilityentailshigherfiscalcostsnow.ObviouslyanintegralapplicationoftheMaastrichtcriteriawillhavetoincorporatesuchlinks,andexternalcapitalmarketsmaybecalledupontofinance

thesetemporarilyhigherfiscaldeficits.

Conclusions

Despiteimportantreductionsinobservedfiscaldeficits,thepossibilityoflargefuturefiscalliabilitiesstillremains.Somearecontingentonfutureevents;otherscanbepredictedwithsomecertainty.Butwhatismostimportantisthatsomefiscalliabilitiescanbereducedwithdecisivepoliciestoday.Afullanalysisoffiscalperformanceshoulddiscusssuchpoliciesexplicitly.

Figure1.PublicPensionDeficitsinHungary;NoReformsvs.Multipillar

Reforms1997-2015Source:WorldBankstaff

Figure2.PublicPensionDeficitsinSlovenia;NoReformsvs.Multipillar

Reforms1997-2015Source:WorldBankstaff

MacroeconomicIssuesforSovereignDebtManagementintheEUAccedingCountriesHafezGhanemandHomiKharas

Macroeconomicdevelopmentsareoccurringveryrapidlyaroundtheworld,andtheroleofdebtmanagementischanging.Debtmanagementpolicynowmustbeincludedalongwithfiscal,monetary,andexchangeratepolicyindiscussionsofaconsistentmacroeconomicpolicymix.ThisisbecomingveryclearintheCentralandEasternEuropeanandBalticcountries(CEECs)thatarecandidatesforEuropeanUnion(EU)accession.

ThreedevelopmentsintheCEECsmakediscussionofdebtmanagementpracticesespeciallyrelevanttoday:theincreaseinthesizeofforeigncapitalinflowspartlyinanticipationofEUaccession,whichraisesbroadissuesofforeignexchangeavailabilitytomeetfuturedebtservicingneeds;thechangeinthecompositionofinflows,thatistheincreaseofprivateandshortertermflows;

1andthecorrespondingneedtomanagethepotentiallyhighervolatilityofsuchflows,andtheimportanceofmarketcredibilitybasedinpartonanassessmentofincentivesfacingpolicymakersindeterminingthesustainabilityandimpactofmacroeconomicpolicies.EachofthesetrendshasimportantconsequencesforhowpublicdebtismanagedintheCEECcountries.

TheSizeofCapitalInflowstotheCEECs

TheCEECshavegreatlyliberalizedtheirfinancialsectorsandopenedtheircapitalaccounts.EUaccessionwillmeangreaterandfreercapitalflows.Asshownintable1,netcapitalinflows(measuredby

thecurrentaccountdeficit)totheCEECshaveincreasedsignificantlybetween1992and1996,withthemediancurrentaccountdeficittoGDPratiorisingfromaround0.0percentin1992tomorethan4percentin1996.Deficitscontinuedtobehighin1997reaching10percentofGDPinEstonia;8.5percentintheSlovakRepublicandtheCzechRepublic;7.6percentinLithuania,andmorethan4percentinLatvia,Poland,andRomania.

Table1:TrendsinCapitalFlowstotheCEECsCurrentAccount

BalancesNetOfficialCapitalFlow

NetPrivateDebtFlows

Long-TermNetCapitalFlows

Short-TermNetCapitalFlows

Country 1992 1996 1992 1996 1992 1996 1992 1996 1992Bulgaria -9.3 0.9 3.3 -0.2 -7.6 0.5 4.3 -3.3 -8.5CzechRepublic

-1.7 -8.7 1.6 0.0 -3.2 7.4 -0.3 6.0 -1.2

Estonia -1.0 -9.8 n/a 1.2 n/a 2.6 n/a 2.0 n/aHungary 0.9 -3.7 0.3 -1.6 -0.7 -4.7 -0.6 -7.5 0.3Latvia 15.2 -7.0 1.2 0.8 0.9 0.3 2.1 0.9 0.0Lithuania 5.4 -9.3 0.5 1.3 0.1 4.0 0.4 4.2 0.2Poland -0.3 -1.0 0.3 -0.6 -0.1 0.1 0.3 -0.5 -0.1Romania -7.5 -3.9 5.1 1.8 -0.4 5.7 5.9 5.7 -1.2SlovakRepublic

0.4 -11.1 1.6 0.4 -1.3 11.7 -0.3 5.6 0.6

Slovenia 7.4 0.3 0.0 -0.2 0.0 3.6 0.0 3.4 0.0Median 0.4or -3.9or 1.2 0.0or -0.4 2.6or 0.3 2.0- 0.0

-0.3 -7.0 0.4 3.6 3.4

HighcapitalinflowscouldbeexplainedbytheprospectsforEUaccession.FutureaccessiontotheEUmayhaveledtoanincreaseintheexpectedrateofreturnoninvestmentintheCEECs,becauseoftheopportunitiesofferedbythesinglemarketandthefreemovementofgoods,labor,andcapital.Indeed,asshownbelowdomesticsavingsratesintheCEECs,exceptforintheBaltics,havebeenstableorincreasing,suggestingthathighcapitalinflowsandcurrentaccountdeficitsmaybeexplainedbyhigherdomesticinvestmentratesinthesecountries.

ThesizeofcapitalinflowstotheCEECsshouldpushdebtmanagersinthosecountriestoaskquestionsaboutsustainability.

2AretheCEECsbuildingdebtatsuchafastratethattheirabilitytoserviceitcouldbecompromised?Istheirstockofforeigndebtbecomingtoohigh?Alookatdebtdataindicatesagreatdealofvariability.Asfarasthesizeoftheirdebtisconcerned,theCEECscouldbedividedintothreegroups.Thefirstgroup,whichincludesBulgaria(92percent),Hungary(73percent),andRomania(73percent),hashighdebt-to-GDPratios.Thesecondgrouphasmoderatedebt-to-GDPratios:theCzechRepublic(37percent),Poland(36percent),Slovenia(33percent),andtheSlovakRepublic(33percent).Finally,therearetheBalticcountrieswhochosethezero-debtoptionatthetimeofthedissolutionoftheformerSovietUnion(FSU)andwhosedebt-to-GDPratiosareapproximately10percent.

Itisnotenoughtolooksolelyataggregatedebt-to-GDPratios.ThejobofdebtmanagersintheCEECsisbecomingmorecomplicatedbecausetheextentandnatureofpublicsectorinvolvementintheeconomyarechanging.Debtmanagersarenowtakingonmoreofaregulatoryrolewherecontingenciesandguarantees(forexample,inthefinancialsectorandinpublicpensionschemes)areincreasingly

important.Governmentsaremoreandmorehavingtodealwiththecontingentliabilitiescomingoutofthefinancialsector.ThiscouldbecomeimportantinsomeCEECs(forexample,intheSlovakRepublicrecapitalizingthebanksinordertocomplywithprudentialrulesmaycosttheequivalentof6percentofGDP).Demographictrendsimplythatpensionswillcontinuetobeanimportantsourceofpublicsectorliabilities.Forexample,inPolandpensionandunemploymentbenefitsamountedto16.2percentofGDPin1996,andtheywillcontinuetobeamajorsourceofbudgetaryinstabilityunlessthesystemisreformed.Theseexpenditurestypicallyarefinancedbyissuingnewdebt.Tounderstandthepotentialforrecordingnewliabilitiesinthegovernment'sbookscallsforahigherdegreeofexpertiseincreditratingsandinfinancialmanagementthaneverbefore.

TheCompositionofCapitalFlows

TheincreasedinflowsweobserveintheCEECsarecomingfromtheprivatesector.TheshareofnetofficialdebtflowstotheCEECsfellfromamedianof1.2percentofGDPin1992toabout0percentin1996.CountriessuchasHungaryandPolandarereducingthestockoftheirofficialdebt,withnetofficialdebtflowsof1.6percentand-0.6percentin1996.Atthesametime,privatedebtandequityflowsincreasedsubstantially.Netprivatedebtflowsrosefromamedianofaround0percentofGDPin1992toroughly3percentin1996,withflowstotheSlovakandCzechRepublicsreaching11.7percentand7.4percent,respectively.Alargeportionofthisdebtisshortterm,andnetshort-termdebtflowstotheCEECsincreasedfromamedianof0percentin1992to1.3percentin1996.Foreigndirectinvestment(FDI)alsorosefromamedianoflessthan1percentofGDPin1992toabout2percentin1996.FDItoHungaryandPolandin1996was4.4percentand3.3percentofGDP.

DebtmanagersintheCEECsneedtolookcarefullyatwhatishappeningtotherealexchangerate,becausethiswilldeterminewhetherenoughforeignexchangeresourcesarebeinggeneratedtoservicethepublicandprivateforeigndebtoverthemediumterm.Rapidlyappreciatingrealexchangeratesthatsupporthigherconsumptionandlowersavingareusuallyasignthatproblemsmaybeontheway.ThedatafortheCEECsdoesnotshowanyparticulartrendfortherealexchangerate.Forexample,between1992and1996therealexchangerateforBulgaria,Estonia,andLithuaniadepreciatedby30percent,60percent,and70percent.Atthesametime,realexchangeratesinHungary,Poland,andRomaniaappreciatedby11percent,26percent,and40percent.Evenifthetrendinallcountrieshadbeenforaclearappreciation,itwouldhavebeendifficulttodrawanystrongconclusions.Itisgenerallybelievedthatthebeginningofthetransitionwascharacterizedbyhighlyundervaluedrealexchange

rates,sothatanappreciationwouldbeanormalmovetowardsequilibrium.

Debtmanagersneedtolookcarefullyintotheusesforwhichtheprivatesectorisusingforeignborrowing.Borrowingforconsumptioncanbeanindicationofanunsustainableboom,whereasborrowingforinvestmentismoresustainable.Also,iftheshort-termcapitalinflowsarereversed,ashasbeenhappeninginmanycountries,itiseasiertomakethenecessaryadjustmentstoreducethecurrentaccountdeficitiftheborrowinghasbeenusedtofinanceinvestmentexpenditures,becausetheseareeasiertocutthanconsumption.

Table2.ChangesinGrossDomesticSaving(percentofGDP)Country 1992 1997Bulgaria 16 15CzechRepublic n/a n/aEstonia 32 17Hungary 16 27Latvia 48 15Lithuania 18 13Poland 17 18Romania 23 23SlovakRepublic 24 28Slovenia n/a n/a

Table2showsthat,exceptfortheBalticcountries,grossdomesticsavingrateshavebeeneitherstableorincreasingintheCEECs.ThesharpdeclineinsavingsinEstoniaandLatviafrom32percentand48percentofGDPin1992to17percentand15percentin1997isasignofconcern,butitcouldbeexplainedasareflectionofsystemicchangeonceshortagesofconsumptiongoodswereeliminatedafterthedisintegrationoftheSovietUnion.ThedeclineinLithuania'ssavingsratefrom18percentto13percentisworthlookingatcarefully,becauseitmayindicatesustainabilityproblems.TheremainingCEECshavestrongsavingrates,withnoobviousindicationthatforeignborrowingisdisplacingdomesticsaving.Thoseareissuesthatdebtmanagersshouldbeanalyzinganddiscussingcontinuously.

Highercross-bordercapitalflowstotheprivatesectorintheCEECsmeansthatdebtmanagerscannolongerjustmakesomeassumptionsaboutgrowthandthendevisepublicborrowingstrategies.Growthitselfwilldependupontheperceptionofthestrategy.Talkaboutconfidence,expectations,andmultipleequilibriawillincreasinglybe

thenormratherthantheexception,andthiswillmakeforecastingdebtindicatorsmuchmorecomplex.

Takentogether,thetrendsdiscussedaboveimplythattheamplitudeofeconomiccycles,oratleastofkeyeconomicprices,suchasinterestandexchangerates,maybequitehigh(asaresultofswingsinprivatesectorconfidence);andthatpublicdebtmayjumpsuddenly,independentlyofthebudgetdeficit(asaresultofcontingentliabilitiessuddenlyfallingdue),oritmayhaveanunsustainablefuturetrajectory

(whenpensionliabilitiesfalldue).Aconservativedebtmanagementstrategytakesthesepotentialchangesintoaccount.Certainly,thelivesofdebtmanagersarenotgettinganyeasier.

TheInteractionbetweenPublicDebtManagementandMacroeconomicPolicy

Recentexperiencesaroundtheworldshowthatpublicdebtmanagementandmacroeconomicmanagementareinteractinginimportantandquitenovelways.WefirstdemonstratethispointusingexamplesfromLatinAmericaandEastAsia.

Consideracountrywherefiscalproblemsareendemic,asituationreflectedinhighdomesticinterestrates.Byborrowinginforeigncurrency,thegovernmentcouldreduceitsmeasureddeficit.Foreignersmightbepreparedtolendbecausetheyseesomepossibleseniorityrelativetodomesticlenders,orbecausetheybelieveBrusselsorWashingtonwillbailthemoutofacrisis.Thisscenariocouldleavepublicfinancesinaveryvulnerablesituationandiftheexchangerateisdepreciatedtocopewitharealproblemintheeconomy,likethecurrentaccountdeficit,itcouldtriggerapublicdebtfinancingproblemandrequireafarlargerandmorecostlyadjustment.ThisisacrudecharacterizationoftheMexicansituationbefore1994.Itillustrates,however,thatpublicdebtmanagementchoices,thoughseeminglyarationalwayofreducingborrowingcosts,endupbeingmuchmorecostlyforthecountrybecauseoftheinteractionbetweenotherelementsofmacroeconomicpolicyandbecausetheprobabilityofadevaluationisnotfactoredintoborrowingcosts.

Nextconsideracasewhereloosemonetarypolicytriggersaprivatesectorboombasedonsoaringassetpricesthatsupportrapidcreditexpansion.Thiscanproduceabubble,accentuatedbyrealexchangerateappreciationandprivateexternalborrowingagain,oftenonshortmaturities.Somehavearguedthatthissituationshouldbeofno

concerntopublicpolicy.But,whenthebubbleburstsandamajorfinancialcrisiserupts,thepublicsectorusuallyintervenes.SomeelementsofthisscenariotookplaceinThailand,where,whatappearedtobeaveryconservativepublicdebtmanagementstrategywasinrealityquiteloosebecauseimplicitcontingentpublicliabilitieswerebeingaccumulatedataveryrapidrate.

Threelessonscanbedrawnfromthisdiscussion:itisimportanttoshiftfromasimplebudgetcostapproachindebtmanagementtoamorecomprehensivetotalcostapproach;publicdebtmanagementchoicesshouldbeconsideredasawaytomaintainmacroeconomicflexibility;andpublicdebtmanagersshouldtakeintoaccountprevailingmacroeconomicconditions.

Shiftingfromabudgetcosttoatotalcostapproachimpliesaccountingdirectlyforcontingentliabilities.Thefinancialsectorhasoftenbeenanimportantsourceofimplicitcontingentliabilities,withgovernmentsinterveningtoprotectdepositorsandsupportingbanksthataretoobigtofail.ThebankingcrisisintheBalticsin1995providesagoodexample.Atthetimeofthecrisis,theEstoniangovernmentdecidedthataharshsolutionwasneededandthatithadnomoneyforbail-outs.Nevertheless,ithadtoissuebondstostrengthenthebalancesheetoftheNorthEstonianBank,thusincreasingpublicdebt.InLatviathebudgetarycostwasmoredirect.Thegovernmentdecidedtocompensatehouseholddepositorsofthefailedbanks.

3

CEECdebtmanagersshouldalsoconsiderdifferenttypesofcontingentliabilities.4Theenterprisesectorisanimportantcandidateforscrutiny.Forexample,inLithuaniapersistentfinancialdeficitsinstate-controlledenergycompaniesisaseriousproblem.Ithasbeenestimatedthatdirectandindirectfiscalsupporttotheenergysector'sproducersandconsumersamountstotheequivalentof2percentto3percentofGDPyearly.Similarly,subnationalfinancesareanimportantsourceofimplicitcontingentliabilities.InmanyCEECsthereisnolegalframeworktoregulatesubnationalborrowingandnomarketmechanismsforitsoperations.Nationalgovernmentscouldenduphavingtobailoutfailedmunicipalities.

Shiftingtoatotalcostapproachalsoimpliesexpresslyfactoringinthelikelihoodofmacroeconomicadjustments,suchaschangesintheexchangerateorshort-termspikesindomesticinterestrates.Adepreciationintheexchangerateincreasesthecostofforeignborrowing.CEECdebtmanagersneedtomonitorcarefullyexchange

ratedevelopmentsandtheirimplicationsforborrowingstrategies.AkeyquestionfacingthemthesedaysishowtoadjusttheirportfoliosinresponsetotheintroductionoftheEuro.Similarly,someCEECcountries(forexample,Bulgaria)haveexperiencedhugefluctuationsindomesticinterestratesascentralbanksdefendtheirinflationandexchangeratetargets.Theimpactofthosefluctuationonthecostandriskofdomesticdebtneedtobecarefullyconsideredwhendevelopingaborrowingstrategy.

CEECdebtmanagersneedtothinkofpublicdebtmanagementchoicesasawaytomaintainmacroeconomicflexibilityandcredibility.Forexample,iftheexchangerateispeggedthroughacurrencyboardarrangement,asinEstonia,highdomesticinterestratesmayberequiredonoccasiontodefendthepegfromspeculativeattack.Havingshort-durationdomesticpublicdebtwouldreducethecredibilityoftheex-

changepegbecausethemarketsmayworrythathighinterestratescouldnotbesustainedovertime.

Publicdebtmanagementmusttakeintoaccountprevailingmacroeconomicconditions.Forexample,incountrieslikeHungary,wheretherearelargeprivatecapitalinflowsthatmorethansufficetocoverthecurrentaccountdeficit,effortstoincreasepublicforeigndebtwithoutanassociatedrealexchangerateadjustment(andahighercurrentaccountdeficit)cansimplyleadtohigherreserveaccumulationandnetdomesticdebtcreationastheflowsaresterilized.Thiscanbeveryinefficient.Obviously,closecoordinationbetweendebtmanagementandmonetaryofficialsisrequired.

Today'spublicdebtmanagementofficialsintheCEECswhoaregettingreadyforECUaccessionneedtounderstandthemacroeconomy,notjustintermsofhowitfunctionsinnormaltimesandintermsofmedium-termtrends.Itisimportanttounderstandhowmacroeconomicpolicycouldbeusedintheeventofashockandwherestructuralweaknessesmightforceadditionalpublicinterventionthatmustbefactoredintotherisksideofthedebtmanagementpolicyequation.

Bibliography

Claessens,S.,OksD.,andR.Polastri.1998.CapitalFlowstoCentralEuropeandFormerSovietUnion.NationalBureauofEconomicResearch(NBER).Processed.

Easterly,William.1998.WhenisFiscalAdjustmentanIllusion?TheWorldBank.Processed.

Faulk,Dagney,andMarceloGiugale.1997.IsThereaLatinAmericanDebtCrisisBuildingUpinEasternEurope?AComparativeAnalysis.CARDWorkingPaper97-WP186.

Fleming,A.,L.Chu,andM.Bakker.1996.TheBalticsBankingCrisesObserved.TheWorldBank.PolicyResearchWorkingPaper1647.

Kharas,Homi.MacroeconomicIssuesforSovereignDebtManagementConsideration,presentedattheForumonSovereignDebtManagement,1997,WorldBank,Washington,D.C.

Polackova,Hana.1998.GovernmentContingentLiabilities:AHiddenRisktoFiscalStability:AConsiderationforEUAccession.TheWorldBank.Processed.

Endnotes.

1SeeClassensetal.(1998)foramoredetaileddescriptionofcapitalflowstotheCEECsandFSU.

2FaulkandGiugale(1997)studywhethertheCEECsriskaLatinAmerican-styledebtcrisis.

3SeeFlemingetal.(1996)foradescriptionoftheBaltics'bankingcrisis.

4Easterly(1998)describescaseswherefiscaladjustmentwasjustanillusion,andhencesimplylookingatthemeasureddeficitwouldbemisleading.

GovernmentContingentLiabilities:AHiddenRisktoFiscalStabilityAConsiderationforEUAccessionHanaPolackova

Governmentsareexposedtoincreasingfiscalrisks.Fiscalriskshavegrownprimarilythroughtheinternationalintegrationoffinancialmarkets,whichhasbroughtgreatervolumesandvolatilityofcross-borderprivatecapitalflows,andthroughprivatizationofstatefunctionsaccompaniedbyimplicitorexplicitstateguarantees.Stateguaranteesandinsuranceschemes,asopposedtosubsidizingandthedirectprovisionandfinancingofpublicservicesbygovernment,arebecomingacommonmethodofgovernmentsupport.Off-budgetprogramsandobligationsbring,however,ahiddenfiscalcost.Consequently,governmentoff-budgetapprovalsgiverisetoimplicitandcontingentliabilities,whichmayresultinexcessivepublicfinancingrequirementsinthemediumandlongterm.

Aprocessoffiscaladjustmentconcentratingondeficitreductionmayomitorevenelevatefiscalrisks.Suchfiscalrisksresultfromstructuralpolicies,likepublicpensionsandhealthcare,andfromnonbudgetedschemesofpromisedorexpectedgovernmentinterventionsincasesofvariousfailures,suchasbankingfailuresanddefaultsoflargeenterprisesandsubnationalgovernments.Policymakerspursuingabalancedbudgetorsomedeficittargetmayfavoroff-budgetformsofgovernmentsupport,whichdonotrequirecashintheshorttermand,forsometimeatleast,allowthecostoftheunderlyingstatesupporttobehidden.

Inamarketenvironmentgovernmentscannotavoidrisks,buttheycancontrolandreducethemtoalargeextent.Riskscanbecontrollediftheyarerecognized,understood,andfullyconsideredinpolicy

debates.Ifpolicychoicesaretoreflectfiscalrisksandpursueabetterqualityoffiscaladjustment,thegovernmentneedstoexhibitadequateincentivesandcapacities.Governmentincentivesforbetterhandlingoffiscalrisksreflectboththeextentofunderstandingoftherisksandtheirpossibleconsequencesbypolicymakersand

coercion.Fiscalrisksarebetterunderstoodinamorecomprehensiveframeworkforfiscalanalysisandmanagement,whichwouldextendbeyondgovernmentbudgetanddebtandincludecontingentandimplicitliabilities.Tobecoercivetowardasoundhandlingoffiscalrisks,internationaldefinitionandmeasurementoffiscaltargets,thequalityofexternalmonitoring,theextentofpunishmentforconcealingrelevantdata,andthecomprehensivenessofsovereignratingpracticesmustextendtheirfocuswellbeyondgovernmentbudgetanddebt.

Thispaperwillfirstclassifyandanalyzepotentialobligationsandfiscalrisksfacinggovernments.Second,itwillexaminethesourcesofvariousfiscalriskssuchascontingentandimplicitliabilities.Third,itwilloutlinepolicyoptionsforreducingfiscalrisksinthecontextoffiscaladjustmentandaccessiontotheEuropeanUnion.Particularattentionwillbepaidtothetypologyandtheanalysisofspecificfiscalrisks,tothehighriskexposureofgovernmentsintransitioneconomies,andtothequalityandbiasingovernmentdecisionmakingintimeoffiscaladjustment.Howcanwemakepolicymakersaccountableforrecognizingthelong-termcostofallformsofgovernmentactivities?Howcanwereducethemoralhazardinducedbygovernmentinterventions?Whatstandardsforpublicsectoraccountingandgovernmentbudgeting,reporting,disclosure,andriskmanagementwouldfosterfiscalprudenceinthelongterm?Thepaperwillattempttorespondtotheseandsimilarquestions.

PossibleFinancingPressuresontheCentralGovernment:ATypology

Governmentsfacefourtypesoffiscalrisks.Eachtypeoffiscalriskisabroadlydefinedliabilitycombiningtwoofthefollowingfourcharacteristics:explicitversusimplicit,anddirectversuscontingent.

1

Explicitliabilitiesarespecificobligationsofthegovernmentdefinedbyaparticularlaworcontract.Thegovernmentislegallymandatedtosettlesuchanobligationwhenitbecomesdue.Themostcommonexamplesincludetherepaymentofsovereigndebtandrepaymentofnonperformingloansguaranteedbythestate.

Implicitliabilitiesrepresentamoralobligationoranexpectedburdenofthegovernment,basednotonlaws,butonpublicexpectations,politicalpressures,andtheoverallfunctionofthestateasunderstoodbysociety.Implicitliabilitiesariseinrespecttofuturepublicpensionbenefitsifthesearenotspecifiedbylaw,disasterreliefforuninsuredvictims,anddefaultofalargebankonnonguaranteedobligations.

Directliabilitiesareobligationsthatwillariseinanyeventandinthissensearecertain.Theseobligationsarepredictableaccordingtosomespecificunderlyingfactors.Theydonotdependonanydiscreteevent.Forexample,futurepublicpensionsconstituteadirectliability,thesizeofwhichreflectstheexpectedgenerosityofandeligibilityforabenefit,andthefuturedemographicandeconomicdevelopments.

Contingentliabilitiesareobligationsthataretriggeredbyaparticulardiscreteevent,whichmayormaynotoccur.

2Theprobabilityofthecontingencytooccurandthemagnitudeofthegovernmentoutlayrequiredtosettletheensuingobligationaredifficulttoforecast.Foreachcontingentliability,bothprobabilityandmagnitudeoftheresultingobligationdependonsomeexogenousconditions,suchastheoccurrenceofaparticularevent(forexample,anaturaldisasterorbankingcrisis),andsomeendogenousconditions,suchasthequalityandenforcementofregulationsandsupervisionandthedesignofgovernmentprograms(forexample,thecontractsforstateguaranteesandinsurance).

Table1providesatypologyofthesourcesoffuturepotentialfinancingrequirementsfacingcentralgovernmentbasedonthesecharacteristics.Foreachcategory,thematrixcontainsexamplesofthemostcommonsourcesofpotentialfiscalpressures.Someoftheseexamples(suchassovereigndebt)applyacrossallcountries,andsome(suchascropinsurance)arecountry-specific.

DirectandExplicitLiabilities

Inmostcountries,directexplicitliabilitiesarerecognizedbygovernmentsandcommonlydisclosedandquantified.Thequantitativeestimationofgovernmentoutlaysrelatedtotheseobligationsinthemediumterm,however,isnottrivialandrequires

sophisticatedeconomic,financial,andpolicyanalysis.

Obligationstosettledirectforeignanddomesticsovereignborrowingareusuallyspecifiedbygovernmentsintheirloancontractsandsecurities.Futurefinancingrequirementsofsovereigndebtmainlyreflectthematurity,currencies,andinterestrateofthedebtinstruments.Onthebasisofthesespecifications,governmentsareabletoforecasttheirdebtserviceprofile,simulatethetrade-offbetweenriskexposureandborrowingcost,andbuilddebtservicescenariosforalternativeportfolioandmacroeconomicdevelopments.

Table1.TheFiscalRiskMatrix:TheSourcesofPossibleFinancingPressuresonCentralGovernment

Liabilities Direct(obligationinanyevent)Contingent(obligationifaparticulareventoccurs)

Explicit

Governmentliabilityasrecognizedbyalaworcontract

Implicit

Amoralobligationofgovernment,thatprimarilyreflectspublicexpectationsandpressuresbyinterestgroups

Foreignanddomesticsovereignborrowing(loanscontractedandsecuritiesissuedbycentralgovernment)

Expendituresbybudgetlaw

Budgetexpenditureslegallybindinginthelongterm(civilservicesalaries,civilservicepensions)

Futurerecurrentcostofpublicinvestmentprojects

Futurepublicpensions(asopposedtocivilservicepensions)ifnotrequiredbylaw

Socialsecurityschemesifnotrequiredbylaw

Futurehealthcarefinancing

Stateguaranteesfornonsovereignborrowing(bysubsovereigngovernment,andpublicandprivatesectorentities)

Umbrellastateguaranteesforvarioustypesofloans(mortgageloans,studentloans,agricultureloans,smallbusinessloans)

Tradeandexchangerateguaranteesissuedbythestate

Stateguaranteesonprivateinvestments

Stateinsuranceschemes(depositinsurance,minimumreturnsfromprivatepensionfunds,cropinsurance,floodinsurance,war-riskinsurance)

Defaultofasubsovereigngovernment,andparastatalorprivateentityonnonguaranteeddebtandotherliabilities

Bankingfailure(interventionbeyondstateinsuranceschemes)

Investmentfailureofanonguaranteedpensionfund,employmentfund,orsocialsecurityfund(socialprotectionofsmallinvestors)

Defaultofcentralbankonitsobligations(foreignexchangecontracts,currencydefense,balanceofpayment

currencydefense,balanceofpaymentstability)

Residualenvironmentaldamage,disasterrelief,militaryfinancing,andsoforth

Note:Theliabilitieslistedaboverefertothefiscalauthorities,notthecentralbank.

Budgetaryoutlaysarenormallyembeddedinanannualbudgetlaw,whichrelatestotheintendedactivitiesandpoliciesofthegovernment.Inprinciple,thebudgetislegallybindingandoutlaysaretocomplywiththebudgetedfiguresthroughoutthefiscalyear.Inreality,thebudgetisviableonlyifitoriginatesinagoodmacroeconomicanalysis,andifthegovernmentemploysinstitutionalmechanismsforfiscaldisciplineandcontrol.

Legalentitlementstoasalaryandpensionataspecifiedretirementageareextendedtopublicemployeesbygovernmentsinmanycountries.Thus,withcertainty,theselegalentitlementswillbecomeaspendingiteminfuturestatebudgets.Themagnitudeofthesubsequentspendingrequirementscanbeforecastedfromtheexpectednumbersofpublicemployeesandtheirexpectedremuneration,pensionbenefit,andretirementage.(Shouldthegovernmentplantodownsizethecivilservice,itmaybeobligatedtopayredundancypackages.Suchanobligationwouldbecontingentonthefactofdownsizing.)Incontrasttothecasedepictedintable1,countriesthathavelegalprovisionsforgovernmenttofinancefuturesocialsecuritybenefits,suchaspublicpensions,universalhealthcare,education,andsoforth,wouldincludetheseitemsamongthedirectexplicitratherthanimplicititemsshownbelow.

DirectandImplicitLiabilities

Governmentdirectimplicitliabilitiesoftenariseasapresumedratherthanlegalorcontractualconsequenceofpublicexpenditurepoliciesinthemediumterm.Suchobligationsarequantifiedandrecognizedonlybygovernmentsthatarecommittedtoatransparentmedium-termexpenditureplanningandlong-termfiscaldiscipline.Theimplicitcostofdemographicallydrivenexpendituresposesdangerstofiscalstabilityinthelongterm.Directimplicitliabilitiesarequantifiedandrecognizedbygovernmentsthathaveinstitutionalizedaframework

forfiscaldiscipline.GoodexamplesincludemultiyearbudgetingandreportingpracticesofAustralia,Canada,Germany,andtheNetherlands.

Thesocialandeconomicbenefitsandmaintenanceassociatedwithpublicinvestmentsareonlyexpected,notmandatedbylaw.Todeliverthese,governmentsanalyzeandquantifyandaremadeaccountablefortheexanteestimatesandactualsofboththemultiyearinvestmentcostandtheensuinglong-termrecurrentcost.Countriesimplementingamedium-termexpenditureframeworkautomaticallyincludethefinancingrequirementsfor

operationandmaintenanceintheirfiscaloutlookandfuturebudgets,whichmakesthegovernmentobligationtosustainthebenefitsofpublicinvestmentsexplicit.

Inmanycountries,futurepublicpensionbenefitsarenotgroundedinanylegaldocumentandthus,theyconstituteanimplicitratherthanexplicitgovernmentliability.Assumingthatagivenpensionpolicywillcontinue(andthereareeconomic,social,andpoliticalreasonstoassumethatgovernmentswouldnotstoppayingbenefitswithoutreformingthepensionsystemfirst),thentheoverallobligationofthegovernmentiscertaintoariseinanyevent,and,hence,itisadirectliability.Astheprovisionofpublicpensionshasbeenrecognizedasthemoststrikingproblemforfiscalsustainabilityinmanyagingcountries,governmentshaveanalyzedthelong-termfiscalimplicationsoftheirpensionpoliciesandalternativereformsusinglong-termfiscalandpensionmodels.(Pensionreformsoftenencourageprivatesectorinvolvementinsavingforretirementthroughindirectformsofgovernmentsupport,suchasguaranteesofminimumpensionbenefits.Suchguaranteesthenrepresentanexplicitcontingentliabilityofthegovernmentandarediscussedbelow.)

Similarly,futurehealthcareandsocialsecurityfinancingcanbeanalyzedasgovernmentdirectimplicitliability.Researchhasshownthat,comparedtopublicpensions,thedynamicofthefinancingrequirementonhealthcareinanagingsocietyisoftenevenmoreexplosive.Thus,modelingandrecognitionofthelong-termfiscalimplicationsofhealthpoliciesandtheirreformsarecriticallyimportantforfiscalstabilityandequityinthelongterm.

ContingentandExplicitLiabilities

Commitmentofagovernmenttoacceptobligationscontingentonfutureeventsrepresentsahiddensubsidyandmaycauseimmediatedistortionsinthemarketsaswellasmajorfutureunexpecteddrainson

governmentfinances.Nonetheless,contingentexplicitliabilities,suchasstateguaranteesandinsuranceprograms,generallyremainoutsidefiscalanalysisandtheplanningframeworkforpublicexpenditures.

Eachcontingentexplicitliabilityisrecognizedbythegovernmentinsomeformaldocumentation.However,manygovernmentsdonotconsolidatethefulllistandtotalmagnitudeoftheseobligations.Astheseobligationsarecontingentonunpredictableevents,theriskthatanyofthemwouldfalldueandtheamountofthesubsequentfinancingrequirementaredifficulttoassess.Incontrasttomanycorporations,

commercialbanks,andinsurancecompanies,whichhavemadeagreatprogressindealingwithcontingentliabilitiesinthelast10years,governmentshaveyettoincludecontingentexplicitliabilitiesintheoverallfiscalanalysisandtoensurethattheirrisk-bearingprogramsarewelldesigned,surveyed,andmanaged.Atthepolicylevel,anexanteanalysisoftherisksandfuturefinancialimplicationsassociatedwiththeformsofcontingentgovernmentsupportwouldcontributetobetterpolicychoicestowardequityandlong-termfiscalstability.Countryexamplesofgoodmanagementofcontingentexplicitliabilitiesincludethefollowing:AustraliaandNewZealandincludecontingentexplicitliabilitiesandcontingencyexpenditureprovisionsingovernmentfinancialstatements.ItalyandtheUnitedStatesmakeabudgeappropriationforthenetpresentvalueofthefuturefiscalcostofissuedloanguaranteesanddirectloans.TherisksandreserveadequacyoffederalinsuranceschemesarereportedbytheUnitedStatesGeneralAccountingOfficeoutsidethebudgetingsystem.

Guaranteesareoftenissuedbygovernmentstocoversomeorallrisksthataborrowerwillfailtorepayloanorotherguaranteedasset.Thehiddensubsidytothebeneficiaryoftheguarantee,andthesubsequentpotentialcosttothegovernment,arepositivelycorrelatedwiththeriskiness,size,anddurationoftheunderlyingasset.Inaddition,theprobabilityofdefaultunderaguaranteemaybeveryhighiftheguaranteecontractisnotcarefullydesignedwiththeinclusionofsomerisk-sharingbetweenthegovernmentandthelender,intermsofboththefinancialcoverage(partoftheloanversusthewholeloan)andtheriskcoverage(specificpoliticaland/orcommercialrisksversusallrisks).Dependingonthecapacitiesofthegovernment,theriskassumedbythegovernmentcanbeestimatedaccordingtothehistoricalexperience,simplerulesofthumb,and,whereappropriate,moresophisticatedmethodologies,suchasactuarial,econometric,and

optionpricingmodels.

3Asophisticatedriskassessmentallowsthegovernmenttomakepolicychoicesbasedontheextentofitsriskexposureandthenetpresentvalueofthefiscalcostassociatedwithguaranteesandotherpossibleformsofsupport.

Umbrellaguaranteesareextendedtoeligiblepersonsorentitiesborrowingforaspecificpurpose,suchasuniversitystudies,mortgage,farming,andsmallbusinessdevelopment.Therationalefortheseguaranteesandtheassessmentoftheirrisksandpotentiallong-termcostaresimilartotheindividualguaranteesdiscussedabove.Thisholdsalsofortradeandexchangerateguaranteesandtoguaranteesonprivateinvestments.

Stateinsuranceschemesoftenconstituteamajorrisktofuturefiscalbalances.Themorefamiliarstateinsuranceprogramsincludebankdepositinsurance,cropinsurance,war-riskinsurance,insuranceofminimumreturnsfrompensionfunds,andinsuranceagainstfloods,earthquakes,andotherdisasters.Mostoftheseprogramscoverlossesthatoccurveryinfrequently,butwhentheyoccur,theirtotalmagnitudemaybeenormous.Theriskpoolundertheseprograms,particularlywithinasmallmarket,isverylimited,whichalsoservestojustifythegovernment'sinvolvement.Thus,ratherthanfinancingthemselves,stateinsuranceschemesredistributewealthandrelyongovernmentnetfinancing.Theanalysisofrisksandpotentialfiscalburdensassociatedwithstateinsuranceschemesrequiressectordatasuchasbanksurveillanceinformationandpotentiallossestimates,andsophisticatedmodels,suchasahydrologicmodeltoestimatetheprobabilitiesoffloodsinagivenyear,andanoptionspricingmodeltoassesstheriskinessofthereturnsofapensionfund.

ContingentandImplicitLiabilities

Contingentimplicitliabilitiesarenotofficiallyrecognizedandmayemergeapartfromdeclaredpolicyobjectives.Traditionally,suchliabilitiesareacceptedbygovernmentonlyafteramajorfailureoccursinthepublicsectororinthemarkets.Theyreflecteitherapressurebythepublic,possiblyaninterestgroup,orjusttoohighanopportunitycostofgovernmentnonaction.

Contingentimplicitliabilitiesoftenpresentgovernmentswiththegreatestfiscalrisk.Thetriggeringeventforsuchaliabilityisuncertain,thevalueatriskdifficulttoevaluate,andtheextentofpossiblegovernmentinvolvementdifficulttopredictinadvance.Therefore,itisverydifficulttoidentifyandestimatethesizeofthecontingentimplicitliabilities.Theseliabilitiesareparticularlylargeiftheregulatoryandsupervisorysystemsareinefficientandiftheself-

regulatorymarketmechanismsarehinderedbyweakinformationdisclosureinthemarkets.

Inaddition,expectationsofgovernmentinvolvementgeneratemoralhazardinthemarkets.Thescopeformoralhazardisparticularlylargeineconomiesthathaveexperiencedgovernmentinterventions,significantlyrelievingmarketagentsfromthepainoftheirfailure.Moralhazardmaybeconstrainedifthelimitsforfuturepotentialgovernmentinterventionsarepredeterminedandsignaledtothemarketsinadvance.Thesignalingiscredibleifsomeminimumpublicgoodsareguaranteed,andifitissupportedbynoninterventionbeyondthepreannouncedlimits.In

addition,toreduceratherthanexpandthemoralhazard,thesignalinghastoimplymarketexpectationofsignificantpainforagentsincaseoftheirfailure.Thedelineationofgovernmentresponsibilityandtheassessmentofthecosts,aswellasbenefitsoftransparencyabouttheextentofthegovernment'scommitmenttointervenefinanciallyincasesoffailures,requireacarefulapproachforeachcontingentimplicitliability.

Thefinancialsysteminacountryrepresentsthemostobviousgovernmentcontingentimplicitliability.Internationalexperiencehasindicatedageneralunderstandinginthemarketsthatthegovernmentwillintervenefinanciallyshouldthewholefinancialsystembeatrisktocreatemoralhazardinthesystem.Incaseofafailureinthefinancialsector,governmentsarecompelledtointervenefinanciallyfarbeyondtheirlegalobligationeithertosecuresomecriticalfunctionsofthefinancialsystem,ortoprotectdepositorsandspecificmarketagentsbeyondthelimitsofanystateinsuranceschemes.

4

Adefaultonnonguaranteeddebtandobligationsbyasubsovereigngovernment;state-ownedenterprise;alargeprivateenterprise;abudgetaryorextrabudgetaryinstitution;oranyinstitutionofpoliticalsignificancemayinducegovernmentfinancialintervention.Thedebtofsubsovereigngovernmentsandnonmarket-orientedpublicsectorentitiescountsasgeneralgovernmentdebtagainsttheMaastrichtceilings.Legalframeworksand,particularly,theautonomyoflocalgovernmentsinmostEU-applicantcountries,however,havenotyetenabledcentralgovernmentstoactivelycontrolliabilitiesacrosstheentiregeneralgovernment.Similarly,governmentshaveyettodevelopcapacitiestomonitortheamountsandallocationofnonguaranteedforeignanddomesticprivateborrowing.

Somecriticalsocialandwelfarefunctions,ifcontractedoutbythegovernment,arestillunderstoodastheultimateresponsibilityofthegovernment.Forexample,inthecaseofaninvestmentfailureofanonguaranteedpensionfund,employmentfund,orsocialsecurityfund,governmentsarecalledupontoassumefinancingofsocialservicesfromthebudget.Thus,nonguaranteedprivateprovisionofsocialandwelfareservicesposesanimplicitfinancialriskforgovernments(seeHeller,97).

Environmentaldamageanddisasterscreateaveryhighdemandforpublicmoneysevenifnostateinsuranceprogramsandguaranteesexist.SeveralEU-applicantcountriesfacethefinancialriskofoperating,possiblydismantlingnuclearplants,disposingnuclearandtoxicwaste,andacceptingthecostofenvironment

recoveryintheprivatizationprocess.Intheabsenceofdevelopedprivateinsuranceindustries,particularlyincountrieswithhistoriesofcaretakingstates,disasterssuchasfloods,earthquakesanddroughtsinducemajorpoliticalpressuresongovernmenttohelpfinancially.Suchpressuressurfaced,forexample,inPolandandtheCzechRepublicduringandafterthefloodsin1997.

Ultimately,governmentsareexpectedtocoverunmetobligationssuchasforeignexchangecontractsofcentralbank,andtofinanceabail-outpackageincaseofcurrencyand/orbalanceofpaymentcrises.Thesizeofthisriskiscorrelatedwiththemacroeconomicvulnerabilities,withthemagnitudeofforeignanddomesticborrowingbyboththeprivateandpublicsectors,andwiththeextentofmoralhazardinthemarkets.

TheIncreasingProblemofFiscalRisks

TheTrend,Bias,andMoralHazard

Recenttrendssuggestthatgovernmentsareexposedtoexpandingfiscalrisks.First,financialmarketsintegrationinvolvinggreatervolumesandvolatilityofprivatecapitalflowshasmadegovernmentsaswellasthedomesticfinancialsectormorevulnerable.Financialmarketsintegrationexacerbatesthesystemicrisksofindividualfailuresinthebankingandenterprisesectors,andthusgovernments,morethanever,areengagedinbail-outs.Moreover,theaccesstogovernmentborrowinghasbecomesubjecttomassiveshiftsinthepreferencesofforeigninvestors.

Second,stateshavebeentransformingtheirrole,movingfromdirectlyprovidingandfinancingservicestoguaranteeingthattheprivatesectorwillaccomplishcertainoutcomes.Manystateshaveattemptedtoprivatizesomeoftheirresponsibilitiesandenableprivatesectorinitiativewiththehelpofgovernmentguarantees.Inthe

transitionfromdirectprovidingandfinancingofpublicservicestoguaranteeing,explicitlyorimplicitly,policyresultsagainstmarketfailures,governmentsfaceanincreasinguncertaintyabouttheirfuturefinancingrequirements.Wouldastateguaranteebecalled?Whatwillbetheoutlaysofstateinsuranceprograms?Wouldreservefundsbeabletocoverthecontingentlosses?Inrecenthistory,manygovernmentshavesufferedfromexpendituresaboveanyenvisagedlimitsafteramassivefailureofprojectsunderstateguaranteeswhendepositinsuranceschemeshavefailed,abankingcrisishasbeenkickedoff,orprivatecredithasprovennonsustainable.

Third,governmentsmaybebiasedtowardoff-budgetpolicies,whichimplymorefinancialriskbutlessimmediatefinancing.Often,particularlyintimesofdeficitreductionandashort-termpoliticalhorizon,policymakersexploitthenonreportingofoff-budgetcommitmentsandobligationsandtrytohidethecostofvariousgovernmentpolicies.Insuchinstances,decisionmakersfavoroff-budgetformsofgovernmentsupport,likestateguarantees,stateinsurance,anddirectedcredit.Thecostandcashconsequencesofthesepolicychoicesoutsidethebudgetarysystemmaynotbeseenformanyyears.However,thesechoicesgiverisetogovernmentcontingentliabilitiesandpotentialfuturefiscalpressures.

Finally,explicitstateguaranteesandinsuranceschemes,oranyimplicitunderstandingthatagovernmentwouldcometorescueincasesofvariousmarketfailures,generateseriousmoralhazardproblemsinthemarkets.Loansandinvestmentswithafullguaranteesufferfrominsufficientanalysisandsupervisionbycreditors.Beneficiariesofpoorlydesignedstateinsuranceschemestendtoundertakeexcessiverisks.This,inturn,makesitmorelikelythatthegovernmentwillhavetoextenditsfinancialsupportlateron.

FiscalRisksandtheChallengeofTransition.

Thefiscalrisksbothimplicitlyandexplicitlyfacinggovernmentsoftransitioncountriesareparticularlylarge.Vagueownershipstructuresintheeconomy,underdevelopedregulatoryframeworks,andweakenforcementexacerbatethepotentialforfailureofbanks,investmentfunds,andenterprises.Suchfailures,inturn,oftengeneratepoliticalpressuresongovernmentstointervenethroughvariousfinancialbail-outs.Recenthistoryofrepeatedbail-outs,coupledwithanearliertraditionofinterventionsunderthecentralplan,hasproducedenormousmoralhazardinthemarkets.Bankbail-outsandrecapitalizationsinHungaryandtheCzechRepublichadtobe

repeatedaslongasthegovernmentswerewillingtointervene.Inthemeantime,eitherpublicdebtorliabilitiesoutsidethebudgetarysystemwereaccumulating.Consequently,andasaresultofpastlaxattitudestowardfiscalrisks,therelativelylowlevelsofsovereigndirectdebtofseveralEU-applicantcountriesmaybeoutweighedbythepublicliabilitiesamassedoutsidethebudgetarysystem.

Governmentfiscalrisksintransitioneconomiesarealsoexacerbatedbytheweakdiscipliningeffectsofinternationalfinancialmarketsthere.Mostofthetransitioncountrieshavesmallmarketswithashorthistoryandweakinformationdisclosure.Thesefactorsreducethecomprehensibilityofriskstoforeigninvestors.Thus,intranstitioneconomies,credi-

torsseemtotoleratehighriskexposuresoffinancialinstitutionsandenterprises,andcreditratingsappearinformativeandpredictiveonlytoalimitedextent.

TheHiddenFiscalRisksandtheValueofCertainty

Governmentcommitmentsandpromisesoutsidethebudgetarysystemblurtheanalysisofpastfiscalperformanceandfuturefiscaldevelopments.Fiscalconsequencesofcontingentliabilitiessurfaceonlywithadelayandintheformofunexpectedpublicfinancingrequirements.Usually,governmentslackinformationontheircontingentliabilitiesandoverallexposuretofiscalrisks.Oftengovernmentsarenotaccountableforthelong-termcostoftheiroff-budgetcommitmentsandpromisesofstatesupportcontingentonanuncertainevent.Asaresult,contingentliabilitiesmayaccumulateandrequirelargegovernmentfinancinginthefuture.Inafewcountries,governmentsarerequiredtoassessandcomparethefullcostofalternativebudgetaryandoff-budgetprogramsandreportthefulllistofcontingentliabilitiesandotherfiscalrisks.

Inpolicydecisions,governmentsoftenfaceatrade-offbetweendirectprovisionandfinancingofservicesversusguaranteeingprivatesectorprovisions.Directprovisionandfinancingofservicesrequirealargerbudgetandhighertaxes.PrivatesectorprovisionwiththeStatetoguaranteecertainoutcomesrequiresnogovernmentcashinitiallybutexposesthegovernmenttohigherfiscalrisksanduncertaintyaboutfuturepublicfinancingrequirements.Ifthegovernmentpursuesadeficittargetandshort-termresults,thelatterlooksmoreattractive.Oncecontingentliabilitiesfalldueandrequiregovernmentfinancing,thechoicesarelimitedtothefollowingactions:increasedeficit,incuradditionaldebt(withoutreportinganydeficitincreases),cutsomeenvisagedexpenditures,levymoretaxes,sellstateassets,anddefaultonsomeobligations.Eachoftheseactionschallengesgovernment

performanceandcredibility,thusreducingtheeffectivenessoffuturepolicies,compromisingpoliticalstability,andimpairingfutureperformanceandgrowthintheoveralleconomy.

Inthisrespect,thepositivevalueofcertainty(thecostofuncertainty)inthefuturepublicfinancingrequirementisanimportantfactorforgovernmentdecisionmaking.Alternativeformsofgovernmentsupportcanbeprioritized,notonlyonthebasisoftheircontributiontothedesiredpolicyobjectivesandtheirlong-termcost,butalsoontheextentofthefinancinguncertaintiesandcontributiontothegovernment'soverallriskexposure.

5

Thevalueoffinancingcertaintyisparticularlyhighforgovernmentsthathave:restrictedaccesstoadhocborrowing,lowriskmanagementcapacities,highriskaversion,andstrategiccashanddebtmanagement.Contingentliabilitiesarepotentiallyveryharmfulforgovernmentsthatcannotrelyonacontinuedandfavorableaccesstoborrowing.Largereservefundsmayreducethepotentialharmwhencontingentliabilitiesfalldue.Suchreservefundshavelargeopportunitycost,however.Governmentswithlowcapacitytoanalyzeandmanagerisksthatexistineconomiesoflesspredictableoutcomesandhigherasymmetricinformation,areill-preparedtocopewiththepotentialmoralhazardandfinancialuncertainties.

6Governmentriskpreferencewouldideallyreflectriskpreferenceofthemedianvoter.Arisk-aversegovernmentshouldpreferdirectprovisionwithpredictablefinancingrequirementtoaguaranteeevenifbothwoulddeliverequalpolicyoutcomesandwouldinvolveequalrisk-adjustednetpresentfiscalcost.Finally,forgovernmentsthathaveinvestedinthedevelopmentofsophisticatedandefficientlymanagedborrowing,financing,andcash-managementstrategies,adhocfinancingrequirementsinvolvecostlydisruptionsandefficiencylosses.

FiscalDecisionmakingunderDebtandDeficitCeilings

EU-applicantcountries,aswellasEUmembersattemptingtomeettheMaastrichtcriteria,havestrongincentivesforarapidfiscaladjustment.TheEUcriteriaareyettobeelaboratedtoencouragegovernmentfiscalprudenceinalong-termhorizon.Meanwhile,thetrade-offbetweenthespeedofdeficitreductionandthequalityoffiscaladjustmentmaysurfacethroughthepoliticalattractivenessofvariousopportunisticbehaviors,includinganexcessiveuseofoff-budgetformsofgovernmentsupport.

TheEUhasalreadywitnessedrapidfiscaladjustmentsthatmaybeachievedthroughnonsustainablepolicies.RecentexamplesofbudgetaryandaccountingbehaviorsofEU-membercountriesindicatethatanarrowfocusontheaggregatefiscaltargetscompelsgovernmentstoconcealsomeoftheirfinancialinterventions.This,inturn,generatesuncertaintiesaboutfuturepublicfinancingrequirements,confusesfiscaloutlook,andendangersfuturefiscalbalance.Thefocusoncash-basedbudget,deficit,anddebtalsodistortsgovernmentdecisionsaboutspendingprioritiesandthetimingandformofgovernmentsupport.Table2,below,showsexamplesofspecificopportunisticbehaviors,asthesehavebeenobservedinEU-membercountries,andtheirinfluenceonfuturegovernmentfiscaloutlookasrecordedintheEU.7

Asshownintable2,opportunisticbudgetaryandaccountingbehaviorsofgovernmentstomeetadeficitanddebttargetmainly

Table2.GovernmentOpportunisticBehaviorstoMeettheMaastrichtDeficitBehaviors OntherevenuesideWiththeeffectofincreasingfuturepayablesandliabilitiesofgovernment

Tomeetthedeficitrule:Introduceanadhoctaxtobereimbursedinthefuture

AcceptcashwiththepromiseoffuturebenefitsRecordrevenuesgrossratherthannetofthereimbursements,whichareduelaterExchangesomeexistingpublicdebtinstrumentsforindexedbondssoldatapremiumTomeetthedebtrule:TransformindebtedgovernmentagenciesintoautonomouslegalentitiesoutsidethegeneralgovernmentwhilegrantingthemastateguaranteeEnterrepocontractswithpublicdebtTomeetthedeficitrule:

Reducingfuturereceivables

Withholdrevenuesdueinthefollowingfiscalyear

Dilutingthevalueofstateassets

Acceptcashinexchangeforfuturetaxexemptions

Tomeetthedeficitrule:RecordcapitalgainsfromasaleofpropertypossiblywithasubsequentrentingorleasebackarrangementChargeadividendfromrevaluationofthegoldreservesofthecentralbankChargeahigherdividendfrompublicholdingsTomeetthedebtrule:SellgoldofthecentralbankSellstateassets

andDebtCeilingsOntheexpendituresideTomeetthedeficitrule:Postponeinescapableexpenditures,suchasinfrastructureinvestment,maintenance,etc.Favoroff-budgetformsofgovernmentsupportversusdirectfinancingDelayalegalrecognitionandfinancingofgovernmentpurchasesandtransfersPostponelegalrecognitionandquantificationofrebatesduetothetaxpayersRecordsubsidiesaspurchasesof(bad)assetsfromcorporationsandbanksatafacevalueRecorddeficitsofstate-ownedandmunicipalagenciesprovidingnonmarketpublicservicesoutsidegeneralgovernmentfiguresTomeetthedebtrule:OmittheexistingnetliabilitiesofpublicenterprisesandagenciesthatareoutsidethesphereofgeneralgovernmentbutbeneficiariesofgovernmentguaranteesFavortradecreditasaformofsupportExcludecontingentliabilitiesfromdebtreportsTomeetthedeficitrule:CutoperationsandmaintenanceexpendituresReduceexpendituresoncomplementaryinputsintotheserviceprovidedbytheasset

involveanyorallofthethreefollowingtypesofimprudentactionsbythegovernment:assumeexcessiveliabilitiesforcashpayment,rundownpublicassets,anduseexcessivelyoff-budgetsupportinpublicpolicies.Thefirsttwooptionsarelargeforgovernmentsaccountingonacashbasis.Incash-basedaccounting,expensesandliabilitiesareaccounted,notwhentheobligationisincurred,butonlywhentheactualcashtransferismade.Thus,governmentscollectingafeeforassumingliabilitiesreportsuchaneventpurelyasanetrevenuegain.Thethirdisvalidunderbothcash-andaccrual-basedaccountingstandards,butitisrestrictedbywell-designedaccrualbudgetingrules.

Anaccrual-basedaccountingsystem,withoutaccrualbudgeting,isneithernecessarynorsufficienttoensureadequatepolicyconsiderationforcontingentliabilitiesandotherfiscalrisks.Althoughitencouragesgovernmentstoprepareastatementofcontingentliabilitiesandfinancialrisks,anaccrual-basedaccountingsystemgenerallydoesnotrequirethatrisksassociatedwithcontingentliabilitiesbeevaluatedandquantified.Internationalaccrualaccountingstandardsrequirethatliabilitiesbeaccountedonlywhenanobligationisduewithcertainty.

8

Policymakersareencouragedtomakechoicesaccordingtotherisk-adjustednetpresentcostsofalternativepoliciesandformsofgovernmentsupportinaccrual-basedbudgetingsystems,builtonanaccrual-basedaccountingplatform.Accrual-basedbudgetingrequiresthatanestimateofthefuturecashoutlaysoncontingentliabilitiesorofnetpresentfiscalcostofcontingentliabilitiesbeincludedinbudgetdocuments.Thisway,contingentliabilitiesenterfiscalanalysesandpublicaccountabilityframeworksfromthemomentoftheirissuancebygovernment.9

Understanding,Incentives,andCapacitiestoReduceandControlFiscalRisks

Intheirtotality,contingentliabilitiesmayinvolvealargefiscalriskthat,ifconsidered,maysignificantlyaffecttheresultsoffiscalsustainabilityanalysis.Contingentliabilitiesandunderlyingfinancialrisksmaybeanimportantfactoralsoforassessingallocativeefficiencyintheuseofpublicmoneys(therelativeriskexposuresversuspolicypriorities).Finally,contingentliabilitiesmaybenotonlyrisky,butalsounnecessarilycostlycomparedtodirect,budgetaryprovisionofgovernmentsupport,whichbringsupquestionsofoperationalefficiencyofgovernment.

Therearetwomainsetsofincentivesforgovernmentstoconductfiscallysoundpoliciesandminimizefiscalrisks.First,thereareincentivestoavoidcrisesinapoliticallymeaningfultimehorizon.Second,thereareincentivestoavoidpunishmentforaccumulatingrisksthat

surfaceinthelongterm.Theformersetofincentivesevolvesnaturallywhenpolicymakersbegintounderstandfiscalrisksassociatedwiththeirproposedpoliciesandpromisesandthepotentialconsequences.Thelatterneedstobeencouragedbyexternalcoercion.Effectivecoercionrequiresadequatedefinitionandmeasurementoffiscalindicatorsbyinternationalauthorities,suchastheInternationalMonetaryFund,theWorldBank,ortheEuropeanUnion,externalpressuretodevelopadequatepublicfinanceinstitutionsanddiscloserelevantinformation,adequateexternalmonitoring,comprehensiveanalysistounderliesovereignratings,andstrictpunishmentofgovernmentsthatattempttoconcealrelevantdata.

Agovernmentthatintendstoaddresscontingentliabilitiesandotherfiscalriskswouldworkatthreelevels:tounderstandtheexistingandpotentialfiscalrisksandpursuepoliciestowardagood-qualityfiscaladjustment,todevelopaninstitutionalframework,whichinvolvesadequatepublicdisclosureandincentivesinrespecttocontingentliabilitiesandotherfiscalrisksbeyondthestatebudgetanddebt,andtobuildcapacitiestoevaluate,regulate,controlandpreventfinancialrisksinthepublicandprivatesectors.Themostbasicstepsateachofthesethreelevelsapplytoeverycountry.Mosturgently,ofcourse,theyapplytoeconomiesthatfacelargerisks,weakmarketinstitutions,andhighmoralhazard,andtogovernmentsthatneedtoprovetheircredibility.Governmentsmayimprovetheiroverallfiscaloutlookbyinitiatingrelativelysimplemeasuresthatpromotequalitativeunderstandingandpublicdisclosureofcontingentliabilitiesandotherfiscalrisks,andbybuildinginstitutionalcapacitiestomanagefiscalrisksprudentlyandefficiently.

Policy:UnderstandtheBigPicture

Inordertoensurefiscalstability,itiscriticalforgovernmentstounderstandtheiroverallexposuretocontingentliabilitiesandother

fiscalrisks.Atapolicylevel,thegovernmentwouldanalyzepotentialimplicationsofitsobligationsandimplicitcommitmentsforfuturepublicfinancesandforincentives(moralhazard)inthemarkets.Fiscalrisksrelatingtotheintertemporaryandresidualstateobligationswouldalsoentertheanalysisoffiscalsustainabilityandwouldbeconsideredagainstthegovernment'srisk-absorptiveandfinancingcapacities.Inthiscontext,thefollowingstepsarecritical:

Identifyandclassifyfiscalrisksrelatedtogovernmentpoliciesandpromises.

Aswediscussedearlier,governmentsareabletoachievelong-termfiscalstabilityandagoodqualityoffiscaladjustmentonlyiftheyunderstand

allthemainsourcesoftheirfuturepossiblefiscalpressures.Policymakersmusttakestockofexistingpoliciesandpromisesofpotentialgovernmentinterventions,identifythemainsourcesoffiscalrisks,andbuildthefiscalriskmatrix,whichwehaveshownearlier.

Defineandcommunicatecrediblelimitsofstatecommitments.

Theouterlimitsofstateresponsibilitiesaredefinednotsomuchbythebudgetedexpendituresbutbycontingentliabilities,particularlytheimplicitones.Oncecontingentliabilitiesareinthepicture,thegovernmentmustdecideontheextentandforminwhichitwillperformeachresponsibility.Thisway,bothdirectandcontingentliabilitieswithinthegovernmentcommitmentareawouldbedefinedandmadeexplicit.

Thedefinitionandsignalingofgovernmentresponsibilitiesaffecttheincentivesinthemarkets.Aswenotedabove,inordertominimizemoralhazardinthemarkets,thegovernmentmustdefineitsresponsibilities(itscommitmentarea)inawaythatiscredible(ensuresomeminimumpublicgoods)andthatinvolvessignificantpainformarketagentsthathappentorelyongovernmentrescue.Thus,government'staskistocommunicatecrediblytothemarketswhatsupportisnottobeexpectedfromthestateincaseofvariousfailures.Thegovernmentmustgaintheneededcredibilityandreducemoralhazardinthemarketsand,thus,curtailfiscalrisksbyactinguponitsannouncement(byrefusingtobailoutbanksormunicipalgovernmentsorprovideanysupportabovethepredefinedlevels).

Tomakeitsdefinitionofresponsibilitiescredible,thegovernmentmustaddressthecoreofexistingexpectationsaboutitspotentialinterventions(implicitliabilities)inthemarkets.Forexample,inasocietywithastrongtraditionoflargepublicservices,thegovernmentislikelytobemorecredibleandtoinducelessmoralhazardinthemarketsifitannouncesthatitwillensuretheprovisionofthemost

basicservicestocitizensofmunicipalitiesthatgobankruptratherthansayingthatitwillnotreacttoamunicipalbankruptcyatall.

Placeavalueoncertaintyinfuturepublicfinancing.

Thegovernment,likeanycorporation,mustjudgealternativeformsforimplementingitspoliciesnotonlyaccordingtotheircostandbenefits,butalsoaccordingtotheextentofuncertaintytheyinvolveforfuturepublicfinancing.Thus,thegovernmentwouldevaluateandcomparethecostofalternativeprogramsaccordingtotheirnetpresentvalue(includingtheassessmentofriskpremiums),volatilityoffinancing,andthepotentialproblemofasymmetricinformationandtransactioncostsunderformsofcontingentsupport,accordingtoitsownriskprefer-

ence.Ifithasalowriskpreference,thegovernmentwilltrytominimizeitsissuanceofstateguarantees,insuranceprograms,andotherformsofcontingentsupport.

Assessandpredeterminethegovernment'sriskexposureandtheimpactofthequalityoffiscaladjustment.

Thegovernmentmustenterthestockofcontingentliabilitiesinasingleportfoliowithotherpublicliabilitiestoevaluateitsoverallriskexposureandroughlyassessthecorrelations.

10Incontrasttothedeficitanddebtrules,suchasMaastrichtcriteria,acomprehensiveanalysisofgovernmentexposuretofiscalriskswillhaveapredictivevalueforassessingfuturefiscalstability.

Thegovernmentmustaimatconvergingtoariskexposurethatreflectstheriskpreferenceofthemedianvoter.Thisaimwouldbepredeterminedinthegovernment'scomprehensiveriskstrategy,whichwouldextendbeyondpublicdebtandincludetherisksofcontingentliabilities.Also,thegovernmentwillviewnewprogramsaccordingtothemarginalrisksaddedbysuchprogramstoitsoverallriskexposure.Forthispurpose,aswillbediscussedinthefollowinginstitutionalsection,guidelinesandindicatorsforgovernmentriskexposureandprudentfiscalmanagementwillneedtobeestablished.

Institutions:InternalizetheBigPictureinBudgetProcess,FinancialPlanning,andPublicAccountabilityFramework.

Theinstitutionalframeworksforpublicfinancesneedtoencompasscontingentliabilitiesandotherfinancialrisksofgovernment.Publicfinanceinstitutionsandfiscalmeasurementmethodologieswithrespecttocontingentliabilitiesstronglyinfluencegovernmentdecisionmaking.Apublicfinancemanagementframeworkthatignoresthefuturefiscalimplicationsofcontingentliabilitiesandother

off-budgetcommitmentsmakeformsofcontingentgovernmentsupportlookpoliticallytooattractive.Inanadequateinstitutionalframework,governmentdecisionsandactionsthatinvolvecontingentliabilitieswouldbesubjecttosimilarconsiderationsofaggregatefiscalstabilityandallocativeandtechnicalefficiency,andsubjecttosimilarcontrolmechanisms,publicdisclosure,andaccountabilityasanyotherbudgetaryordebtitem.

Estimate,budget,andaccountforthenetpresentvalueofcontingentliabilitiesandotherrisks.

Availabilityofestimatesofthenetpresentvaluesandhiddengovernmentsubsidiesassociatedwithalternativegovernmentprogramsatthe

timeofcommitmentcontributestooptimizingthechoiceanddesignofgovernmentprograms.Incaseofguaranteesandstateinsuranceprograms,thegovernmentsubsidycostequalsthedifferencebetweenthefullriskpremiumandthefeechargedbythegovernment.Quantificationofthefullriskandnetpresentvalueofgovernmentcontingentliabilitiesandcommitments,however,requiresspecializedmethodologies,suchasoptionpricing,actuarial,rate-setting,value-at-loss,andlosscostratio.12

Accrual-basedbudgeting,ifappliedcorrectly,makesthecostofcontingentliabilitiestransparentexante.Itrecognizesthedifferencebetweenthefullriskpremiumandthefeeschargedforguaranteesandstateinsuranceatthetimecoverageisextended.Bybringingoff-budgetcommitmentsintothebudgetandrecognizingthehiddensubsidiesassociatedwithgovernmentcontingentliabilities,thegovernmentwillbetterrevealthelong-termcostandbenefitsofitscommitmentsandenhancepublicscrutinyoverthepotentialuseofpublicmoneys.Thecostofevaluating,managing,andmonitoringcontingentliabilitieswillcomeontopofthefuturefinancingrequirement.Inaddition,recognitionofthehiddensubsidiesallowsforabetterassessmentofthefiscalstanceandreducesthedangersofsuddenshiftsindeficitanddebtlevelsdisruptingboththedeficitfinancingandborrowingstrategyoftheministryoffinanceandthemonetarypolicyofthecentralbank.

Toaddresstheproblemofcontingentliabilitiesandotherfiscalrisks,publicdisclosureismoreimportantthanafullyfledgedaccrual-basedaccountingsystem.Statementsofcontingentliabilities(facevalues)andtheoverallriskexposureestablishagoodfoundationforgovernmentaccountabilityandfiscaldisciplinebeyondthebudget.

Monitor,compare,andreporttheestimatedandactualcostofgovernmentsupport.

Governmentsaremorelikelytopursuetheobjectiveoflong-termfiscalstabilityiftheyarepubliclyaccountablenotonlyforbudgetpoliciesandcompliancebutalsoforallfiscalriskstheyassumeoutsidetheirbudgetanddebtportfolio.Therefore,theframeworkfortransparentdecisionmakingandfiscalreportingmustbeextendedfarbeyondthebudgettocoverallpotentialriskstofuturefiscalstability.Governmentsshouldpubliclydisclosetheiroverallrisk-assumedestimateandbeheldaccountableforthequalityoftheirriskanalysisthatunderliespolicydecisions.

Publicfinancelawsandregulationsarecomprehensiveiftheyincludeprovisionsandanaccountabilityframeworkforpotentialfiscalitemsoutsidethestatebudget.Acomprehensivefiscalmanagement

frameworkaddressestheissuance,monitoring,andhandlingofstateguaranteesandstateinsuranceprogramsandthemonitoringandfinancialmanagementofpublic,state-guaranteed,andsubnationalgovernmentinstitutions.

Setreservestocovertheunexpectedlossesbasedontheunexpectedlossprofileofthewholeportfoliooffiscalrisks.

Thegovernmentmustdecideonreservefundsaccordingtoitsoverallriskexposure,riskpreference,anditsabilitytomanagerisksandabsorbcontingentlosses.Thereservefundwillprovideliquidityofguaranteesandothercontingentliabilitiesand,thus,protectthegovernmentagainstpressurestoincreasedeficitanddebt,cutsomeenvisagedexpenditures,ordefaultonsomeofitsobligationsifacontingentliabilityfallsdue.Thebenefitofareservefundforfiscalstabilityandgovernmentcredibilityisatrade-offwiththeopportunitycostofkeepingresourcesinareservefundinsteadofspendingthemonothergovernmentprogramsorcuttingtaxes.Tosignaltheircommitmenttocertainpolicies,offsetfinancialrisksandfinanceunexpectedlosses,governmentscanalsousenewlydesigneddebtinstruments,suchascatastrophebondsorcredibilitybondswhenissuingacontingentliability.

Onlyexposethegovernmenttoasmuchfinancialriskasitiscapableofhandling.

Thegovernmentshouldacceptformsofcontingentandimplicitfinancialsupportonlytotheextenttowhichitisabletoevaluate,regulate,control,andpreventfinancialrisksandabsorbunexpectedlosses(assumingthatsuchsupportiswithintheappropriatefunctionofthestate,giventhestate'soverallcapacities).Ifithasalowcapacitytoevaluateandmanagerisks,thenitwillfavoradirectsubsidyanddirectprovisionratherthanaguarantee,budget-financedschemesratherthaninsurance-basedsystemsofservices.Intransition

countries,riskmanagementcapacitiesarescarceincontrasttothelargerisksandinformationasymmetryinthemarkets,butbuildinggovernmentriskmanagementcapacities(whichinvolvesreplacingbureaucratsbyfinancialriskanalysts)maybeverycostly.Thenextsectionwilldiscusstheriskmanagementcapacitiesforgovernmentstobuildon.

Capacities:Evaluate,Control,andPreventFinancialRisks

Governments'analyticalandinstitutionalcapacitieswithrespecttofinancialrisksareanecessaryconditionofgoodfiscaladjustmentandeffectivepreventionandmanagementofpotentialrisks.Inthe

past10years,largeinternationalcorporations,commercialbanks,andinsurancecompanieshaveconcentratedonbuildingtheirriskmanagementcapacities.Astheroleofastatechangesfromdirectprovisionofservicestothemanagementofrisks,governmentsbegintofollowtheexampleoftheprivatesectorindeepeningfinancialanalysisbeyondthestatebudget.Governmentsdevelopthefollowingcapacities.

Evaluateandcontroltherisksofindividualprogramsandcommitments.

Anyexpectationthatthegovernmentwillextendfinancialsupportofvariouskindsinthefuturerepresentsapotentialfiscalrisk.Thisriskreflectsacomplexsetofparticularrisksanddependsonthedesignoftheprogramordelineationofthecommitment.Evaluationoftheparticularrisksofeachindividualprogramallowsthedesignofsuchaprogramtobeoptimized.Riskevaluationenablesthegovernmenttodifferentiatethoserisksitcancontrolreasonablywellfromthosefullyunderthecontrolofotherparties.Withaproperunderstandingoftherisksinvolved,thegovernmentcandevelopeffectiverisk-sharing,regulatory,andcontrolmechanisms,enablingittominimizemoralhazard,monitorperformanceofthepartiesundertheprogram,andpreventadefault.Forexample,forguaranteesandstateinsurance,anoptimallydesignedcontractislikelytocover30percentto50percentofthevalueandthelastportionofthelossratherthanthefirstportion.

RiskevaluationandprogramdesigncapacityislikelytobebestplacedwiththeMinistryofFinance,whichshouldhavetheauthoritytoapproveanddisapproveanypotentialgovernmentfinancialcommitments.Thelackofsuchacapacitycausesgovernmentstoroutinelyextendguaranteesandinsurancecoveringallriskstothefullextent.Theseguaranteesdistortthemarketsandhaveahigh

probabilityofbeingcalled.Integratedmarketsprovidebetterdataforstatisticalanalysisand,thus,makeiteasierforgovernmentsandinvestorstoestimaterisksthroughoptionspricingandothermodels.Thequestionisnotwhethertheestimatesoffinancialriskandthepotentialcostofgovernmentprogramsareexactlycorrect,butratherwhethertheyimprovethequalityofinformationavailabletopolicymakersandthepublic.

Forindividualprogramsortheirgroupings,governmentsshouldtrytocontractoutsomerisksand/orriskmanagementfunctionsandpurchasereinsurancefromprivatefirms.Governmentsshouldalsoseektoderegulateinsurancemarketsandencouragetheentranceofforeigninsurancefirmsintodomesticmarketsthathavealimitedriskpool.Risks,suchascropinsuranceandfloodinsurance,whichhavebeenuninsurablebytheprivatesectorofasinglecountrybecauseofalim-

itedriskpool,becomeinsurableininternationallyintegratedmarkets;andgovernmentsthusmaydisinvolvethemselvesfromsuchprograms.Europeanintegrationisexpectedtofurtherexpandriskpoolingand,thus,opengreaterpossibilitiesforprivateinsurancebusiness.TheInternationalMonetaryFund,theWorldBank,andothermultilateralagenciesprovidesomekindofreinsuranceforthelargestfinancialrisksandcrisesgovernmentspotentiallyface.

Managesovereignriskexposureincludingcontingentliabilitiesinasingleportfolio.

Governmentscanunderstandandcontroltheiroverallriskexposure,onlyiftheyincludealltheirmajorfinancialrisksinasingleportfolioofpublicliabilities.Incorporationofallrisksinasingleportfolioallowsevaluationofexistingcorrelationsandalternativemacroeconomicandpolicyscenarios.Thesingleportfolioofpublicliabilitiesmaybedevelopedasanextensionofthepublicdebtdatabaseandmanagedbythestatedebtmanagementoffice.

Inasingleportfoliowiththedirectpublicdebt,governmentcontingentliabilitiesbecomesubjecttothegovernment'scomprehensiveriskstrategy.Governmentguidelinesregardingoverallriskexposureanddebtmanagementtoolssuchasbenchmarkingwould,inthesingleportfolio,relatetobothdirectandcontingentliabilities.Thus,inpolicyanalysis,thegovernmentwouldanalyzeanycommitmentintermsofitsimplicationsfortheoverallgovernmentriskexposurebeforeitisassumed.Thedebtmanagementofficewouldbeaccountableforthequalityofsuchananalysisandthegovernmentfordecidinginthecontextofthisanalysis.

Preventtheemergenceoffiscalrisksfrombothpublicandprivatesectors.

Fiscalrisksarereducedwhengovernmentsstrivetopreventmarket

failuresandminimizethemoralhazardassociatedwiththeirprograms,commitments,andresidualresponsibilityformarketfailures.Preventionofmarketfailuresrequiresanefficientregulatoryandlawenforcementsystemandaverycomprehensivepublicdisclosureofinformationbymarketagentssothatrisksareunderstoodinthemarketsandautoregulativemarketmechanismsareatwork.

Governmentscandetectearlywarningsoffiscalrisksiftheymonitorrisksinboththepublicandprivatesectorscarefully.Preventionoffiscalrisksisanissueofanalyticaltools,incentives,andthecapacitiesofparliamentarians,civilservants,regulators,supervisors,andmarketagents.Futureresearchshouldderiverelevantindicatorstoexpeditiouslywarnaboutthedangerstofiscalstability.Theseindicatorsarelikelytoincludethetotalfacevalueofallcontingent

liabilities,theoverallriskassumedbythegovernment,thesizeandallocationofforeignprivateborrowingandinvestment,accrual-basedbudgetdeficit,andsoforth.Riskmonitoringcapacitiesofgovernmentsarepotentiallybestdevelopedatcentralbanks,areflectionoftheirroleinbalance-of-paymentsdatacollection,and,inmanyinstances,banksupervision.Specificrisksmaybewellmonitoredbyspecificregulatoryandsupervisionagenciessuchassecuritiesandexchangecommission.Ultimately,theministryoffinanceandstatedebtmanagementofficeshallbeartheresponsibilityformonitoringtheoverallriskexposureofthegovernment.

Conclusions.

Governmentsareexposedtoincreasedfiscalrisksanduncertaintiesasaresultofthevolumeandvolatilityofprivatecapitalflows,ofthechangingroleofstatefromdirectprovisionandfinancingofservicestoguaranteeingthattheprivatesectorwillaccomplishcertainoutcomes,ofbiasesinpolicydecisionmakingunderfiscalconstraints,andofmoralhazardinthemarketsassociatedwithpotentialstateinterventions.Fiscalrisksareparticularlylargefortransitioncountries,thatfacegreatermarketopacityandagreaterdangerofmarketfailures.Potentialfiscalrisksofgovernmentsareoffourtypes:directandcontingent,eachofwhichmaybeexplicitandimplicit.Mostgovernmentandfiscalsustainabilityanalysesconcentrateondirectliabilities(thestatebudget,publicdebtand,recently,futurepensionandsocialsecurityliabilities).Recentinternationalexperiences,however,indicatethatsignificantfiscalinstabilitymayresultfromcontingentliabilities(stateguaranteesonprivatecredit,depositinsurance,debtofstate-guaranteedinstitutions,andimplicitcontingentliabilitiessuchasnonguaranteedforeignprivateborrowingandinvestments,bankingfailures,andthebalanceofpaymentscrisis).

Itiscrucialthatgovernmentsunderstandtheentirescopeoftheir

fiscalrisks,includingthecontingentliabilities.Acriticallyimportantaspectoflong-termfiscalstabilityandequityisthatgovernmentspubliclyrecognizethelimitsofthestateandtheassociatedfiscalrisks,includingcontingentliabilities.Politicians'andcivilservants'publicaccountabilitymustbedefinedbeyondthestatebudgettosupportprudentandefficienthandlingofthegovernment'sfiscalrisks.Governmentsneedtoaddressthesourcesoftheserisksatthreelevels:byunderstandingexistingandpotentialfiscalrisksandpursuepoliciestowardagood-qualityfiscaladjustment;bydevelopinganinstitutionalframeworkthatinvolvesadequatepublicdisclosureandincentivesinrespecttofiscalrisksand

promotesfiscalprudenceandequityinallgovernmentprograms,includingpromisesofpotentialsupportextendedoutsidethebudget;andbybuildingandemployinginstitutionalcapacitiestoevaluate,regulate,controlandpreventfinancialrisksinbothpublicandprivatesectors.

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Mody,Ashoka,andChristopherM.Lewis.1997.TheManagementofContingentLiabilities:ARiskManagementFrameworkforNationalGovernments.InTimothyIrwinandothers,eds.DealingWithPublicRiskinPrivateInfrastructure.WorldBankLatinAmericanandCaribbeanStudies.Washington,D.C.WorldBank.

Mody,Ashoka,andDilipK.Patro.1996.ValuingandAccountingforLoanGuarantees.TheWorldBankResearchObserver,vol.11,no.1,February.

Pennacchi,George.1997.GovernmentGuaranteesforOldAge

Income.PreparedfortheMay1213,1997,symposiumProspectsforSocialSecurityReform,sponsoredbythepensionresearchCouncilofTheWhartonSchool,UniversityofPennsylvania.

PublicSectorCommitteeoftheInternationalFederationofAccountants.1998.GuidelineforGovernmentalFinancialReporting.Draft.

Selowsky,Marcelo.1997.FiscalDeficitsandtheQualityofFiscalAdjustment.PaperpresentedattheEUAccessionandSovereignDebtManagementseminar,Brussels,December1516,andincludedinthisvolume.

Standard&Poor's.1997.Criteria:FinancialSystemStressandSovereignCreditRisk.SovereignRatingsService,December.

UnitedStatesGeneralAccountingOffice.1993.BankInsuranceFund:ReviewofLossEstimationMethodologies.Washington,D.C.

WorldDevelopmentReport.1997.TheStateInaChangingWorld.WorldBank,Washington,D.C.

Endnotes

1Intheproposedinternationalaccountingstandardsforgovernments,aliabilityisdefinedasapresentobligationofthegovernmentarisingfrompastevents,thesettlementofwhichisexpectedtoresultinanoutflowfromthegovernmentofresourcesembodyingeconomicbenefits(PublicSectorCommitteeoftheInternationalFederationofAccountants,1998).

2InternationalAccountingStandardsdefineacontingencyasaconditionorsituation,theultimateoutcomeofwhichwillbeconfirmedonlyontheoccurrence,ornonoccurrence,ofoneormorefutureevents(InternationalAccountingStandardsCommittee,1997).

3Foradetaileddiscussionofthevaluationmethodologiesforloanguaranteesandothercontingentliabilities,seeModyandPatro(1997)andModyandLewis(1997).

4InmanyEUapplicantcountries,bankingsystemsstillrepresentaverystrongfiscalrisk.TheestimatedcontingentliabilityfacinggovernmentfromtherisksofthedomesticbankingsystemhasbeenestimatedbyStandard&Poor'satthelevelofabout5percentto10percentofGDPinHungary,Poland,andSlovenia,about10percentto15percentofGDPintheSlovakRepublic,and25percentto35percentofGDPintheCzechRepublic(Standard&Poor's,1997).

5Inamultipillarpensionsystem,theriskofgovernmentguaranteesonreturnsfromprivatepensionfundsdependsontheanalysisandassessmentoftherisksofguaranteestobecalled,andonthegovernmentcapacitytoregulateandsuperviseprivatepensionfundsandcopewiththeproblemofasymmetricinformationwithouthightransactioncosts.Inthedirectprovisionofpensionbenefits,totalgovernmentoutlaysarepredictable,andthegovernmentmainlyseekstobalancethesizeofbenefits,theretirementage,andcontributionstomakethepensionprovisionfiscallysustainable.Inthe

guaranteedportionofthepensionsystem,citizenssavefortheirretirementprivately,butthegovernmentfacesahighuncertaintyabouttheamountsandtimingofpublicfinancingthatwouldberequiredincasepensionguaranteesfalldue.

6Inaparalleltoaconclusionofthe1997WDRthatgovernmentsshouldadjusttheextentoftheirinterventionstotheleveloftheirinstitutionalcapacities,thispaperarguesthatgovernmentsshouldadjusttheiroverallriskexposuretotheirriskmanagementcapacities.

7The1992TreatyofMaastrichtsetsthefollowingfiscallimits:Generalgovernmentdeficitasanetborrowingrequirement:3percentofGDP;totalgrossdebtatnominalvalueoutstandingattheendoftheyearandconsolidatedwithingeneralgovernment:60percentofGDP.BothdeficitanddebtarecalculatedaccordingtoEuropeanSystemofNationalAccountsESA78.ESA78definesgeneralgovernmentonlyroughlyanddoesnotrequirerecordingofgovernmenttransactionsonanaccrualbasisandofassetsatmarketvalue.Fordescriptionofopportunisticbudgetary-accountingbehaviorsofgovernmentsunderfiscalconstraints,appliedtotheEuropeanUnion,seeForte1997.ForadiscussionofthequalityoffiscaladjustmentinEUapplicantcountries,seethepaperbySelowskyinthisvolume.Forempiricalevidenceofthelinkagebetweenassetdilutionandfiscaladjustment,seeEasterly1998.

8Foradiscussionoftherulesofprobabilityandriskassessment,seePublicSectorCommitteeoftheInternationalFederationofAccountants,1998.

9Accrual-basedaccountinginthepublicsectorhasbecomeatrendinbothEUandOECDcountries,andEUapplicantcountrieswilleventuallyhavetoconform.InternationalaccrualaccountingstandardsforthepublicsectorareproposedandelaboratedbythePublicSectorCommitteeoftheInternationalFederationof

Accountants.Accrual-basedaccountingisalsoimpliedbytheproposedupdateoftheIMFGovernmentFinancialStatisticsmethodology.Accrual-basedbudgetinghasbeenimplementedinNewZealandandIcelandandhasbeenproposedtobeimplementedintheUnitedKingdomandtheNetherlands.

10Riskassessmentmethodologiesareusedbygovernmentsinsomecountriesforvariousguaranteesandinsuranceprograms,suchasdepositinsurance,pensioninsurance,disasterinsurance,lifeinsurance,etc.Often,thereisalackofconsensusonriskassessmentmethods,particularlyondepositinsurance.IntheUnitedStates,forexample,optionpricingaswellaslossestimationmethodologiesareused.Foranalysisanddiscussion,seeGAO1997,Penacchi1997andModyandLewis,1997.

PublicDebtManagementandMonetaryPolicy:MacroeconomicandInstitutionalInteractionsMarioI.Blejer

Thesenotesdealwithtwodistinctiveaspectsofpublic-debtmanagementissues.Thefirstpartreviewstheconnections,atthemacroeconomiclevel,betweenmonetarypolicyandpublic-debtmanagementanddiscussessomeofthemajorinterrelationshipsintheirdesignandimplementation.Thesecondpartexaminestheissueofproperinstitutionalarrangementsformacroeconomicallyefficientdebtmanagementandaddressesthepolicylinkagesandtheneedforoperationalcoordinationbetweencentralbanksandthetreasuryor,intherelevantcases,thefinanceministry.

TheInterrelationshipsbetweenMonetaryPolicyandPublicDebtManagement

Theimplementationofmonetarypoliciesandthemanagementofthepublicdebtareintrinsicallyconnectedaspectsofmacroeconomicpolicyand,therefore,actionstakeninoneofthesespherestendtoaffecttheotherimmediatelyandintensely.Theaimofthesepoliciesineachsphere,however,isdifferent.Themainareasofconcernforthemonetaryauthorityisthepropermonetarymanagementoftheeconomy,whiletheconcernofthedebt-managementauthorityistheprovisionofproperandefficientfinancingofthefiscaldeficit.Althoughthesetwofunctionsappear,onthesurface,tobewell-definedandseparated,theyarecloselyassociatedandmutuallyinterdependent.Thus,aspecificmonetarypolicystancecouldaltersignificantlythecapacityofthegovernmenttofinancethebudgeddeficitbyaffectingthecostofdebtservicingandbyconditioningthevolumeofavailablefinancingsources.Ontheotherhand,thesizeof

thefiscalgapthatrequiresdebtfinancing,aswellastheplanneddebtstrategytobefollowed,constitutesaconstraintintheabilityofthemonetaryauthoritytoachieveitsindependentmonetarygoals.Wereviewheresomeoftheseinteractions.

EffectsofDebtManagementonMonetaryPolicy

Thesizeandattributesoftheoutstandingstockofpublicdebt,aswellastheexpectedflowsthatareboundtoaltertheexistingdebtvolume,shouldbetakenintoconsiderationwhenmonetarypolicyisformulated.Thisissobecausebothstockandflowsarecertaintoinfluencethepublic'sdemandformoneyandtheirreactiontocentralbankactions.

Publicdebtmayaffectthedemandformoneyintwooppositeways.Ontheonehand,andunlessthepublicbelievesthatalltheoutstandingstockofdebtwouldgiverisetofuturetaxation(Ricardianequivalence),itispossibletopostulateapositiverelationshipbetweenthestockofdebtandthedemandformoney,giventhatincreasesindebtcouldhaveapositiveeffectonwealth.Ontheotherhand,liquidgovernmentpaperalsocanberegardedasasubstituteformoneybalancesand,therefore,maytendtocontractmoneydemand.Moreover,ifthepublicbelievesthereisapossibilitythat,inthefuture,atleastpartofthepublicdebtwillbemonetized,increasesinthestockofdebtmayraiseinflationaryexpectationsandreducethedemandforrealbalances.Sincethecentralbank,initsdesignofmonetarypolicy,wouldhavetotakeintoaccountthestanceofmoneydemand,itwouldhavetoconsidertheseeffectsofpublicdebtandassesswhichofthemmayprevail.

Inaddition,thestructureandconditionsofoutstandingpublicdebtanddebtmanagementstrategyhaveabearingoninterestrates.Inparticular,ifthepublicisskepticalaboutthesustainabilityofthegovernmentdebt,interestrateswilltendtorise.Ontheotherhand,ifthecredibilityofgovernmentfiscaltargetsishigh(andifthesetargetsimplycontinuousfiscalsolvency),itislikelythatinterestrateswillease.Theseeffectsoninterestrates(whicharerelativelyindependentoftheprecisemonetarystance)havetobeweighedbythemonetary

authoritywhenitdevisesitsmonetarystrategy.

Theconsequencesofalternativedebt-managementstrategiesonthelevelandstructureofinterestratesmayconditioncentralbankpoliciesinanadditional,andnotalwaysdesirable,manner.Ifthepublicbecomesdoubtfulaboutthesustainabilityofpublicdebt,thecentralbankmaybecalledbythegovernmenttointerveneinfinancialmarketsinordertoattainalowercostoffinancinggovernmentdebt.Thiscouldbeachievedinavarietyofways.Thecentralbankmaydirectlypurchasepublicdebt,whichwouldcomplicatemonetarymanagementbecausethemonetarybasewouldexpandasthegovernmentspendstheproceedsofthesale.Alternatively,thecentralbankmaysetportfoliorestrictions,forcingcertainmarketparticipantstoholdpublicdebtatbelow-marketrates.Pensionfundsandinsurancecompanies,forexample,couldberequiredtoholdgovernmentsecuritiesaspartoftheir

technicalreservesandthecentralbankcouldimposeliquidityrequirementsoncommercialbanks,compellingthemtoholdpublicdebtinstruments(thesetypesofmeasureshavebeenusedinadiversityofcountries,includingBrazil,Cyprus,andIndia).Thesetypeofrequirementsareimplicittaxesonfinancialinstitutions.Therefore,ifthecentralbankisobligedtoreducethecostofservicingpublicdebt,itwouldbecoercedintorepressingthefinancialsector,creatingdistortionsandincentivesfordisintermediation.

Anotherwayinwhichthemanagementofpublicdebtmayaffectthestanceofmonetarypolicyisthroughthedecisionofhowtodistributeborrowingbetweendomesticandforeignsources.Ingeneral,foreignborrowingtendstoresultinanexpansionofthemonetarybaseasthegovernmentchangestheforeignexchangeintodomesticcurrencyinordertomeetitsfinancingneeds.Furthermore,ifthecentralbankassumestheexchangeriskinvolvedintheoperation,itmaysufferseverelossesincaseofadevaluation.Ofcourse,iftheselossesaremonetized,anadditionalmonetaryexpansioncouldresult.

TheImpactofMonetaryPolicyonDebtManagement

Justasthemodalitiesofdebtmanagementareboundtohaveadirectconsequenceonmonetarypolicies,theabilityofthefiscalauthoritytoplacedebtanddesignitsfinancingstrategyisconditioned,toasignificantextent,bythestanceandtheimplementationmethodsofmonetarypolicy.Thechannelsthroughwhichdebtmanagementisaffectedarevarious,includingtheoverallmonetaryconditions,theselectionandthedesignofthemonetaryinstrumentschosenbythecentralbank,andtheimplementationofspecificpoliciesaimedatpromotinganddevelopingthefinancialmarkets.

Theabilityofthefiscalauthoritytoobtaindebtfinancingislargelycontingentonthestanceofmonetarypolicy(particularlywhenthe

leveloftheoutstandingdebtishighanditsmaturityisshort).Anexpansionarymonetarypolicywill,ingeneral,improvetheconditionsfortheplacementofpublicdebtbecauseitwillincreasemarketliquidityandreduceinterestrates.However,ifexcessivemoneycreationresultsinacceleratinginflation,nominalinterestrates(thatincorporatethepublic'sinflationaryexpectations)wouldstarttoriseandthedebtmanagementauthoritywouldbeforcedtoadjusttheyieldsofpublicpaperaccordingly(ortointroduceindexationclausesthatwouldinsuretheinvestors'realreturn).Ofcourse,asimilaranalysisappliestorestrictivemonetarypolicies.Whileinitiallytheymayincreaserealinterestrates,andthereforeincreasethecostofservicingpublicdebt,theymayeventuallyreduceinflationarypressuresandstrengthencredibilityintheabilityofthepublicsectortosustaintheprevailingdebtlevel.This

wouldeventuallyleadtoloweryieldsandtoareductioninthecostofdebtservicing.

1

Thecentralbankchoiceofmonetaryinstrumentsalsoaffectsgovernmentdebtmanagement.Forexample,thecentralbankcouldreducethecostofpublicsectordebtservicebyincreasingthelevelofliquidityofgovernmentsecurities(usingtheminitsopenmarketoperations)applyingcertainmodalitiesinitsrediscountpractices,andenactingsomespecificreserverequirementregulations.

Clearly,publicdebtinstrumentsarenotonlyameansforprovidingfinancingtothegovernment,buttheycanalsoserveasamonetarypolicyinstrument.Thecentralbankmustdecideifitsinterventionwouldbeperformedusingitsownpaperorbydealingongovernmentdebtinstruments.Whenthecentralbankparticipatesactively,forthepurposeofitsownmonetaryoperations,inthepublicdebtmarket,itenhancestheliquidityofpublicdebtand,therefore,contributestoreducegovernmentborrowingcosts.Butcentralbankutilizationofgovernmentsecuritiesforitsoperationsrequiresasignificantamountofcoordination.

Conceivably,thecentralbankmightissueitsownsecuritiesformonetarypolicyobjectivesandthetreasuryissuesgovernmentpapertosustaindebtmanagementgoals.Inthiscase,thecentralbankwouldcompetewiththegovernmentandtendtoincreasethecostofgovernmentborrowing.Itis,usuallyadvisablethattheidealchoice,fromthepointofviewoftheoperationoffinancialmarkets,therefore,isforthecentralbanktoconductitsopenmarketoperationsinthesecondarymarketforgovernmentsecuritieswhilethetreasury(orthedebtmanagementauthority)placesitsdebtinstrumentsintheprimarymarket.Thisavoidscrowdingoutandallowsboththemonetaryand

thefiscalauthoritiestopursuetheirowntargetssimultaneously,increasingtheliquidityofpublicdebt.2

Centralbankrediscountproceduresalsoaffecttheliquidityandthedemandforpublicdebtinstruments.Whenthecentralbankiswillingtorediscountgovernmentpaper(ortoacceptitasaloancollateral)investorsmaybewillingtoacceptalowerlevelofyieldsandreducethecostofpublicdebtservice.Moreover,ifthecentralbankiswillingtodiscountgovernmentpaperinfavorableterms,comparedwithprivatesectorpaper,itwouldlowertheborrowingcostofthetreasurycomparedwiththatofprivatecorporations.

Thedevelopmentofthefinancialmarkets,andthemeasurestakenbythemonetaryauthoritytoimproveitsfunctioning,couldalsobearonthedemandforandtheliquidityofgovernmentpaper.Forexample,theexistenceofdepositinsuranceschemesmayhaveanimpactonthemarketforpublicdebt.Depositinsurancetendstoincreasetheperceptionofthesafetyofdomesticdepositsandtomakethesedepositsaclosersubstituteforgovernmentpaper.Thiscanreducethedemand

forgovernmentdebt.However,ifthedepositinsuranceschemeisfundedandthefundsneedtobeinvested(atleastpartially)ingovernmentsecurities,theirdemandwouldtendtorise.

Inaddition,thecentralbankcouldalsocontributetotheliquidityofgovernmentpaperthroughtheimprovementofthepaymentsystem,whichwouldincludemechanismsforthetransferofthesesecurities,andbyorganizingandlicensingprimarydealersthat,inexchangeforthedesignation,wouldberequiredtoquotebuyandsellpricesandtotransactingovernmentpaper.

InstitutionalArrangementsforMacroeconomicallyEfficientDebtManagement

Multipleinterrelationshipsbetweendebtandmonetarymanagementrequireahighdegreeofcoordinationinordertoavoidduplications,contradictions,andinefficiencies.Toattaineffectivecoordination,suitablesupportinginstitutionalarrangementsmustbedeveloped.Thesearrangementscouldtakedifferentconfigurationsandreflectspecificcountryattributes.However,thecurrentgeneraltendencyinthisfieldistoincreasethedegreeofinstitutionalseparationregardingmonetaryandfiscalpolicyresponsibilities.Inordertoanalyzethefeaturescharacterizingsuchseparation,thequalitiesofthemostadequateinstitutionalarrangements,andthenatureofthecoordinationprocess,itisnecessarytoclarifythegenuinefunctionsofcentralbanksandoffinanceministriesandtreasuryinmarketeconomies.

Boththecentralbankresponsibilityfortheoperationofmonetarypoliciesandthetreasury'sresponsibilityforfinancinggovernmentdeficitsinvolvethesaleandpurchasesofsecurities.Theconcernsofbothentitiescouldbe,however,different.Thecentralbankisgenerallymoreinterestedinfosteringmarketliquiditybecausethiswouldenhanceitsabilitytoaffectmoreswiftlymonetaryconditions.

Thetreasury,ontheotherhand,generallywishestominimizethecostofborrowing.Insomecountries,thecentralbankandthetreasurytrytoavoidconflictbyissuingdifferenttypesofinstruments(centralbankbillsandtreasurybills).

3

Inothercasesthegovernmentdebtisutilizedbyboththecentralbankandthetreasurybuttheinstitutionsoperateondifferentmaturities(ingeneral,monetaryoperationsareconductedwithinstrumentsofshortermaturitiesthandebtfinancing).Asmentionedabove,however,ifmarketsaresufficientlydeveloped,bestpracticesareorientedtowardstheuseofthesameinstrumentsforbothmonetaryanddebtpurposesbutlimitingthecentralbanktoconductitsoperationsonlyinsecondarymarkets,leavingissuancesintheprimarymarketsolelytothetreasury.

Inallthesecases,however,closecoordinationbetweenthedifferentlevelsofpolicymakingisrequired.Sincethecentralbankoperatesinthefinancialmarketspracticallyonadailybasis,ithasaccumulatedexpertiseovertime,andhasacquiredthefacilitiestodealwiththecurrentmarketconditionswhicharealsorelevantforgovernmentdebtmanagementobjectives.Therefore,thecentralbankshould,atleast,beendowedwithacentraladvisoryroleinthedesignofpublicdebtmanagementstrategy.Inthiscontext,itisadvisablethatthecentralbankshouldhaveavoiceinthedesignandontheissuanceofdebtinstruments.Forexample,thecentralbankmustbeabletoinfluencethefeaturesandthecharacteristicsoftheinstrumentsthatwouldmakethemmoreappropriatefortradinginsecondarymarketsandforrepurchaseoperationsandforothermonetarypolicyobjectives.

Whiletheneedforcoordinationcannotbeoverstated,andwhilethemonetaryandthefiscalauthoritiesshouldindeedagreeonthespecificobjectivesofdebtissuing,thereisanincreasingtrendtowardsthestrengtheningoftheinstitutionaldivorcebetweendebtmanagementandmonetarypolicy.Thepracticalresultisthattheroleofcentralbanksasfiscalagentisbeingcutdown,whiletheagencyinchargeofdebtmanagementisstrengtheningitsresponsibilityformakingthepolicydecisionsregardingdebt-policystrategies.Thishasresultedinamoretransparentallocationofdebtmanagementfunctions.

TheLocationofDebtManagementFunctions

Publicdebtmanagementcomprisesanumberofquitewell-definedfunctions.Theseinclude:

1.ThePolicyfunction:designofthecharacteristicsofthedebtinstrumentstoattainthedesiredobjectives,includingthedecisiontoissuedomesticversusforeigndebt.

2.ThePlanningfunction:theprojectionoffiscalneedsandthe

preparationofapublicdebtprogramtomeettheseneeds.

3.TheMarketingfunction:puttinginplacethecommercializationarrangementforsellingandsettlingpublicdebt.

4.TheSecondaryMarketfunction:involvesthemanagementoftheoutstandingstockofpublicdebt.

5.TheAccountingfunction:involvesthemanagementofrecordsregardingthenewandoutstandingdebt.

6.TheAdvisoryfunction.

Eachoneofthesefunctionscouldbelocatedintheministryoffinance/treasuryorinthecentralbank.Itshouldbementionedthat

thereisnoagreedinternationalparadigmregardingtheirpreciselocation.Inoneextremeofthespectrumwefindcaseswherethecentralbankisthesinglefinancialagentofthegovernmentandsellsitssecuritiesintheprimarymarket,providesdirectcredittothegovernment,andperformsmostofthedebtmanagementfunctions.Attheotherend,wefindcasesinwhichtheministryoffinancefulfillsmostofthefunctionsaboveanddependsfortheexecutionofitsdecisiononanagency(treasury)directlyunderitssurveillance.

Itcouldbesaid,however,thatmostofthecountrieshavearrangementsthatfallbetweenthetwoextremes.Inpractice,themainobjectivesofpublicdebtmanagementplayacentralroleindeterminingthelocationofthevariousdebtmanagementfunctions.Ifthedevelopmentofsecondarymarketsandoffinancialmarketsingeneralbecomesthemaindebt-managementobjective,thecentralbankisexpectedtoassumeacentralroleinmakingthekeydecisionsregardingtype,size,andtimingofdebtissuance.Thiswouldbeacharacteristicsituationfortransitioncountries.Ontheotherhand,incountrieswheredevelopedmarketsareinexistence,themaingoalofdebtmanagementmaybecometheminimizationofinterestcosts.Inthiscase,thetreasurywouldtakeovermostoftheaspectsofdebtpolicy.

TheEstablishmentofaSeparateDebtManagementOffice.

Anissuethatshouldreceivespecificnoticeistheestablishmentofaseparatedebtmanagementofficethatmayfacilitatetheformalseparationofobjectives,instruments,andfunctions.ExamplesofcountriesadoptingthisstrategyincludeIreland,NewZealand,andSweden.Inthesecountries,capitalmarketsandsecondarygovernmentdebtmarketsarewelldevelopedandtheoverridingobjectiveofdebtmanagementhasturnedtowardscostminimization.Thesettingoftheseseparateofficesdoesnotreducetheneedfor

coordinationandverycarefularrangementsforconsultationandcooperationwiththecentralbankandtheministryoffinanceshouldbeputinplace.

Itisimportanttostressthatincountrieswherefinancialmarketsarejustbeginningtodevelop,suchastransitionalcountries,theestablishmentofaseparatedebtmanagementofficemay,infactcomplicateratherthanhelpthedevelopmentofthevariousdebtmanagementfunctions.Itis,therefore,generallyadvisedtokeep,inthesecountries,themaindebtmanagementfunctionsintheministryoffinanceinclosecollaborationwiththecentralbank.

Inaddition,insuchcircumstances,itisalsorecommendabletoappointformalcoordinationcommitteesfordebtmanagementpurposes.Thesecommittees,generallycomposedbytheministryoffinance,thetreasury,andthecentralbank,arespeciallyvaluableinprovidingthe

channelsforlearningabouttheotherinstitutions'objectivesandoperatingproceduresandpriorities,andcontributetothegenerationofacceptednormsabouthowmacroeconomicpoliciescouldbeimplementedinamutuallyreinforcingmanner.

References

PereiraLeite,Sergio,CoordinatingPublicDebtandMonetaryManagementDuringFinancialReforms,InternationalMonetaryFundWorkingPaper,October1992.

Quintyn,Marc,GovernmentSecuritiesversusCentralBankSecuritiesinDevelopingOpenMarketOperationsEvaluationandNeedforCoordinatingArrangements,InternationalMonetaryFundWorkingPaper,May1994.

Sundararajan,V.,PeterDattels,IanS.McCarthy,MartaCastelloBranco,andHansJ.Blommestein,TheCoordinationofDomesticPublicDebtandMonetaryManagementinEconomiesinTransitionIssuesandLessonsfromExperience,InternationalMonetaryFundWorkingPaper,December1994.

Endnotes

1Inthiscontextitisimportanttonotethatextremecontractionsinthemonetarystancemaygiverisetotheso-calledsnowballingeffect.Verytightmonetaryconditionsmayraiseinterestratestolevelsthat,perversely,resultinanexpansioninaggregatedemandbecauseofthegrowingvolumeofpublicsectorinterestpayments.

2Intheabsenceofnotdevelopedsecondarymarkets,boththedebt-managementandthemonetaryauthoritiesmayneedtooperateintheprimarymarket,requiringanevenhigherlevelofcooperationandcoordination.

3Examples:IntheU.S.,wheresecondarymarketsarewellestablished,theminimizationofdebt-servicecostsisacentralobjectiveofpolicy,and,therefore,thetreasurymanagesmostaspectsofpublicdebt.InFrance,acriticalobjectivehasbeentocaptureforeignresourcesasameanofminimizingdebtcosts.Here,also,thetreasuryassumesmostofthefunctions(including,policy,planning,andsecondaryfunctions).InCanada,thecentralbankwasthemaininstitutionthatinfluencedpublicdebtmanagementduringtheprocessoffinancialmarketdevelopment.However,bythemid-1980s,manyfunctionsweretransferredtothetreasuryascostminimizationbecamemoreimportantamongtheobjectives.

NewZealand'sTransitiontoResponsibleFiscalManagementGraemeWheeler

NewZealandhasundertakenoneofthemostcomprehensiveprogramsofeconomicreformattemptedamongOECDeconomiesfordecades.

AmongtheOrganizationforEconomicCooperationandDevelopment(OECD)groupofcountries,NewZealandhasthemostopencapitalaccountandderegulatedfinancialmarket;alongwiththeUnitedStates,themostderegulatedlabormarket;oneofthesimplestandmosttransparenttaxregimes;acomprehensivelyredefinedroleofthestate;andthebestlegislativeframeworkofanycountryforconductingmonetaryandfiscalpolicy.

SeveralsurveysfromUnitedStates-basedthinktanksrankNewZealandamongtheleadingeconomiesintheworldforopennessandcompetitiveness.Butitisfiscalmanagementthatthispaperwishestoconcentrateon.HowdidNewZealandturnaroundahistoryoffiscalrecklessnessandacripplingdebtpositionandestablishareputationforfiscalresponsibilitywithinadecade?

OriginsoftheCrisis

Theanswerliesintheseedsthatledtoaneconomiccrisisin1984.ThiscrisishadverycloseparallelstothatofMexicoin1993andthecrisisthatiscurrentlysweepingseveralEastAsianeconomies.ItalsocanbefoundinthebroadpublicacceptanceatthetimethatNewZealandwasinadeep-seatedcrisisandthatithadastronggovernmentthatwaspreparedtofaceuptothecostsassociatedwithbothcomprehensiveandprolongedadjustmentpolicies.

Thefollowingwerethemajorpolicydistortionsthatledtothe1984economiccrisis.Bythelate1970s,NewZealandprobablyhadthepoorestperformingeconomyinthewesternworld.Fromhavingthethirdhighestpercapitaincomeintheworldinthe1950s,NewZealandhadslippedtotwenty-thirdinpercapitarankingbythelate1970s.ThereareseveralpossiblereasonsforNewZealandbeinginthispredicament:

Thecountryhadnotdealtwellwiththeoilshocks.

Itsindustriessufferedalltheinefficienciesthatcomefromextensiveprotectionthroughquotas,tariffs,andsubsidies.

Ithadinefficientpublicsectorenterprises.

Ithadbuiltagold-platedwelfaresystemfinancedbyveryhightaxratesandextensiveborrowing.

Itsdebtoverhangplaceditinthegroupofveryhighlyindebtedcountries.

Fiscalandmonetarypolicywassetwithelectionsinmind.Hugefiscalbribeswereannouncedbeforeelectionsforanelectorateunwillingtocontemplatehowtheywouldbefinanced.Forexample,the1975electionwaswonbypromisingauniversalpensionscheme(withnomeanstesting)andanindexedpayoutformarriedcouplesequivalentto85percentoftheaverageincome.

Asunemploymentandindebtednessgrew,thegovernmentbecameevenmoreofarisktaker.Forexample,itbegananoilexplorationprogramtothesouthofNewZealandin2,000feetofwater,inacostlyandunsuccessfulbidtofindoiljustbeforeanelection.

Theeconomiccrisishitin1984inthepreludetotheelection.Atthetimethefiscaldeficitandthecurrentaccountdeficitbothstoodat7percentofGDPandrealprivatesectorcreditgrowthwas15percent.Therewasastrongexpectationthatthegovernmentwouldlosetheelectionandthattheincominggovernmentwoulddevaluethecurrency.Panickyinvestorsdrainedcapitalfromthecountry.Thegovernmentalmostranoutofforeignexchangereserves,anditborrowedextensivelyandexpensivelytotrytorebuildthem.

TheLaborParty,whichistraditionallyacenter-leftparty,wontheelectionwithanoverwhelmingmajorityandbeganaboldandwide-

rangingprogramofreforms.

TheMovetoResponsibleFiscalManagement

Theincominggovernmentsawthemovetoresponsiblefiscalmanagementasoneofthefourcornerstonesoftheturnaroundintheirinternationalcompetitiveness.Itrankedalongwithpricestability,anopeneconomy,andflexiblelabormarkets.Thegovernmentbelievedthatresponsiblefiscalmanagementwasnecessaryfortwomainreasons:

Alackoffiscaldisciplinebuildsonitself.Thelackofaclearroleforgovernmentfostersexpectationsthatitshouldtrytodeliveroutcomesinareaswhereitcannot.

Secondly,alackoffiscaldisciplineunderminestheprivatesector.Theprivatesectorbecomesinward-looking,heavilyfocusedonwhatgovernmentisdoingandsubjecttohugepolicyuncertainty.

Thissituationgeneratesaverynastydynamicthatwhencoupledwithashort-termpolicyfocusandalackofpolicytransparencyproducesrapidgrowthingovernmentspendingandinpublicindebtedness.Thekeytoreversingthissituationhasbeentoreexaminetheroleofgovernmentineveryaspect,tolengthenthefocusofpolicymanagementandtolockthatinwithinstitutionalchange.

Redefiningthegovernment'sroleintheeconomyinfivemajorareaswasessential.Redefiningtheroleofgovernmentinmacroeconomicstabilizationwasthefirstchallenge.Fiscalpolicy,withitselection-drivenfocus,hadbecomeanimportantsourceofmacroeconomicinstability.Theincominggovernmentdecidedthatfiscalpolicywouldbesetonamedium-termpathofdeficitreductionandthenaimedatrunningsurplusesandreducingdebt.Ifthegovernmentwastohavecredibilityinthisarea,bigchangesinthetransparencyoffiscalreportingwererequired.

Second,thegovernmentredefineditsroleintaxpolicy.Before1984,taxpolicywasaimedatpickingwinnersaswellasraisingrevenue.Thereweremanydifferenttypesoftaxes,manydifferenttaxrates,anarrowincometaxbase,andhighratesofincometax.Theeconomiccostofraisingrevenuewashigh.Thestrategyaimedatbroadeningthetaxbaseandloweringthetaxratesinordertoraisemorerevenueatlowereconomiccost.

Theincometaxscalewassimplifiedtotworateswithatoprateof33percent.Almostallexemptionswereremoved.Avalue-addedtaxwithaflatratewasintroducedandleviedonallgoodsandservicesproducedintheeconomywiththeexceptionofsomefinancialtransactions.

Third,thegovernmentredefineditsroleintheownershipofassets.Before1984,statesectorenterprisesaccountedforabout15percentofGDP.Theytypicallygeneratednofinancialreturnsandrequiredlargefiscaltransferstooperate.Thekeyproblemwasthattheywererequiredtoachieveconflictingobjectives,suchasprovidingsocialservices,generatingemployment,andbeingefficient.Intheinitialreformperiod,theseenterpriseswerecommercialized.Althoughthegovernmentretainedownership,theenterprisesweregivensinglecommercialobjectivesandbalancesheetgearingratiosthatmetindustrynorms.Boardsofdirectorswereappointed,andtheyoperatedatarmslengthfromthegovernment.Oncetheenterpriseswereonasoundcommercialfooting,theywereusuallysold.Since1987,mostofthegovernments'state-ownedenterpriseshavebeenprivatized.Allprivatizationreceiptshavebeenusedtorepaythegovernments'netforeigncurrencydebt.

RedefiningPublicSectorManagement

ThegovernmentoverhauledNewZealand'spublicsectorfinancialmanagementsystem.Headsofgovernmentdepartmentswereplacedonfive-yearcontracts.Theyweremadethelegalemployersofthestaffintheirofficesandwerefreetonegotiateallconditionsofemployment,includingsalaries.Performancecontractsbetweenministersandheadsofdepartmentswereintroducedthatspecifiedtheoutputsgovernmentdepartmentswouldproduce,theirquality,andtheirtimeliness.Departmentsweremaderesponsiblefortheoutputofgoodsandservices,andministersweremaderesponsibleforselectingandpurchasingtheoutputmixtoachievegovernmentoutcomes.Thefocusofreportingmovedawayfromwhatdepartmentsconsumetowhattheyproduce.Accrualaccountingwasintroducedintoallgovernmentdepartments,andbudgetingandreportingmovedtoanoutputbasis.

AllgovernmentagencieshavealsobeenrequiredtopreparefinancialstatementsconsistentwithGenerallyAcceptedAccountingPrinciples(GAAP).Acompletesetoffinancialstatementsforthegovernmentwasfirstproducedin1991,andgovernmentfinancialstatementsarenowproducedmonthly.

RedefiningtheRoleofGovernmentinExpenditure

Theinitialreformsremovedallindustrysubsidiesaspartofmovingawayfrompickingwinnerstoestablishingalevelplayingfield.Thesecondphaseandthiswasthemostcriticalintermsofsecuringexpenditurecontrolwastoreviewthegovernment'sroleinprovidingsocialtransfers.Pensionpaymentswerefrozenattheirthencurrentlevel,andatimetablewasintroducedtoraisethepensionagefrom60to65overa10-yearperiod.Overtime,pensionlevelswerealsotobereducedsubstantiallyinrelationtotheaveragewage.Otherbenefits

werecutby9percentinordertoreduceexpenditureandimprovetheincentivestowork.Userpayprincipleswereintroducedintotertiaryeducationandhealth(exceptforthoseonlowincomes).Expenditureondepartmentaloutputswascutsignificantly.

ResultsofTheseFiscalMeasures

Inthedecadeafter1984,thenumberofpeopleemployedintheNewZealandpublicsectordeclinedby60percent.

Thefiscalpositionhasbeencompletelytransformed.GovernmentspendingasapercentageofGDPhasfallenbymorethan10per-

centagepointsandforthepastfouryearsthegovernmenthashadfiscalsurplusesofabout3percentofGDP.

Netpublicdebthasfallendramaticallyfrommorethan50percentofGDPsixyearsagoto27percentofGDPcurrently.Theobjectiveistoreducenetpublicdebttobelow20percentofGDP.Thegovernmenthasalreadyachievedzeronetforeigncurrencydebt.

FactorsHelpingtoLockinResponsibleFiscalManagement.

First,theredefinitionoftheroleofgovernmenthasbeenaccepted.Althoughthereisstilladebateabouttherightlevelofsocialspending,thereisvirtuallynodemandforactivistfiscalpolicy.Thelevelplayingfieldconceptisacceptedbybusiness,andthereislittledemandforspecialtaxbreaksorsubsidies.Commercialenterprisesownedbygovernmentsareexpectedtomakenormalreturnsoncapital,andallmajorpoliticalpartiesarecommittedtocontinueddebtreduction.

Anotherimportantdisciplinehasbeenacceptancethatfiscalpolicyisheavilyconstrainedbymonetarypolicy.Thisisparticularlythecasewhenthegovernmenthasaveryopencapitalaccountandafloatingexchangerate.Inaddition,monetarypolicyinNewZealandisconductedbyanindependentcentralbankthathasthesoleobjectiveofdeliveringpricestability(currentlydefinedasanannualinflationrangeof1to3percent).

AthirdandveryimportantdisciplinehasbeentheFiscalResponsibilityAct,whichprovidesthelegislativeframeworkfortheconductoffiscalpolicyinNewZealand.Thisactwaspromptedbytheinsolvencyofthelargestbankintheeconomy,whichwasgovernment-ownedatthetime.TheBankofNewZealandultimatelyrequiredarecapitalizationequivalenttooneandone-halfofGDP.Theneedforrecapitalization,whichbecameevidentveryshortlybeforean

election,wasnotdisclosedbythegovernmentatthetime.

Thisactrequiresgovernmentsto:

Followalegislatedsetoffiveprinciplesofresponsiblefiscalmanagement,suchasachievingprudentdebtlevelsbyrunningfiscalsurplusesandpursuingpoliciesconsistentwithareasonabledegreeofpredictabilityaboutthelevelandstabilityoffuturetaxrates.Governmentsarerequiredtopubliclyassesstheirpolicyagainstthesefiveprinciples.Governmentsmaytemporarilydepartfromtheseprinciples,buttheymustdosopublicly,explainwhytheyhavedeparted,andrevealhowandwhentheyintendtoconformtotheseprinciples.

Theactalsorequiresgovernmentstopublishtheirstrategicprioritiesforthebudgetandtheiroverallfiscalobjectivesseveralmonthsbeforethebudget.OnbudgetnighttheNewZealandTreasurypublishesareportthatassessesthebudget'sintentionsbycomparingthemwiththosepublishedinthestrategypaperandtheprinciplesprescribedintheFiscalResponsibilityAct.

Thetreasuryisalsorequiredtopublishregularforecastsontheimpactoffiscalpolicy,ratherthanrelyingonthejudgmentofthegovernment.Thesereportscontainthree-yeareconomicandfiscalprojectionsbasedonallgovernmentpolicydecisions,withallvaluationsbasedonGAAPprinciples.Toensurethatthesefiscalforecastsarecomprehensive,thethree-yearforecastsaretoincludeannualforecastsofthegovernment'sbalancesheet;itsoperatingstatement,itsflowoffundsstatement,andastatementofborrowings.

Toassistthetreasuryinthisrole,thegovernmentisrequiredtopublishallitsspendingandtaxpolicydecisionsandcommitments,discloseallcontingentliabilitiesonitsbooksandidentifyallthefiscalrisksitisfacing.Itmustalsoindicateanysignificantchangesinitsaccountingpolicies.Failuretodisclosedollaramountsaroundrisksisonlypermittedifitwouldcompromisethegovernments'commercialinterests.Allofthisinformationispublishedalongwiththetreasury'sfiscalprojections.AllreportsproducedundertheFiscalResponsibilityActarereferredtoaparliamentaryselectcommitteefordiscussion.

BenefitsofGreaterFiscalTransparency

Thesefar-reachingdisclosurerequirementsforceagovernmenttobetransparentaboutitsfiscalintentionsandtheshort-andlong-termimpactofitsspendingandtaxationdecisions.Thisemphasisontransparencyanddisclosureoffiscalrisksandcontingentliabilities

hasproducedsomemajorbenefits.Ithasforcedgovernmentstogivemoreweighttothelong-termimpactofspendingandtaxdecisions,andithasledtomoresustainablefiscalpolicy.

Second,ithassignificantlyenhancedthecredibilityofthegovernment'seconomicstrategy.This,inturn,hashelpedencourageverystrongprivatecapitalinflowsintoNewZealand.Annualforeigndirectinvestmenthasbeenabout5percentofGDPinrecentyears.Foreigninvestorsownabout60percentoftheequitymarketandholdover70percentofthegovernmentfixedincomemarket.Thelattereffecthasbeenasignificantinfluenceinloweringlong-terminterestratesinNewZealand.

ItisencouragingthatallmajorpoliticalpartiessupporttheFiscalResponsibilityActandtheReserveBankAct,whichmakesNewZealand'sCentralBankoneofthemostindependentintheworld.Itispossibletoturnaroundaverybadfiscalpositionandhelplockinimprovementsbyimposingrealdisciplinesonfiscalpolicy.InNewZealand'scase,thatrequired:

Stronggovernmentswhowerewillingtoreexaminetheirroleineveryaspectofpublicpolicyand,particularly,intheareaofsocialpolicy.

Italsorequiredacceptancethatmonetarypolicyposesrealdisciplinesonfiscalpolicy,andthatformonetarypolicytobesuccessfulitmustbesupportedbyothereconomicreformssuchasreductionsinborderprotection,extensivederegulation,andcomprehensivelabormarketreform.

Italsorequiredalegislativeframeworkthatimposedahighleveloftransparencyandalong-termfocusontheoperationoffiscalpolicy.

NewZealand'sfiscalmanagementpoliciesdonotstopdebateaboutimportantpoliticaldecisionsnorshouldthey.ThereisstillactivedebateinNewZealandaboutthesizeofgovernmentexpenditure,especiallyinthesocialarea.Butthatdebateismuchbetterinformedaboutthelongertermcostsandfinancingimplicationsofdifferentchoicesandthelongertermdemographicpressuresonthebudget.

ManagementStrategyoftheBelgianPublicDebtwithRegardtotheEuropeanMonetaryUnion:TheChallengesoftheTransitionLouisdeMontpellier

Introduction

TheaccessiontotheEuropeanMonetaryUnion(EMU)presentsmajorchallengestomanagersofpublicdebtacrossEurope.Havingnowidentifiedthesechallenges,theBelgianTreasuryhasbegunrespondingtothem.TheTreasury'spreparationtomovetowardanEMU-widefinancialmarketisbasedonafundamentalinferenceandanimportantassumption.AnintegratedfinancialmarketunderEMUwillmeanthateachissuer,andespeciallyasovereignissuer,willlosethenaturalprotectionofitsdomesticcurrency,asdomesticorforeigninvestorswillhaveamuchbroadercredituniversedenominatedinthesamecurrency.TheTreasuryisalsomakingtheconservativeassumptionthatsuchabroadinvestmentdiversificationcouldoccurratherquickly,andindeeditbelievesithasalreadybegun.Onthebasisofthisassumption,anysovereignissuershouldrefrainfromprotectionistbehaviorregardinginternationalinvestors.Onthecontrary,anysovereignissuerhasavestedinteresttobeextremelyproactivetowardthem.

BeforeexplaininghowtheTreasuryhasstructuredtheKingdom'sdebtmanagementstrategyinresponsetothesechallenges,itmaybeusefultosummarizethemacroeconomicpoliciesbeingimplementedinBelgiumsinceseveralyearsinthisrapidlyevolvingEuropeancontext.

MacroeconomicContext

TheroadtotheEuropeanMonetaryUnionhasbeenanintegralpartofandadrivingforcebehindthemacroeconomicmanagementplanoftheKingdom,evenbeforetheMaastrichtTreatywassignedinFebruaryof1992.Indeed,theBelgianGovernmenthadalreadyembarkedontheroadtofiscalstabilizationsoonafterthepeggingof

theBelgianfranctothestrongestcurrenciesoftheEuropeanMonetarySystemin1983.

Sincetheendoftherecessionoftheearly1990s,theausteritymeasurestakenhaveshowedtheirmosttangibleresults,whichhasallowedBelgiumtobepartofthefirstgroupofEMUparticipatingcountries.Between1993and1997,considerableprogresswasmadeinreducingthepublicdeficitandthegovernmentdebtratio.Asaresult,thedeficitdeclinedby5percentagepointsofthegrossdomesticproduct(GDP),to2.1percentattheendof1997,whereasthepublicdebtratiodeclinedby13percentagepointsofGDP,to122.2percentofGDP.Theprimarysurplus(thatis,thebudgetdeficitwiththeexclusionofinterestpaymentsonpublicdebt)roseto5.8percentofGDP.

Theauthoritieshavecommittedtomaintainforyearstocomeasufficientlyhighlevelofprimarysurplustoguaranteethatthedebtreductionprocesswillcontinue,evenifeconomicgrowthslowsdown.ThiswillbeachievedthroughBelgium'sNewConvergenceProgram,whichwasapprovedbytheBelgianGovernmentinDecemberof1996andendorsedbytheEuropeanCouncilofFinanceMinistersinFebruaryof1997.

Furthermore,morethan90percentoftheBelgianpublicdebtisheldbyresidentsofBelgiumandLuxembourg.Thisfactreflectsthehighsavingsofprivateindividualsandtheprivatesector.Inthisway,theprivatesectorcannotonlyfinanceitsowninvestments,aswellasmeetthenetfinancingrequirementofthegovernment,butalsoitcanlendresourcestotherestoftheworld,equaltothecurrentaccountsurplus.Indeed,forseveralyears,BelgiumhashadoneofthehighestcurrentaccountsurplusesrelativetoGDPintheworld;in1997,itreached5percentofGDP.Throughthisaccumulationofsurplus,Belgiumholdsthehighestnetexternalassetsinrelativeterms.

Outstandingassetsoftheprivateindividualsandtheprivatesectorsubstantiallyexceedthegovernment'snetdebt;therefore,despiteitshighpublicdebtratio,Belgiumisnotindebtedabroad.Onthecontrary,itiscreditortotherestoftheworld.

Between1993and1997,BelgiumenjoyedoneofthemoststablemonetaryenvironmentsofthewholeEuropeanUnion,thankstotheconservativemonetarypolicyfollowedbytheNationalBankofBelgium,theindependentcentralbank.Between1994and1997,inflationfluctuatedbetween2.4percentand1.5percent,reachingaslowas1.6percentin1997.ApartfromtheERMcrisisin1993,duringwhichtheBelgianfrancbrieflydepreciatedashighas5percentcomparedwiththeDEM,theBelgianfranchasnotdevalued,unlikesomeotherEuropeancurrencies,forthelastfouryearsandhaslargelyremainedwithinitsfluctuationbandof2.25percent.In1997,thefluctuationofthefranccomparedwiththeDEMseldomexceeded0.1percent.Similarly,short-termandlong-terminterestrateshavealmosttotallyreachedtheGermanrates:Since1997,whenashortperiodofliquidityrationinginthemoney

marketoccurred,theshort-termdifferencebetweenBelgianandGermanrateshasvirtuallydisappeared;thelong-term(10years)differencehasfluctuatedaround10basispoints,animprovementoveradifferenceofmorethan100basispointsin1993.

NationalChangeoverPlantoEuropeanMonetaryUnion

ThemanagementstrategyoftheKingdom'sdebtisonlypartofthechallengefacingthefinancialcommunityandthemonetaryandfinancialauthorities;therefore,inBelgium,fundingandpublicdebtmanagementstrategywithrespecttoEMUhavebeenputintoabroader,organizedinstitutionalcontext.ThenationalchangeoverplantotheEuro,whichwasapprovedbythegovernmentinthesummerof1996,addressespublicdebtmanagementstrategywithrespecttotheEMUtogetherwithmonetarypolicy,financialflows,paymentsandsettlementsmatters,fiscalandsocialsecurityaspects,accountingandstatistics.TheplanhasalsoestablishedaCommissariatgénéralàl'Euro,coordinatingseveralcommissionsinwhichpublicandprivatesectorsarerepresented.Oneofthesecommissions,Fin-Euro,whichischairedbytheBelgianTreasury,hasbeenentrustedwithpreparingallthetechnicaldetailsonfinancialmatters.IthaspublisheditsfinalrecommendationsinNovember1997.

BeforecommentingonsomekeyfeaturesofourpresentpublicdebtmanagementplaninpreparationtotheEMU,itisimportanttomentiontwokeystepstakenbytheBelgianTreasury:

IssuingnewdebtandconvertingtheexistingdebttoEurovalues,startingJanuary1,1999

Accuratelydefiningthefinancialstrategy(especiallyintermsofriskmanagement)thatwillbeusedbythepublicdebtmanagers.

NewIssuanceandConversionofExistingDebtinEuro

Sincethenationalchangeoverplanwasapprovedbythegovernmentinthesummerof1996,theTreasuryhascommittedfromthestartoftheEMUtoissueallpublicfederaldebtinEuroandtoconvertthestockofexistingbook-entrypublicdebtintoEuro(thatis,thelinearbonds(OLOs)andtheTreasurycertificates(orT-bills),byfarthemosttradedinstrumentsofthepublicdebt).Theonlyexceptionisthedebtaimedonlyatretailinvestors(fornewissueandconversion)andoldoutstandingdebtinmaterialform(forconversiononly,asthereshouldnotbeanynewissueunderthisoldformat).

ManagementStrategy:TheBenchmarkDebtPortfolio

In1995,theTreasuryundertookathoroughquantificationoftheriskmanagementofthepublicdebtinordertoestablishabenchmarkdebtportfolio.Theaimwastoquantifyanefficientandrobustdebtportfoliostructureintermsofriskandcost(aportfoliostructurethatminimizesthecostofthepublicdebtoverthemediumterm)underwidelydifferingandvolatile,economicscenarios.Sincetheendof1996,thepublicdebthasbeenmanagedwithdirectreferencetothebenchmarkdebtportfolio,whosemainriskfactorsaretheproportionofthedebtincoreEurocurrencies(BEF,DEM,NLGandFRF)comparedtootherforeigncurrencies;thecompositionofthisdebtinothercurrencies;andtheaveragedurationofthevarioussegments(coreEuroandforeigncurrencies)ofthetotaldebt.

ThemainriskmeasureusedbytheTreasurytoestablishthebenchmarkdebtportfolioistheexpectedvariabilityofthedebtcostinfuturebudgets.Accordingtothisriskfactor,theriskimpliedbytheactualpublicdebtstructureforthebudgetisverylow:TheTreasuryhascalculatedthatiftherequirementsoftheNationalConvergencePlanaremet,evenconsideringawidedistributionofpotentialinterestratescenarios,theprobabilityofnotexceedingamaximumbudgetdeficitof3percentofGDPoverthenextfiveyearsis96percent.Inotherwords,thepublicdebtmanagementbasedonstrictcompliancewiththebenchmarkdebtportfoliowillnotjeopardizethegovernment'sbudgetarypolicywithinthenextfiveyears.

Therefore,sincetheendof1996,thepublicdebthasbeenmanagedwithexplicitadherencetothebenchmarkdebtportfolio,asprescribedinthebudgetlawandwithinthegeneralguidelinesissuedbytheMinisterofFinancetotheTreasury.TheTreasuryhasnowcompletedthefirstfullyearreviewofdebtmanagementwithexplicitadherencetothebenchmark.Itsreviewhasbeenparticularlyencouraging.

ThetransitiontotheEMUconfrontsthepublicdebtmanagerwithunexpectedconceptualchallenges:Forexample,intermsofportfoliomanagement,theTreasuryconsidersascoreEurodebtthedomesticdebtandthedebtdenominatedinDEM,FRF,NLG,andXEU.Forthisportionofthedebt,whichrepresents95percentofthetotal,theTreasuryconsidersonlytheinterestrateriskasitrelatestothecurrencyriskthathasdisappearedinthecoreEurozone.However,intermsofmonetarypolicyandthecentralbank'soperations(forexample,sterilization,reservemanagement,andstatistics)DEM,FRF,NLG,andXEUarestillconsideredtobeforeigncurrencies,andalsoforeigndebt.Verysoon,

however,thesedifferentapproacheswillend,andtheratioofforeigntodomesticdebtwillmovefrom92percent/8percentto95percent/5percent,asthedebthasbeendenominatedintoDEM,FRF,NLG,andXEUrepresentspresently3percentofthetotaldebt.

FromaDomestictoaEuropeanPublicDebtMarket

InBelgium,thepublicdebtislargelydomesticintworespects:92percentofthetotalpublicdebtisdenominatedinBEF,anditisestimatedthanmorethan90percentofthedebtisheldbyinvestorslivinginBelgiumandLuxembourg.

FacedwiththeexpectedbroadandrapiddiversificationofdomesticandinternationalinstitutionalinvestmentsacrossEurope,asmentionedinourintroduction,theTreasurymustrespondtoatwinchallengeasitprogressestowardtheEMU:theBelgiangovernmentdebtmarketmustnotonlyremainattractivetoitsdomesticinvestorsandintermediaries,butalsomustattractnew,international,investorsandintermediaries,especiallyfromtherestofEurope.Inshort,theTreasurymustEuropeanizeitspublicdebtmarketandinternationalizeitsinvestmentbase.

Thechallengemustbemetatthesametimeinfourdifferent,butcomplementary,areas.TheTreasurymustbeabletooffertoinvestorsstrongcreditintheframeworkofanefficient,transparent,andliquidmarket.ItmustalsobroadentheinvestorbaseoftheKingdom'sdebt,whilecontinuingtoensureahighlyprofessionaldebtmanagement.

PromotingBelgium'sCreditworthiness.

ThestrengthoftheBelgiancreditis,intheTreasury'sopinion,largelydemonstratedbythefiscalachievementofthelastsevenyears,asalreadydescribed,andthequalificationofBelgiumtotheEMU.Althoughmaintainingthisvirtuouspathisobviouslybeyondthe

Treasury'scontrol,thepromotionofthecreditinthenewEuropeancontextisanewandgrowingTreasurygoal.

AnEfficient,Transparent,andLiquidPublicDebtMarket

Sincethebeginningofthe1990s,theTreasuryhasdramaticallyandtotallymodernizedthedebtfinancinginstruments,aswellastheprimaryandsecondarymarketsoftheseinstruments.Today,theBelgianpublic

debtmarketoffersoneofthemostmodernfinancialframeworksamongtheEUmemberstatesandevenothercountries.

ButfromtheEMU'sperspective,therewasstillsomeroomforfine-tuningthisframework.Therefore,theTreasuryandtheprimarydealersinthepublicdebthaveundertakenathoroughreviewofallmarketaspectsinordertoadoptspecificrequirementstofitthenewEMUcontext.

First,theTreasuryhasadjustedthestatusofprimarydealer.FollowingtheEuropeanDirectiveonFinancialServices,theMinisterofFinancecangrantprimarydealerstatustoanymarketparticipantresidingwithintheEU.

Second,theTreasuryhasimprovedseveralaspectsofthecompetitiveauctionsystem.TheTreasuryannouncesoneworkingdaybeforetheauctionarangeofamountstobeauctioned,thereforeimprovingtheprimarymarket'stransparency.TheTreasuryhasalsoshortenedthedelayofpostingtheauctions'resultsandisworkingtowardimprovingthecomputerizedbiddingsystem.

Third,inordertofurthertheliquidityofthesecondarymarket,theTreasuryhasbeguntodecreasethenumberofOLOlines;tostandardizetheOLOcoupondates(atMarch28andSeptember28);andtoshortentheexchangeoffersprocess.Therefore,whatevercurvethenewEuro-denominatedcapitalmarketchoosesasthebenchmarkcurve(theGermangovernmentcurve,theFrenchgovernmentcurve,theswapcurveoranyothercomposite),alllinesoftheBelgiandebtwillbewellpositionedtotradecloseto,orevenon,theEurobenchmarkcurve.

Fourth,theTreasuryisinvolvedwiththemajorEuropeanfuturesandoptionsexchangestobestpositiontheKingdom'sdebtregardingtheupcomingEuro-denominatedderivativeinstruments.

Finally,theTreasuryhasalreadybroughttheBelgiangovernmentdebtmarketinlinewithbestinternationalstandardsasofthebeginningofJanuary1999.Indeed,theFin-EuroCommissionhasrecommendedthatsomemarketconventions,advisedbydomesticandinternationalmarketparticipantsastheadequatestandardsinanew,integratedfinancialmarketunderEMU,beadaptedfromEMU'sinception.OnesuchmarketconventionisthedaycountbasisforinterestonTreasurybillsandbonds.Inthisarea,theBelgianTreasuryisaleaderamongitsEuropeanpeers.TheTreasuryischairinganadhocworkinggroupthatwasestablishedbytheEUMonetaryCommitteetoinvolveallmemberstatesthathaverecognizedthebenefitsandthereforetheneedtoharmonizemarketconventionsacrossEurope.Onthedomesticfront,theFin-Eurohasalreadypublishedrecommendationsinthisdirection.Aftertherecentpublicationofthefirstprogressreportoftheadhocworkinggroup,effortsofothermemberstatesinthesamedirectionwillcertainlyintensify.

ABroadeningoftheInvestorBaseoftheKingdom'sDebt

TheTreasury'saimhaslongbeentofamiliarizeinternationalinvestorswiththeframeworkandtheinstrumentsofthedomesticdebt,inshorttointernationalizetheKingdom'slargelydomesticpublicdebt.

TheTreasuryhasbeenproactiveindifferentsegmentsofthecurves.Withregardtotheshort-termdebt,theTreasurycreatedinthesummerof1996theBelgianTreasuryBills(BTBs):TheseinstrumentsareequaltoBEFTreasuryCertificates(book-entryformat,governedbyBelgianlaw)butdenominatedinmajorforeigncurrencies.

Amajoreffort,however,wasundertakentobroadentheinvestorbaseofthemedium-tolong-termdebt:InNovemberof1997,theTreasurylaunchedconvergingOLOlinesdenominatedinBEF,DEM,andFRF.Marketparticipantsconsiderthisissuetobetheultimatetransitioninstrumentthatwilltransformthedomesticgovernmentdebtmarketframeworkintoapre-Eurocontext.ThisinstrumentshouldappealtoGermanandFrenchinvestors,investorsintheirowncurrencies,ortootherinternationalinvestorsinthemajorinternationalcurrenciesofEurope(DEMandFRF).

Keyfeaturesofthisnewpre-Eurogovernmentbondmarketarecontinuousmarketliquidity,transparency,andefficiency,whichisensuredbyagroupofmarketmakers,whoparticipateinauctionsintheprimarymarketandwhoquoteinsizesinthesecondarymarket,verymuchlikeprimarydealersdoontheBEF.OnJanuary1,1999thethreeOLOlinesinBEF,DEM,andFRF,withidenticalcouponandmaturity,willallconverttoEurosimultaneously,thereforefurtherenhancingthemarketliquidityinEurofromthestartoftheEMU.

ThefirstissuesofDEMandFRFOLOsinNovember1997wereplacedusingasyndicationproceduretoensuresolidplacementoflargeamounts,geographicaldiversification,broaddistributionto

differentinvestmentcategories,andimmediateliquidityinthesecondarymarket.Thelineswillbeincreasedthroughauctions,whichwillfurtherfamiliarizeinternationalinvestorsandintermediarieswiththenormalissuingprocessoftheBelgianpublicdebtmarket.ThefirstauctionofDEMandFRFOLOs,whichtookplaceatthebeginningofFebruary1998,hasbeenmorethanfivetimesoversubscribed,allowingtheKingdomtoissueataverytightspreadof10basispointsaboveGermanbundsandFrenchOATs.Sincethen,twomoreauctionstookplace.Thesewerealsolargelyoversubscribed.

Inmoregeneralterms,thenewEMUenvironmentwillcreatemuchstrongercompetitivetensionsbetweenthemajorcapitalmarketissuers.TheTreasuryisacutelyawareoftheneedforagenuine

marketingoftheKingdom'spublicdebttowardEuropeanandotherinternationalinstitutionalinvestors,byestablishingpermanentcontactswiththem.InEUcountries,suchamarketingapproachwill,amongotherdevelopments,causeaculturalrevolutioninthepublicservicessectortraditionallyinchargeofthebudgetaryandfinancialmanagementofthestate.

AHighlyProfessionalDebtManagement:EstablishmentofaDebtAgency

Toaddressthesechallengesinthemostprofessionalwayintheareaofpublicdebtmanagement,theBelgianGovernmentdecidedinMarch1997toestablishadebtagency,incorporatedwithintheMinistryofFinanceasaspecialdepartmentoftheTreasury.Specifically,thisdepartmentwouldtakechargeofthestrategicandoperationalmanagementofthepublicdebtandwouldbeallocatedappropriatehumanresources.TheagencybeganoperationinOctober1998.

Conclusion

TheBelgianTreasury,initsroleofmanagingtheKingdom'spublicdebt,viewstheEMUnotonlyaspresentingacompetitivechallenge,butalsoasofferingnewopportunitiestostrengthenthemanagementofthepublicdebtthroughanexpansionofitsinvestorbaseandthroughabroadeningofthespectrumofriskmanagementinstruments.Indeed,itwillnolongerbeprisonerofacaptivebutsmallmarket.

TheMeasurementofDeficitandDebtundertheMaastrichtTreaty:SomeStatisticalConsiderationsDieterGlatzel

AccountsandFinancialIndicators,StatisticsfortheExcessiveDeficitProcedure

Introduction

Thepapersetsoutthelegalframeworkandthedecisionprocessfortheclassificationoffinancialandnonfinancialtransactionsundertherulesoftheexcessivedeficitprocedure.Itcombinesthedecisionsthatwerecommunicatedtothepressduringthisyearandotherdecisionsthatwerenotgiventhispublicity.EurostathaslearnedalessonfromtheFranceTélécomcase,inwhichpoorcommunication,notclassificationoftransactionsinnationalaccounts,causedaseriousproblem.

Insimpleterms,themeasurementofdeficitcomesdownquiteoftentothequestion:Isthistransactionafinancialtransactionthatentailsanexchangeofonefinancialassetforanotheroranonfinancialtransaction?Ifitisthelatter,thenthedeficitwillbeinfluenced;however,ifitisafinancialtransaction,itdoesnothaveanyinfluenceonthedeficit.Forthosenotfamiliarwithnationalaccounts,itisquitedifficulttounderstandthissplitoftheaccountsintofinancialandnonfinancialonesandthemechanicsofthebalancingitems.Asecondquestiontoposeis:Whatistheeconomicnatureoftheunit,anddoesitbelongtothegeneralgovernmentsector?Finally,whatisthevalueoftheoutstandingdebt?

TheLegalandAccountingFramework:TheTreatyandRegulation

3605/93

TheTreatyonEuropeanUnionstipulatesinArticle104CthatMemberStatesshallavoidexcessivegovernmentdeficits(par.1.)andthattheCommissionshallmonitorthedevelopmentofthebudgetarysituationandofthestockofgovernmentdeficitsintheMemberStateswithaviewtoidentifyinggrosserrors.(par.2).

TheprotocolontheexcessivedeficitprocedurewhichlaysdownthedetailsoftheprocedurereferredtoinArticle104Cstatesinitsarticle4thatthestatisticaldatatobeusedfortheapplicationofthisProtocolshallbeprovidedbytheCommission.

Eurostat,thedirectorategeneraloftheCommissioninchargeofstatisticshassetupthenecessaryinstitutionalstructuresandprocedurestoprovidetheCommissionandfinallytheCouncilwiththemostcomparablestatisticsfortheconvergencecriteriaandfortheexcessivedeficitprocedure.

ItisimportanttonoteinthiscontextthatalthoughEurostatisadirectorategeneraloftheCommission,itisindependentinitstechnicalworkandmakesitstechnicaldecisionsconcerningthestatisticalmethodsindependently.ThiscompletescientificindependencewasreaffirmedbytheEuropeanCommissionatthepressconferenceonNovember5,1996,inwhichtheforecastsoftheEUmemberstates'1997deficitswerepresented.

Inaddition,thereisadistinctsetofresponsibilitiesforthedirectorate-generalofeconomicandfinancialaffairsDGIIandEurostat.DGIIisresponsiblefortheeconomicassessmentoftheexcessivedeficitdataandthusmustaccountforaspectsthatarerelatedtotheeconomicsustainabilityofcertainbudgetarydecisionsofthememberstates'governments.Eurostat,ontheotherhand,isauthorizedtoevaluatethecorrectmethodologicalapplicationoftheEuropeanSystemofNationalAccounts(ESA)2ndeditionfortheexcessivedeficitprocedure.ThecorrectmethodologicalapplicationoftheESA2ndeditionhasbeenandwillbetheguidingprincipleforalldecisionsbyEurostat.OtherconsiderationswhichconcerneconomicsustainabilityofnationalmeasuresareunderthecompetenceofDGII.

TheEuropeanSystemofNationalAccounts(ESA).

CouncilRegulation(EC)No3605/93ontheapplicationoftheprotocolontheexcessivedeficitprocedureforeseesthatthememberstatespresenttheirgovernmentdeficitsinaccordancewiththeESA2ndeditionmanualonnationalaccounts.Thismanualwasdrawnupattheendoftheseventiesandisthereforeill-suitedtodescribetheeconomicandfinancialtransactionswhichhaveappearedsincethen.Moreover,inmanycasestherealworldtransactionsarequitecomplex,anditisnotalwayseasytointerpretthemwithinthemethodologicalframeworkoftheESA.Therefore,insomecases,anextensiveinterpretationoftherelevantESAparagraphswasnecessarytocometoaneconomicallysatisfactoryresultfortheclassificationoftransactions.

AnotherinconvenienceoftheESA2ndeditionwastheabsenceofbalancesheetsandvaluationprinciplesforbalancesheets.Therefore,therewerenoready-maderecipesavailableforthemeasurementofgeneralgovernmentdebt.Theprotocoltothetreatyontheexcessivedeficitprocedurestipulatedthatdebthadtobemeasured

astotalgrossdebtatnominalvalueoutstandingattheendoftheyearandconsolidatedwithinthesectorsofgeneralgovernment.(Article2,par.4)

Startingfromthedefinitionofgeneralgovernmentdebtintheprotocol,theauthorsofregulation3605/93,whichwasadoptedbytheCouncilafterintensivediscussionsinEurostatandCouncilworkingparties,simplyenumeratedtheinstrumentswhichfallundertheheadingofgeneralgovernmentdebt.Generalgovernmentdebtisdefinedasthesumofthefollowingitems:currencyanddeposits,billsandshort-termbonds,long-termbonds,andothershort-termloans,medium-andlong-termloans.

Tradecreditswereexcludedfromthedefinitionofgeneralgovernmentdebtonthegroundsthatthesecreditsarenottypicalforthegeneralgovernmentsectorandaredifficulttoestimate.Moreover,theexclusionofliabilitiesundertheheadingofaccountsreceivableandpayable,whichisashort-termliability,wasadoptedbyusingthesamearguments.

Ourexperiencefromthemonitoringprocessofthedebtanddeficitstatisticsduringthelastthreeyearshastoldusthattradecreditsmaywellbeasubstantialsourceoffinanceforgeneralgovernment.Wethereforeaskmemberstatestosupplyadditionalinformationontheseliabilities,whichcanbetakenintoaccountwhenassessingthepathofconvergenceofmemberstates.

Anotherfeatureoftheconstraintsofthevaluationofdebtaslaid

downintheprotocoltothetreatywasthevaluationatnominalvalue(facevalue)ofdebtinstruments.Allinstrumentswhichareissuedwithadiscount,likedeep-discountedbondsorzero-couponbondsarediscriminatedagainstotherinstrumentsbecausetheyhavetoberecordedattheirfacevalue,sotheeffectiveborrowingbythegeneralgovernmentislowerbytheamountofthediscountmultipliedbythenominalamountissued.

TheESA2ndedition,whichisthebasisforregulation3605/93wasrecentlyrevisedbyEurostat,andthenewversion(ESA95)hasbeenthesubjectofaproposedcouncilregulation.Thisnewversionwillnot,however,enterintoforcebeforetheyear2000forthepurposeoftheexcessivedeficitprocedure.

TherearesomeimportantnewfeaturesintherevisedESAwhichhaveimplicationsonthecalculationofdebtanddeficitbymemberstates.Themostimportantoneconcernsthegeneralrulethatalltransactionsaretoberecordedonanaccrualbasis,whichmeansthattheyhavetobeenteredinthesystemastheyoccurandnotwhentheyaredueforpaymentoreffectivelypaid.Thishasanimpactontherecordingofinterestpaid,whichwillbetreatedmoreinlinewiththecurrentaccountingpracticesbybanks.SeveralofEurostat'sdecisions,notablythosewhichconcerninterestpaid,wouldnothavebeennecessaryifthenewsystemhadbeeninforceattheratificationoftheMaastrichtTreaty.Thesameappliestotaxesandsocialcontributionsthathavetoberecordedinthenewsystemonanaccrualbasis,whereastheESA2ndeditionismoreflexibleonthispoint.ThiscouldmeanthatinfuturethedistributionovertimeoftaxesandsocialcontributionsmaylookdifferentfromtherecordingunderthecurrentESA.Duringverypronouncedbusinesscyclesofeconomicboomanddepression,thenewsystemwilltendtoproducemoresmoothedresultsbecausethetimelagbetweenaccruedtaxesandsocialcontributionscomparedtothecashpaymentstendstoincreaseinsuchsituations.ThistimelagdoesnotinfluencetherecordingoftaxesandsocialcontributionsinthenewESA.Onthecontrary,theoldsystempermitsthecashrecordingofcertaintaxesandsocialcontributions,andthereforecouldamplifythefluctuationsofdeficitmeasurementbythetimelagbetweencashandaccruals.

AnothermatteronwhichthenewESAwillbringmoreclarityisthedelimitationofthesectorgeneralgovernment,inthesensethatcertainunits(enterprises),whicharenowbydefinitioninsidethesectorgeneralgovernment,willbeoutsideifthemajorityoftheirrevenuesarederivedfromthesaleofmarketproduction.

Inordertoensurethatdeficitanddebtstatisticsshowagoodlevelofcomparability,Eurostathas,overthelastthreeyears,held

consultationswitheachofthememberstatestomakesurethateconomicandfinancialtransactions,whicharenotclearlydescribedintheESA2ndedition,areclassifiedinthesamewaythroughouttheEuropeanUnion.

EurostatDecisionsfortheCalculationofDebtandDeficit:TheDecisionProcess

Thefirststageofthedecisionprocessconsistsofauditingthedebtanddeficitstatisticsasnotifiedtwiceayearbythememberstates.EverymemberstateisvisitedatleastonceayearbyadelegationundertheleadershipofEurostat,includingasobserversDGIIandtheEuropeanMonetaryInstitute(EMI).Areportwhichisagreedbybothsides(thememberstatesandEurostat)summarizesthefindingsandhighlightsproblematicissues.Someoftheseissues,whicharegeneralenoughto

betreatedinaconsultationprocess,aresubsequentlytakenupandproposedformethodologicalconsultations.OtherissuesaredirectlytreatedbetweenthememberstateandEurostat,withcloseconsultationwithDGIIandEMI.

Theprocessofmethodologicalconsultationispreparedbyataskforceandsubmittedfordiscussionbygroupsofexpertsworkinginthissamesector:thenationalaccountsworkingparty(NAWP)andthefinancialaccountsworkingparty(FAWP).EurostatalsoconsultstheCommitteeonMonetary,FinancialandBalanceofPaymentsStatistics(CMFB).Whentheworkingpartieshaveadoptedacommonposition,thisCommitteenormallyendorsestheconclusionsreached.Incaseswherethegroupsofexpertshavebeenunabletoreachabroadconsensus,theCMFBgivesitsopinionbyfollowingitsrulesofprocedure.Thisopinionisadvisoryinnature,butEurostatgivesittheutmostconsiderationwhenitdecidesonthemethodstobeusedfortheclassificationofagiventransaction.

ThisdecisionmakingprocessmakesitpossibletoadoptprinciplesonaccountingmethodsandfillinthegrayareasininterpretationleftopenbytheESA2ndedition.

OnceEurostathasreachedadecision,similaraccountingtransactionsinallthememberstatesmustbeprocessedinaccordancewiththisdecision.Eurostatdrawsupamethodologicalnoteforeachtypeofdecisionandsendsthistotheinstitutionsconcerned.

SomeSelectedDecisions

Decisionscanbegroupedintothosethataffectthedeficitandthosethataffectthemeasurementofthelevelofdebt.However,insomecases,thelevelofdeficitandthedebtisinfluencedbythesamedecision.Asitcanbeseenfromthelistbelow,Eurostatwasmoreoftenconfrontedwithproblemsconcerningthemeasurementofthe

deficitthanthemeasurementofdebt.Amongthedecisionsconcerningthemeasurementofdeficit,theFranceTélécomcasebecameacausecélèbreandisthereforeexplainedinsomedetaillater.ThispapersummarizesthereasonsforEurostat'sdecisions,whichhavebeenexplainedpreviouslyinpressreleasesandmethodologicalnotes.

Asitcanalsobeseenfromthelistofdecisions,thoseoninterestpaymentsplayquiteaprominentrole.ThisisbecausetheESA2ndeditionisnotclearenoughonthetreatmentofinterest.Zero-couponbonds,linearbonds,anddeep-discountedbondsarenottreatedintheESA2ndedition.EurostatthereforehadtofillthisgapbyinterpretingtheESA2ndeditioninthelightofthenewESA95,whichdoesgiveclearguidance.

Therearealsosomedecisions,whichweretakenafterbilateralconsultationswithmemberstates.Thesedecisionsconcerned,forexample,the

classificationoftransactionswithSECURUM,acompanycreatedbythestateinconnectionwithadebtcrisis,andwithASFINAG,theAustrianoperatorofhighwaysandhigh-speedroads.Inthesecases,Eurostatcouldrelyonjurisdictionfoundinsimilarcasesthathadoccurredinothermemberstates.Theseandothercasesarenotpresentedhere.

DecisionsAffectingtheCalculationofDeficit:TheFranceTélécomCase

TheFranceTélécomcasebecamefamousinthemedia.Becauseofthesometimestersedescriptionofthefactsandthedecisionprocess,misunderstandingsaroseabouttheroleofEurostat.Itisforthisreasonthatthiscaseisexplainedhereingreatdetail.

ItwillbecomeclearfromthedescriptionofthefactsandthedecisionprocessthatEurostatfollowedthesameprinciplesasinothercases,whichmeansdiscussioninthetechnicalworkingpartiesandconsultationoftheCMFB.TheonlydifferencewasthatthedecisionprocesshadtobeacceleratedbecausetheCommissionforecastsoftheEUmemberstates'deficitsfor1997weredueatthebeginningofNovember.

SummaryofFacts:The1990Reform

ThefirstreformofthePTTadministration,whichwasmadein1990,resultedintwoautonomouspublicenterprises,laPosteandFranceTélécom.Nevertheless,theemployeesofthesetwoenterpriseshadkepttheirstatusasstatecivilservants.

Thereforetheretirementschemeoftheemployeeswasthatofcivilservants,financedonapay-as-you-gobasis.However,inpractice,FranceTélécomwasoffsettingeachyeartheretirementscheme'sdeficitfortheFranceTélécompart.Inthenationalaccounts,the

formerannexedbudgetofPTTwasclassifiedasaquasi-corporation(sectorS10,Nonfinancialcorporateandquasi-corporateenterprises).LaPosteandFranceTélécombecamecorporations,classifiedunderthesamesector.Concerningtheretirementpensions,flowshavebeenrecordedasiftheywereinternaltotheenterprise,asanemployer'sdirectbenefitscheme,showingnothinginthecentralgovernmentaccount.

TheSecondReformAccordingtotheJuly1996Law

TheJuly26,1996,law,relatingtoFranceTélécom,putinplaceasecondreform,thatwentintoeffectDecember31,1996.Thisreformresultedinthefollowingchanges:

FranceTélécombecameanationalcorporateenterpriseofwhichthestatedirectlycontrolsmorethanhalfofthecapital.

TheFranceTélécomcivilservantsweremadeavailabletothenationalcorporation,whichalsoemploysfreelycontractualagentsunderanormalcollectivecontractsscheme.

TherateoffiscalandcompulsorysocialcontributionsbasedonFranceTélécomsalariesbecameequaltothatofotherenterprisesofthetelecommunicationssectorforthoserisksthatarecommontoprivatestatusemployeesandtostatecivilservants(thisrateisevaluatedat38percent).

Besidethesecontributions(employeesandemployers),theglobalamountofwhichislimitedinthisway,aone-timeexceptionalcontractualcontributionwillbepaidbyFranceTélécom.

TheDraftFinanceLawfor1997(StateBudget)

TheJuly26,1996,lawonFranceTélécomnationalincorporationhaschangedthepreviousobligationofFranceTélécomtorefundthestatefortheamountofpensionspaidtoretiredcivilservantsofthisenterpriseintoanobligationtopaytothestateanemployer'ssocialcontribution.Thiscontributionwillcovertheretirementliabilitiesoftheenterpriseonlypartially.ThusFranceTélécomwillpaytotheStateanexceptionalcontributionamountof37.5billionsofFF,aone-timepayment.

ThiscontributionisearmarkedtoapublicagencywhichwillrepaytheState1billionFFin1997.Thisrepaymentwillbeindexedeachyear.Theaimofsuchastaggeringpaymentistoavoidanartificialimprovementofthestatebudgetdeficitin1997(seeExposédesmotifs,FinanceDraftLawof1997,page134).

ThefundsofEurostataredepositedatatreasuryaccountandare

remuneratedundertheusualconditionsfixedbythepublicaccounting'sgeneralregulations.Eurostat'sresourcescomprisetheexceptionalcontractualcontributionpaidbyFranceTélécom,aswellastheinterestpaidbythetreasury(approximateinterestrate:3.5percentperyear).Eurostatisnotallowedtoborrow.Itsmissionwillendafterthecompletedisbursementtothestateoftheseresources.

AccordingtotheDraftFinanceLawfor1997,theoverallamountofsaleofsharesandotherequitiesbythestatein1997shouldnotexceed26billionFF(includingFranceTélécomequities),whichmeansthatthestatewouldnotsellmorethanapproximately15percent(20percentofitsstakeinFranceTélécomin1997).

TreatmentintheNationalAccounts

InordertoclassifythetransactionsdescribedinthesummaryoffactsintheframeworkoftheESA2ndedition,EurostatpresentedtoNAWPandFAWP,thetwotechnicalworkingparties,aproposalinfavoroftreatmentasacapitaltransfer,whichwoulddecreasethenetborrowingrequirementofthecentralgovernmentofFrance.

TheproposedtreatmentwasbasedonthefactthatinthecaseofFranceTélécomthepersonnel,whichweremadeavailabletothecompanyhadthestatusofcivilservants(fonctionnaire)andwereunderanunfundedpensionscheme.

InthecaseofflowsrelatedtothefinancingofpensionstheESA2ndeditionprescribesthefollowingrules:

Inallcaseswherethereisastableandnormalrelationshipbetweenthenumberofpeopleatworkandthenumberofpersonsreceivingpensions,theimputedamountofretirementcontributionsisassumedtobeequaltothepensionsactuallypaid.(PaymentsbytheStateonbehalfofthepublicenterprisearerecorded,accordingtopar.215oftheESA2ndedition,asiftheyweretransactionsmadedirectlybetweenthepublicenterpriseandemployeesandpensioners).Thisisasimplificationbasedonthehypothesisthatthepensionsystemworksonapay-as-yougobasis.Contributionspaidbyemployeesandimputedcontributionsaretreatedintheusualway:Theyformpartofthecompensationofemployeesofthepublicenterprise,butarethendeemedtobepaidtotheenterprise.Theretirementpensionsarepaidbythepublicenterpriseintheformofemployers'directsocialbenefits.

Thepublicenterprisecanthusfinditselfinthesituationwheretheburdenofpensions,andthereforetheimputedsocialcontributions,ishigherthanthecontributions(realorimputed)ofotherenterprises

operatinginthesamesector.Toeliminatethisdifference,theStatecouldundertaketofinancepartofthepensionpayments.ThepaymentsregularlymadebytheStateasaresultofthiscommitmentareconsideredasmiscellaneouscurrenttransfers(par.471cofESA2ndedition).

Tocompensateforthiscommitment,thestatemightaskthepublicenterpriseforanexceptionalpayment.Inthecaseofanunfundedretirementscheme,theESA2ndeditiondoesnotconsiderthepensionrightasanassetofhouseholds,noraliabilityofthepensionsscheme.Transactionsconcerningthesepensionrightsarenot,therefore,financialtransactions.Theexceptionalcontributionreceivedbythestate,linkedtoitsfuturecommitmentinthefinancingofpensions,isthusanonfinancialtransaction.Itsexceptionalcharacterleadsonetoconcludethatitshouldbetreatedasacapitaltransfer(R70).

Thecapitaltransferwouldimmediatelyhaveafavorableeffectonthestateborrowingrequirement,whichwill,however,beultimatelyoffsetbyadeteriorationintheborrowingrequirementoverseveralyears.

TheConsultationofMemberStatesandtheDecisionbyEurostat

TheproposaltotreattheexceptionalpaymentofFranceTélécomtotheFrenchStateasacapitaltransferwasdiscussedintheNationalAccountsandFinancialAccountsWorkingPartiesonOctober2122,1996.Duringthemeetingsitbecameapparentthataconsensuscouldnotbereachedatthelevelofthetechnicalgroups.Moreover,fouralternativemodels,inadditiontotheEurostatproposal,wereputforwardbythedelegates.

InthesemodelsitwasproposedtotreattheexceptionalpaymentbyFranceTélécomasaprepaymentofafuturestreamofpensionpayments,asaleofaGovernmentfinancialasset(createdbythefirstreformof1990),acapitalwithdrawalbytheFrenchGovernmentfromFranceTélécom'sownfunds,oraconstitutionofafundedpensionscheme.

AllthesemodelshadtheeffectoftreatingtheexceptionalpaymentbyFranceTélécomasafinancialtransaction,withtheeffectofbeingneutralonthenetborrowingrequirement.

FollowingthedecisionmadebytheCMFBatitsmeetingonOctober23,1996,awrittenprocedurewasestablishedthatwouldallowEurostattoobtaintheopinionoftheCMFBonthetreatmentofthetransactionbetweenthestateandpublicenterprisesrelatedtothefinancingofretirementpensionsintheframeworkoftheESA2ndedition.

AtthismeetingtheCMFBassignedamandatetotheFinancialAccountsWorkingPartytoclarifythenatureoftheplanned

transactionsbetweentheFrenchStateandFranceTélécomandreviewtheconformityofthetreatmentproposedbyEurostatwiththeESA2ndedition,andinvestigatethepossiblealternativetreatment(s)respectingtherecommendationsofESA2ndedition.

TheFAWP,whichmetonOctober2425,1996,developedfiveaccountingtreatments,includingtheoriginalEurostatproposalandthefouralternativetreatmentsproposedbymemberstatedelegationsthatwereconsideredtobecompatiblewiththerulesoftheESA2ndedition.

TheCMFBmemberswererequestedtofaxtothesecretariatoftheCMFB,byThursdayOctober31,1996,bylunchtime,theiropiniononwhichofthesetreatmentswas(orwere)inconformitywiththeaccountingrulesoftheESA2ndedition.

Asaresultofthisconsultation11memberstatesfoundtheEurostatproposalacceptablewithinthestrictapplicationoftheESA2ndeditiontotreattheexceptionalpaymentbyFranceTélécomasacapitaltransfer.However,manymemberstatesfoundthattheprepaymentmodelwasalsoacceptablewiththerulesoftheESA2ndedition.

Facedwiththesituationthataconsensuswouldnotbereachedwithinareasonabletimehorizon,EurostatdecidedonOctober31,1996,threeworkingdaysbeforetheCommissionforecastsfor1997,torecommendtreatmentoftheFranceTélécomexceptionalpaymentaccordingtoitsinitialproposal,whichmeanttorecorditasacapitaltransfer.

Initsdecision,Eurostatemphasizedtheexceptionalcharacterofthistransaction,whichwouldreducethenetborrowingrequirementforoneyear,butwoulddeterioratethebudgetarysituation,allthingsbeingequal,forthecomingyears.

TreatmentofReceiptsfromIndirectPrivatization:Belgium.

Inthecaseofadirectprivatization(saleofsharesandotherparticipationsheldbygeneralgovernmentinapublicenterprise),thetreatmentofthereceiptsfromprivatizationinnationalaccountsisclear.Inthebalancesheetofthegeneralgovernmentsector,onefinancialasset(sharesandotherequity,F60)isreplacedbyanotherfinancialasset(liquidassets,F20/30).Thetransactionsarepurelyfinancialanddonothaveanyinfluenceonthenonfinancialaccountsandhenceonthenetborrowingrequirement(N5)ofthegeneralgovernmentsector.

Thetreatmentofindirectprivatization,whichwasappliedinBelgiumin1993andin1994,wasfollowedbythereorganizationofoneofthemostimportantfinancialinstitutionsinBelgium,theCaisseGénérale

d'EpargneetdeRetraite(CGER).TheSociétéFinancièredeParticipations,apublicholdingcompany,hadsoldhalfofitsshareinthetwoCGERsubsidiaries,theCGERbank,andCGERinsurance.Theholdingcompanythenpaidtoitsowner,theBelgiangovernment,practicallythetotalamountofthesaleofitsstock(32.2billionBFRin1993,and12.7billionBFRin1994).

TheBelgiannationalaccountantswantedtotreatthispaymentasacapitaltransfer,improvingthenetborrowingrequirementofthegeneralgovernment.Eurostat,however,decided,afterconsultationwiththeworkingpartiesandtheCMFB,totreatthispaymenttothegeneralgovernmentinthesamewayasinthecaseofadirectprivatization,whichmeanttotreatitasafinancialtransaction.Theinterpositionofaholdingcompanydidnotchangetheeconomicnatureofthefinancialflow.Thistransactionthereforehadnoinfluenceonthenetborrowingrequirementofthegeneralgovernment.Thetreatmentadoptedinthecaseoftheindi-

rectprivatizationoftheBelgiancompanies'CGERbankandCGERinsurancecreatedalegalprecedent,andconsequently,Eurostatnowrecommendstreatingallcasesofindirectprivatizationinthesameway.

LegalDecisionwithaRetroactiveEffect:TheIrishCase

Theaccountingsystems,theEuropeanESAandtheworldSystemofNationalAccounts(SNA)oftheUnitedNations,recommendtorecordtransactionsonthebasisofanestablishedright,whichimpliesfromtheprincipleofprudentbookkeepingthattherightsaretoberecordedwhentheyareacquiredandtheliabilitiesassoonastheyarecertain.Thecontraryprincipleistheregistrationonacashbasis,aprinciplequitecommoninpublicaccounting,whichmeansregisteringthetransactionswheneveracashflowtakesplace.TheESA2ndeditionrecommendsregisteringthedistributivetransactionsonthebasisoftheestablishedrightsorwhendue.(Thereare,however,exceptionstothisrule.)

AnassociationofIrishwomentooktheirgovernmenttocourt,overaEuropeanUniondirectiveaboutequalrightsformenandwomen,whichshouldhavebeenappliedsince1985.TheSupremeCourtinDublinruledthattheIrishgovernmenthadnotappliedthedirectiveoftheEuropeanUnioncorrectlyovermanyyears.Eventually,theIrishgovernmentwasorderedtopay183millionpunts,whichcorrespondedtothebenefitsdueeveryyearbutnotpaidbetween1985and1995,aswellasacompensationpenaltyof60millionpunts.

ThetreatmentenvisagedbytheIrishstatisticalofficewas:

Forthebenefitsdue.Followingtheprincipleofrightestablished,registerthetransactionswhentheyweredue,whichmeanttodistributebetween1985and1995andtorecordthemintheaccountsofthehouseholdssectorandinthegeneralgovernmentsector.

Forthecompensationpenalty.Sincethisrightwasestablishedonlybyacourtdecision,itseemedappropriatetorecorditonlyfor1995.

HavingconsultedtheworkingpartiesandtheCMFB,Eurostatdecidedtofollowtheiralmostunanimousopinion,whichwastherecommendationthatthebenefitsdueshouldberecordedfortheyearinwhichtheSupremeCourtdecisionwasmade.Thisdecisionwasbasedonthecertaintyprinciple,whichmeansregisteringatransactiononlywhenitisestablishedwithcertaintyforbothparties.Thecapitaltransferincreasedthegeneralgovernmentnetborrowingrequirementfor1995.

ThedecisionintheIrishcaseservedasamodelfortheaccountingofsimilarcasesinothermemberstates,notablyintheItaliancase,wherepensionersobtainedbeforetheItalianSupremeCourttherighttoreceiveadditionalpensions.

TreatmentofTransactionsinFinancialLeasing

FollowingarequestforclarificationbroughtforwardbytheBelgianauthorities,concerningthesaleofgovernmentbuildingsfollowedbyleasingthem(saleandleaseback),Eurostathadtoformulateapreciserecommendationaboutfinancialleasingoperationsinthecontextoftheexcessivedeficitprocedure.

TheESA2ndeditiondoesnotdistinguishbetweennormalrentingandfinancialleasing.Rentingisconsideredasasaleofaservice,soldbytheowneroftheassettothelessee.AstrictinterpretationoftheESA2ndeditionleadstorecordingthesaleofagovernmentbuildingtoaunitnotbelongingtothegeneralgovernmentsector,andthesubsequentleaseback,asanormalsaleofanonfinancialasset,whichreducesthenetborrowingrequirementintheperiodinwhichthesaletakesplace.

IntheESA95,however,thedurableassetthatisthesubjectofthefinancialleaseisrecordedinthegrosscapitalformationofthelesseewhenthefinancialleaseisconcluded.Itisassumedthatinthecaseofafinancialleaseanassetissold(notionally)bythelessor.Atthesametimea(notional)loanisgrantedtothelessee.Consequently,thetransactionsaremostlyneutralforthenetborrowingrequirement.

EurostatrecommendednottoapplytherulesoftheESA95becausetheCommitteeonGrossNationalProduct(fortheapplicationofthedirective89/130/CEE,Euratom)decidedtostrictlyapplytheESA2ndeditioninthisrespectandtotreattheoperationsoffinancialleasingasordinaryrenting.Thisdecisioncreatedalegalprecedent,andtheregulation3605/93,whichsetstherulesfortheapplicationoftheexcessivedeficit,prescribestousefortheratiosdeficit/GDPanddebt/GDP,theGDPasitiscalculatedunderthedirective89/130/CEE.

Forthesetworeasons,Eurostatrecommendedtotreatfinancial

leasingasnormalrenting,inwhichcasethesaleandleasebackwouldimprovethenetborrowingrequirement.Atthesametime,Eurostatrecommendedthattheseoperationsshouldbeclearlyindicated,iftheyareimportant,inthebiannualnotificationtotheCommission.

CapitalizedInterestonDepositsandOtherFinancialInstrumentsCoveredbyESA79

Eurostatdecidedtorecordtheinterestseparatelyfromtheprincipalandtorecordasinterestthecapitalizedamountwhenitfallsdueforpayment,ratherthantodistributeitamongdifferentperiods.Thismeansthat,inthecaseofdepositsorsimilarfinancialinstrumentsthatareliabilitiesofthegeneralgovernment,thecapitalizedinterestwillbere-

cordedasgeneralgovernmentexpenditurewhentheinterestispaidtotheholdersoftheseinstruments.

TreatmentofInterestintheCaseofZero-CouponBonds

Eurostatdecidedtotreatthedifferencebetweentheissuepriceandredemptionpriceofazero-couponbondasinterest,toberecordedasinterestpaidatthematurityofthebond.ThereasonforthisdecisionisaninterpretationoftherelevantESAparagraph,whichdefinesinterestasapaymentatpredetermineddatesofafixedpercentageofthenominalvalueoftheasset(par.428ESA2ndedition).Theeconomicinterpretationofthisparagraphledtotheconclusiontotreatthepricedifferenceasinterest.Alternatively,totreatthisasaholdinggainorlossdidnotseemacceptablefortworeasons.Holdinggainsorlossesnormallyinvolveanelementofrisk,whichisnotthecaseforzero-couponbonds.Allinformationisknowninadvanceandiscertain.Second,themarketitselfconsidersthesepricedifferencesasinterestwhencalculatingtheyieldonthesebonds.Moreover,thetreatmentasholdinggainsorlosseswouldhavemeantthatthesepricedifferencesarenotrecordedinthedeficitasdefinedbytheESA2ndedition,anunsatisfactorysolutionfromaneconomicstandpoint.

LinearBonds

Eurostatexaminedthecaseofnonconventionalbonds,thatis,bondswhosetreatmentisnotexplicitlyindicatedinESA1979,anddecidedtotreatthemaslinearbonds.Likefungiblebonds,linearbondsarebondsissuedinseveraltranchesfromthesamelineage,thatis,withthesamenominalinterestrateaswellasidenticaldatesforthepaymentofcouponsandforreimbursementatmaturity.Newtranchescanbeissuedforlinearbondsseveralyearsafterthefirstissuance.Theyarethereforeissuedwithdiscountsandpremiums,whichcanbesignificantasaresultofchangesinmarketinterestratesinthe

interveningperiodsincethefirstissuance.Thequestionistoknowhowisthedifferencetreatedbetweennominalvalueandpriceatissue(discountorpremium)atthetimethenewtrancheisissued.

Adistinctionmustbemadebetweentranchesissuedwithin12monthsofthefirstemission,andtranchesissuedbeyond12months.

Foreachtrancheissuedinthe12monthsafterthefirstissue,thedifferencebetweennominalvalueandissueprice(discountorpremium)mustbetreatedasacapitalgainorloss,withoutanimpactonthepublicdeficit.

Foreachtrancheissuedbeyondthe12monthsfollowingthefirstissue,thedifferencebetweennominalvalueandissueprice(discountorpremium)mustbetreatedasinterest.Therefore,thishasanimpactonthepublicdeficit:Thediscountsincreasethedeficit,andpremiumsreduceit.Thetotalamountofinterestrecordedatthetimeofpaymentofcouponisthereforecalculatedasfollows:theactuarialrateofinterestofthetranchemultipliedbythevalueofthetrancheissue.

Linearbondsexistparticularlyincountrieswherethefinancialmarketsarerelativelythin,asinBelgium,Sweden,Finland,andPortugal.

SalesofGoldbyCentralBanks

Eurostatdecidedthatthesaleofgoldandthesubsequenttransferoftheproceedsfromthissaletothegeneralgovernmentshouldbetreatedasafinancialtransaction.Thismeansthattheproceedsfromthissalecannotberecordedasareceiptreducingthedeficitinthesameway.Theargumentisbasedonthephilosophythattheownerofthemonetarygoldisthecentralgovernmentandthatthetransactionisdoneonbehalfofthegeneralgovernment.

FinancingandExploitationofPublicInfrastructurebytheEnterpriseSector

Eurostatwascalledupontodecideaboutthefinancingandexploitationofpublicinfrastructurebytheenterprisesectorinthreetypesofcases.

Thefirstcaseexaminedwasthefollowing.Anenterprisefirstconstructstheinfrastructure;itthenoperatesitforacertainperiodduringwhichitreceiveseachyearpaymentsfromthestate:Theannualpaymentsofthestaterepresentthepurchaseofservicesproducedwiththeinfrastructure.Whentheperiodofexploitation

expires,theinfrastructureishandedtothestatewithoutthelattermakinganyadditionalpayment.

Eurostatdecidedtotreatthiscaseinthefollowingmanner:

Theinitialinvestment(grossfixedcapitalformation,GFCF)mustberecordedintheaccountsoftheenterprise,withoutanyimpactonthepublicdeficit.

Theannualpaymentsofthestateconstitutethepurchaseofservicesthatincreasethepublicdeficiteachyear.

Attheendoftheperiodofexploitation,thestateacquirestheinfrastructure:ThispositiveGFCFhasasacounterpartanonfinan-

cialtransaction,recordedatthesametimeintheaccountsofthestate.Theacquisitionoftheinfrastructure,therefore,hasnoimpactonthepublicdeficit.

ThiscaseconcernsparticularlytheUnitedKingdom,wherecontractsarebeingestablishedaccordingtowhich,attheendofacertainperiod,thestatetakescontrolofinfrastructurebuiltandoperatedbyenterprises.

Thesecondcaseconcernsanenterprisethatisrequiredtobuildandtoprefinanceafixedassetforthegeneralgovernmentandwherethegeneralgovernmentbecomestheowneroftheassetasitisbeingbuilt:GFCFshouldthenberecordedinthegeneralgovernmentsector.Thisinvestmentcontributestoanincreaseinthegovernmentdeficit.IthasnoimpactongovernmentdebtasdefinedinCouncilRegulationN.3605/93,becausethisregulationforeseesthatmedium-andlong-termtradecreditliabilityrecordedinthegeneralgovernmentaccounttowardtheenterprisesectorisexcludedfromthemeasurementofdebtforthepurposesoftheconvergencecriteria.

ThissecondcaseappliesinparticulartotheconstructionandprefinancingofroadsinGermanybytheprivatesector:Thereareatleast12projectsunderwayin1995/1996atthelevelofthefederalgovernment,aswellasanumberofprojectsconcerningtheLänderandthecommunes.Moreover,ahigh-speedrailwaytrackisplannedtobefinancedinthesameway.Governmentdeficitincludespaymentswhicharedueasworkiscompleted.Theestimatedamounts,45billionDMin1997,arestillsmallasapercentageofGDP.

Thethirdcaseinvolvesanenterprisethatisrequiredtobuildafixedassetandexploititforallitslife,whiletheownershipoftheassetisgiventotheenterprise:GFCFshouldthenberecordedintheenterprisessectorandthusshouldhavenoeffectonthegovernment

debtanddeficit.

OneexampleofthethirdcaseisthebridgebetweenDenmarkandSweden(Oresundbridge):ApubliccorporateconsortiumownedbytheSwedishandDanishgovernmentsbeganconstructiononthisbridgein1996.Theconsortiumfinancestheoperationthroughborrowingonthemarket,backedbystateguarantees.Thebridgeisplannedtobereadybytheyear2000.Theconsortiumwillthenhavetheconcessionofoperatingthebridgeandwillreceivethetollsraised.Thedebtisestimatedtobepaidoffintheyear2026,andafterthat,theconsortiumwillcontinuetooperatethebridgeindefinitely.TheGFCFisrecordedintheenterprisesector,withnoimpactonthegovernmentdeficit.

AnotherexampleofthethirdcaseisgivenbytheintentionsofsomeoftheprivatefinanceinitiativecontractsinUnitedKingdom:Insteadofthegovernmentbuyinganassetandoperatingit,thegovernmentbuysservicesfromaprivatesectoroperator.Suchoperatorsmayequip

themselveswithassetstoprovidetheservices.GFCFisrecordedintheenterprisesectorwithnoimpactongovernmentdeficit;thegeneralgovernmentaccountshowsthepurchaseofservicesprovidedbytheenterprise,whichcontributestoanincreaseinthegovernmentdeficiteveryyear.

Eurostatconfirmsthatthetreatmentsdescribedabove,andrecordedassuchintheaccountsofGermany,Denmark,Sweden,andUnitedKingdom,arecorrect.TheseamountsarealreadycorrectlyaccountedforinthenotificationsthatmemberstatessendtotheCommissiontwiceayearintheframeworkoftheexcessivedeficitprocedure.

TreatmentofExportInsuranceGuaranteedbytheState

Ineachmemberstate,thereareinstitutionswhichspecializeinexportinsuranceandcanoperatewiththeguaranteeofthestate.Accordingtotheparticularcircumstancesineachcountry,theyareclassifiedintheinsurancesector(S50)orthegeneralgovernmentsector(S60).

Thesespecializedinstitutionsreceivepremiumsfromexporters.Theypayoutindemnitiesinthecaseofdefault,butmayalsorecoverdebt.

Eurostatdecidedthat,generally,alloftheseflowsshouldberecordedasnonfinancialtransactions.Followingthisdecision,coveragebythestateoflossesrealizedonrisksthatitguaranteesmustberecordedinthenonfinancialaccounts,withanimpactonthegeneralgovernmentdeficit.

TreatmentofCertainTaxes.

EurostathasdecidedthattheItaliantaxonwagefunds(linkedtotheEurotax)isanewtaxandshouldberecordedasareceiptreducingthedeficit,followingtheunanimousfavorableopinionoftheCMFB.

TheItaliantaxonwagefunds(fondidiquiescenza)whichare

accumulatedintheenterprisebalancesheetobligestheemployeestopayataxatthetimeofwithdrawalofthesefunds.In1996,theItaliangovernmentintroducedalawwhereby2percentoftheamountsaccumulatedshouldbepaidin1997byenterprises,whereastherestofthetaxremainsduewhentheemployeesleavetheenterprise

Eurostathadtodecidewhetherthistaxwastobetreatedasafinancialadvance(noeffectonthedeficit)orasanewtax(reducesthedeficit).

Afinancialadvanceisapaymentagreedbybothpartiestobebroughtforwardaheadoftheoriginalduedateofthenonfinancialtransactionthatgivesrisetothepayment.Financialadvancesaretoberecordedinthefinancialaccountsasshort-termorlong-termloans

(F70orF80intheESA79classification).Theyarenotenteredasareceiptinthedistributionofincomeaccountofthegeneralgovernmentsectorandthereforehavenoeffectonthedeficit.Ataxhastoberecordedassuchintheaccountsonlyatthattimeitfallsdue,thenreducingthegovernmentdeficit.

Inthiscase,EurostatconsideredthattheItaliangovernment,bymodifyingthetaxonwagefunds,hadintroducedanewtaxthatiscalculatedonanewbasis,withanewduedate,andtobepaidbytheenterprisesinsteadoftheemployees.

Therefore,thereceiptfromthistaxwhichwasduein1997isnotafinancialadvance,butataxthatreducesthedeficitin1997.Theestimatedamountstobecollectedare3,500billionITL,whichrepresents0.19percentofGDP.

DecisionsAffectingtheLevelofDebt:DebtAssumptionbytheGreekGeneralGovernment

TheGreekcaseistakenhereasanexampleamongothers,whereitbecameapparentthatthenationalclassificationofthetransactionsconcerningdebtassumptionwerenotinconformitywiththerulesadoptedbyEurostat.

ItshouldberememberedthattheESA2ndeditiondescribesindetailtheaccountingrulesforeconomicflows,butissilentontransactionsinstocks(balancesheets)andotherkindsoftransaction(otherchangesinvolumeandrevaluation).Forthisreason,andfollowinganopinionoftheCMFB,Eurostatdecidedthatfortheprocedureoftheexcessivedeficits,debtassumptionsanddebtcancellationsshouldbetreatedinconformitywiththerulesofESA95whichconsistentlycoversallthesetransactions.

TheESA95containspreciserecommendationsconcerningthe

classificationofdebtassumptionanddebtcancellationbygeneralgovernment.Thegeneralruleisthatthecounterpartofthedebtassumptionordebtcancellation(decidedbymutualagreement)belongsundertheheadingofcapitaltransfersandhastoberegisteredinthecapitalaccount.Thisgeneralrule,however,foreseesthreeexceptionsofdebtassumptionorcancellation:towardaquasi-corporateenterprise;bygeneralgovernmentfromapublicenterprise,whichdisappearsasaninstitutionalunitfromthesystem;andtowardapublicenterpriseintheprocessofaprivatizationtobeachievedfortheshortterm.

Inthefirstandthethirdcase,thecounterpartsofthedebtassumptionorcancellationarefinancialtransactions,andinthesecondcase,itisanotherchangeinvolume.

Takingintoaccounttherulesdescribedabove,itbecameapparentthatcertaindebtassumptionsbytheGreekgovernmentwereincorrectlyclassified.Asamatteroffact,onlythosedebtassumptionsthatwerelinkedtoapaymentfromthegeneralgovernmenttothecreditorwereregisteredascapitaltransfers,whilethosedebtassumptionsthatwerenotdirectlylinkedtoapaymentwerenotregisteredintheaccounts.

FollowingtherecommendationfromEurostat,theGreeknationalaccountantshavechangedtheaccountsfortherelevantyearsandregisteredascounterpartacapitaltransferforallthosedebtassumptionsanddebtcancellationsbygeneralgovernmentthatcorrespondtothegeneralruledescribedabove.

DebtAssumedfromtheGermanTreuhandanstalt

ThegeneralruleandtheexceptionfromtheclassificationofthecounterparttransactionstodebtassumptionanddebtcancellationhavebeenalreadymentionedinthecaseofGreece.Accordingtotheserules,adebtassumptionfromaunitthatdisappearsfromthesystemistreatedasanotherchangeinvolume.Aninstitutionalunitdisappearsfromthesystemwheneveritisemptiedofitseconomicandfinancialsubstance.ItshouldbementionedthattheaccountOtherchangesinvolumehasbeenintroducedinthenewaccountingsystems(theSNA93andtheESA95)inordertorecordthoseotherflows(appearanceordisappearanceofassetsinexceptionalcircumstances),whichdonotbelongtonormaltransactions.

TheTreuhandanstaltwasinchargeatthebeginningofthe1990sofreorganizingandprivatizingthepublicenterprisesinthenewGermanLänder.DuringitsfouryearsofexistencetheTreuhandanstaltaccumulatedadebtofabout204billionDM.Onceitsworkhadfinished,theTreuhandanstaltwasabsorbedbythestateanditsdebttakenoverin1995byafederalagency(Erblastentilgungsfonds),

whichmeansbythestate.Subsequently,theoutstandingleveloftheGermanpublicdebtincreasedbythisamount.

TheGermanfederalstatisticalofficetreatedthisflowasacapitaltransfer,deterioratingthenetborrowingrequirementofthegeneralgovernment,whereasinthebiannualnotificationstotheEuropeanCommission,theGermanministryoffinanceconsideredittobeanexceptionaltransactionthatshouldnotenterintothecalculationofthedeficit.EurostatalsoarguedthattheTreuhandanstalthaddisappearedeconomicallyanddecidedtotreatthisflowasanotherchangeinvolume,whichhasnoeffectonthegeneralgovernmentnetborrowingrequirement.

StateGuaranteesonPublicEnterpriseDebt

Eurostathasdecidedthatpublicenterprises'debtguaranteedbythestateshouldbedirectlytakenintoaccountinthegovernmentdebtunderthefollowingconditions:

Thelawauthorizingissuanceofthedebtspecifiesthegovernment'sobligationofrepayment.

Thebudgetofthestatespecifieseachyeartheamountofrepayment.

Thisdebt,issuedbytheenterprise,issystematicallyrefundedbythestate(interestandprincipal).

TheItalianRailwayshavetraditionallyraisedfundsonthefinancialmarketswiththeagreementoftheItaliangovernment.Since1981,eachdebtissue(forthepurposesofmaintaininganddevelopingtheinfrastructures)wasindividuallyauthorizedbytheMinistryofTreasury,bymeansofapubliclaw.Suchpubliclawstatedtheobligationofthetreasurytoservethisdebt(interestandprincipal)andtoidentifyforthispurposethefundsinthebudgetlaw.Nevertheless,Italiannationalaccountantsusedtoconsiderthisdebtasbelongingtotherailwaycompany.Eurostatbelievesthatthisdebtshouldberegardedasbelongingtothestate,nottheenterprise,andthereforeitsstockshouldbeincludedinthestockofthegovernmentdebt.

CurrencySwaps

InthecaseofcurrencyswapsEurostathasdecidedtovalueanyoutstandingforeigncurrencydebtaccordingtothemarketexchangerateandnotattheexchangerateagreedintheswapcontract.Theexistenceofaswapagreementisneutralforthevaluationofdebtoutstandingattheendofperiodaccordingtoregulation3605/93.ThisdecisionappearedasitisphrasedaboveinapressreleasemadebyEurostat.Apparently,thisstatementwasnotclearenoughand

thereforewasmisunderstoodbysomenationalaccountantsofthememberstates.Infact,thisdecisionmeantthattheforwardpartoftheswaptransactionshouldnotbetakenintoaccountwhenvaluingtheoutstandingdebtinforeigncurrency.

OutlookofWork

BeingthatthisconferenceisdevotedtodebtmanagementincentralandeasternEuropeancountries,thispapershouldthereforeconcludewithafewremarksconcerningthefiscalconvergencecriteriaforcandi-

datecountries.ItshouldbementionedherethatEurostatdealswithall11candidatecountriesequally,andnodistinctionismadeforthosecountrieswhichhavestartedtheirnegotiationsearlierthanothers.

Eurostatstarteditsworkontheintroductionofthemethodologyforthemeasurementofdeficitanddebtafewyearsago.Afirstworkshoponthesethemeswasorganizedin1994inJachranka,Poland,andasecondonefollowedinPrague,CzechRepublic,ayearlater.Theproblemsthatwereidentifiedatthatstageconcernedmainlythedelimitationofthegeneralgovernmentandtheissuesconnectedwiththeprivatizationprocesswithinthesecountries.

Inaddition,astartingpointfortheproductionofcomparablestatisticsofdeficitanddebtarethegovernmentfinancestatisticscompiledbytheministriesoffinanceinthesecountriesfortheInternationalMonetaryFund(IMF).ThesestatisticsarebasedontheIMFgovernmentfinancemethodology(GFS)andarereportedtotheIMF'sStatisticsDepartmentforpublicationintheGovernmentFinanceYearbook.Theycovervarioussubsectorsofgeneralgovernment,includingcentralgovernmentbudget,extrabudgetaryfunds,socialsecurity,andlocalauthorities.EventhoughtheGFSmethodologydiffersfromtheESA95methodology,thetwomethodologiescontainmanycommonelements.Inparticular,theGFSbelowthelineaccountsanddebtstatisticsbytypeoffinancialinstrumentandcreditorcanbeusedasonebuildingblockforthecompilationofthegovernmentsectorfinancialaccounts.Furthermore,becauseministryoffinancestatisticiansaregenerallyfamiliarwithdetailedaccountsofthegovernment,theirexpertiseisessentialfortheproductionofnationalaccountsbasedongovernmentsectorstatistics.Inthefuture,astherevisedGFSmethodologybecomesconsistentwiththeSNAandthereforewiththeESA95,theneedforclosecooperationbetweentheministriesoffinanceandthestatisticalinstituteswilltendtoimprovethedeficitanddebtstatisticsinthesecountriesasdefinedin

theMaastrichtTreaty.

Imputedsocialcontributionsarethecounterparttothesocialbenefitspaiddirectlybyemployers,thatis,notlinkedtoactualsocialcontributions,totheiremployees,orformeremployeesandothereligiblepersons(ESA2ndeditionpar.411).Acircuitforimputedsocialcontributionsisnecessarywhenaccountingforsocialbenefitspaiddirectlybytheemployerundertheheadingofsocialbenefits,torecordthecostofthesebenefitsaspartofcompensationofemployeespaidbytheemployer.

AccountingandFinancialPracticesintheLightoftheContextoftheMaastrichtTreatyFrancescoForte

PrudentialAccountingandtheMaastrichtRules

TheMaastrichTreatysetstworulesregardingpublicindebtedness:theyearlynetdebtofthebudgetofthegeneralgovernment(thewordgeneraldeservesparticularattention,asweshallseeinashortwhile)shouldnotexceed3percentofGDP;thegrossdebtofthegeneralgovernmentshouldnotexceed60percentofGDP;andincaseofanexcess,thisshouldberapidlyreducedwithinthe60percentceiling.

Inordertorespectthesetworulesatthecentralgovernmentlevelandenforcethemfortheotherpublicsectorentitiesformingthegeneralgovernment(thatis,regionalandlocalgovernments,socialsecurityinstitutions,andgovernment-controllednonprofitinstitutionswhoserevenuestotalmorethan50percentnonmarketreceipts),appropriaterulesofbudgetaryandpublicdebtaccountingandmanagementmustbeadopted.Thispaperwillfocusontwoissues:theadoptionofpublicaccountingrules,definedasprudentialaccounting,andcarefuladoptionandcontrolofderivativesrelatingtopublicdebt.

Inthisfirstsection,theprinciplesofpublicprudentialaccountingareoutlinedinthelightofthecontextoftheMaastrichTreaty.Inthesecond,thethemeofpubliceconomyderivativesaredealtwith,andinthethird,asketchispresentedofthe(oftenhidden)contingentliabilitiesanddebtderivativesthatthecentralgovernmentsshouldtrytocontrolandproperlyaccountfor.

LetusnowconsidertheprudentialaccountingprinciplesthatarerelevanttotheaccountingpracticesconsistentwiththeMaastricht

rulesondeficitsanddebts.

First,prudentialaccountingingeneralandasparticularlyemphasizedbytheIMFimpliesgreatattentiontotransparency.Indeed,afinancialcrisismaybeinitiatedbythesuddenrealizationthatthereisahiddendebt,thatthereareoff-budgetdeficits,and

thatthecashbudget'sbalancedoesnotreflectthearrearsoftherealsituation.

Second,prudentaccountingimpliesfortheMaastrichTreatyacomprehensiveconsiderationofpublicentities:notonlythestatebudgetanditsofficialpublicdebt,butalsothatoflocalinstitutions,healthinstitutions,andsocialsecurityinstitutions.Furthermore,onemustgobeyondtheofficialdefinitionofgovernmentasintheaccountingrulesoftheEuropeanSystemofAccounting(ESA)toconsiderthecommercialandfinancialdebtofquasi-governmententitiesthatperformpublicservices,chargingpoliticalpricesratherthantheactualcosts.Theseincludemunicipaltransportation,therailways,andthepostoffice.Onemustalsoconsiderquasi-marketentities(somenonprofitinstitutionsinthesocialandculturalarea,privateandpublicmixedcompanies,andbanksorotherinstitutionsperformingservicesofgeneralinterest)guaranteedbythegovernment.Inthesecases,onemusttrytoseparatetheburdenofgovernmentdebtsfromthosethatothersarelikelytobear.Theseliabilities,asweshallsee,maybeconsideredtobepubliceconomyderivativesandshouldbeincludedinappendixestothe(central)governmentaccountsinordertomakethegovernment'sobligationsclearer(seethetransparencyprincipleabove).

Third,prudentialaccountingundertheMaastrichtrulesimpliesaccrualaccounting(thatis,accountingbyobligations.)Appropriationsmaybedeceptive,becausesomeofthemtakeagreatdealoftimetobetranslatedintoobligations.Forthisreason,oneusuallyfocusesonlyonthecashbudget,whichalsomaybedeceptivebecausepublicadministratorsmaypostponepayments,hopingthatsomebodyelsewilltakecareofthem.Thus,unsoundarrearsmaybuildup,damagingthefunctioningoftheeconomyandcreatingasituationofcontinuoustensioninthemanagementofthecashbudgetbecauseofcreditors'pressures.Inanyevent,thenewESArulesof1995donotconsider

anycashbudgeting.

Fourth,prudentialaccrualaccountingimpliesasymmetricalaccountinginthelifecycleofobligations.Onechoosesthelaststageforrevenuestobesurethattheyarereallycollectible,andthefirststageforexpenditureobligationstotakeaccountofthosethatthegovernmentwillnotbeabletoescapeinthefuture.Sometimesthegovernment'sobligationforpublicworksinfrastructurecomesdueinfullonlywhenprojectsarefinished,buttheobligationsforthevariousyearsbeforefinalcompletionoftheprojectsshouldbeassessedinthoseyears.Inthecaseofzerocouponbonds,thegovernment'scostappearsonlywhentheyexpireandtheirownersreceiveanamountmanytimeshigherthanthatoriginallypaidtopurchasethem,but

actuallythecostfortheissuertakesplacethroughouttheirentirelife.AccordingtotheolderESAruleapplicabletoMaastrichtrules,someofthesebehaviorswereallowed,butthisisnolongerthecaseunderESA1995,whichisrelevantfrom1999on.

Fifth,prudentialaccountingasaccrualmeanscloselylinkingtheflowsofthebudgettothechangesinthestocksofthebalancesheet.Moreattentionmustbegiventoapparentsavingsinexpendituresowingtothesystemofreplacinggrantswithguaranteesonloansobtainedbyprivateorquasi-privateentitiesthat,incaseofcrisis,mayneedmassiveinterventionbythewarrantor.Thisisatopicbelongingtothederivativesorcontingentliabilitiesareaofpubliceconomy.HereMaastrichtrulesarenotexplicit,butthepactofstability,signedbythememberstatesoftheEuropeanUnioninthesummerof1995inordertoimplementtheEuropeanMonetaryUnion(EMU)requisites,clearlyimpliestheconsiderationoftheseliabilities.

Sixth,prudentialaccountingimpliesthatforforeigndebtswithapparentlyfavorableinterestrates,carefulconsiderationshouldbegiventotheriskinherentindevaluationofthedomesticcurrency,whichwouldaffectthecostofrepayment(thatis,ithasabalancesheeteffect,whichinthedevaluationyearsmayremainunnoticediftraditionalbudgetarypracticesareadoptedandthebalancesheetisdisregarded).Shiftingtoaconsiderationofthebalancesheetimpliesashiftfromashort-termtoalong-termview,andalsoashiftfromshort-termtolongertermindebtednessandtheprotectionofforeigndebtswithderivatives.Maastrichtrules,perse,donotconsiderthesekindsofissues.

Inanyevent,prudentialaccountingshouldshowshort-termdebtasdistinctfromlongertermdebt,debttoforeignersinforeigncurrencyasdistinctfromdebtindomesticcurrencytodomesticinvestors,andforeigndebtindomesticcurrencydistinctfromdomesticdebtin

foreigncurrency.Itshouldalsocombinetheseaspectswiththoserelatingtovariousmaturities(lessthanoneyear,oneyear,twoyears,threetofiveyearsand10yearsormore)anddebtswithbanksandotherinstitutions.ParametersofforeigndebtsandoftheirserviceonexportsandGDPshouldalsobeshownandshouldincludebankingandcommercialdebts.

Anysetofparametricrulesondebtanddeficittemptsgovernmentstoadapttoopportunisticbehaviors,whetherthroughmereaccountingcreativityorthroughmoresubtleoperations,includingformalchangesininstitutionsandcontracts.

WecananalyzeopportunisticbehaviorstomeetMaastrichtdeficitanddebttargetsbydistinguishingthevariouscomponentsofthetransactions(thatis,theirsubjects,theirobjects,andtheirtimeperiods).Obviously,someopportunisticbehaviorsorcreativeaccount-

ingbehaviorsbearonmorethanoneofthethreecomponentssimultaneously.

TheDeficitParameter

Thesubjectsofthetransactionmaybeslantedby:

Defininggovernmentinanoverlyrestrictiveway,sothatdebtsofgovernmentalinstitutionsarenotconsolidatedingovernmentdebt

Reportingrevenuethatconsistsofresourcesfrominstitutionsthatshouldbeconsideredpartofthegovernment

Theobjectsofthetransactionmaybeslantedby:

Optimisticallydefiningrevenuecreditsandassetssothatitemsarerecordedwithahighervalue

Recordingasrevenuescreditsthatwillnotbecollected

Recordingrevenuesthatarecollectedbutmustbereimbursed

Restrictivelydefiningobligations,debts,andliabilitiesontheexpenditureside,sothattheyarenotrecordedeveniftheyalreadyexistorhaveagoodchanceofexisting

Underassessingobligationsforpublicexpenditures,suchasincreasesofwages,pensions,maintenancecosts

Consideringexpendituresforthepurchasesofassetshavingarealvaluelowerthanthepricepaidasneutraltransactions

Thetimeperiodofthetransactionmaybeslantedby:

Shiftingexistingobligationstofuturebudgetsonthegroundsthattheyarenotyetmature

Shiftingfuturebudgetrevenuestothepresentbudgetdebts,whicharenowcomingintoexistencebuthavetodowithpreviousobligations,

tothepastbudgets.

TheDebtParameter.

Thesubjectsofthetransactionmaybeslantedbyrestrictingthedefinitionofgovernment,sothatdebtsofgovernmentalinstitutionsarenotconsolidatedingovernmentdebt.

Theobjectsofthetransactioncanbeslantedby:

Definingpublicdebtformulaically,sothatsomegovernmentdebtsarenotincluded

Excludingcontingentliabilitiesforguaranteesfromdebt

Givingguaranteesratherthanconcessionalloansorgrants

Thetimeperiodofthetransactioncanbeslantedby:

Consideringpublicdebtasitison31December,sothatitappearslate

Excludingfromdebtthosecontingentliabilitieswhosemagnitudeisnotclear(forexample,pensiondebt)

Obviouslytheseopportunisticaccountingpracticescontradicttheprinciplesofprudentialaccounting.

PublicEconomyDerivativesandPublicDebtManagementandControl

Governmentsmaybecomedemandersandsuppliersofderivativestoimprovepublicdebtmanagement,reduceitsrisks,andcontainitsamount.Governmentsmayalsoactassuppliersofderivativesasasubstituteforpublicdebtandasageneralguarantorofthefinancialsystemofthecountry.Initsperformanceofthislastrole,agovernmentmaybecomeadebtor.

Derivatives,generallyspeaking,arerightsorobligationsthatwillbecomeeffectiveinthefutureandthatderivetheirpresentexistenceandvaluefromfuture,unknownvariationsinvaluesrelatingtootherstandingassetsorcontractsamongexistingassets,whetherfinancialorreal:bonds,stocks,currencies,realproperties,products,andimmaterialgoods.Derivativesarepresenttitlestofuturerightsandliabilities,whosevaluedependsonthevariationsinvaluesofotherassets(theprincipalassetsinagivenperiodoftime).

Thevalueofthederivativesisbothaleatoryandhighpoweredandderivesfrommarginalchanges.Andbecausetheirlifeandvalueisdiscountedfromthefutureoftheirprincipalasset,thesmallerthetime

spanofthisconnection,thesmallertheproblemofdiscount,butthemoreimportantthesinglemarginalvariation.Thelongerthetimespanoftheirprincipal,thebiggertheproblemofdiscount.Thus,thevaluesofderivativesoftenarehighlysubjectiveandvariable.

Derivativesmayeitherconsistofarightofonepartywithobligationsofanother,orofrightsandobligationsforbothparties.Thosegivingafuturerightarecalledoptions,becausethosewhohavetitletothemcanexertarightiftheywish,buttheyarenotobligedtoexertit.Thosegivingtobothpartiesarightandanobligation,arecalledfuturesnottodistinguishthemfromoptionsthatalsomaterializeinfuture,butbecausethisisthefeaturethatdistinguishesthemfromthe

presentbilateralnexusofmutualrightsandobligations.Options,asanyotherrightofagivenpartyandthecorrespondingobligationoftheoppositeparty,mayoriginatefromaunilateralorabilateraltransaction.Butinamarketeconomy,onceoptionsexist,theirfurthertransactionsarenormallybilateraltradetransactions.Therefore,marketderivatives,eveniftheyariseasoptionsfromunilateraltransactionshavemarketvalues,effectiveorimputed.Thesevalues,asinthecaseofsecuritiesorcurrencieswithhighvolatility,mayreflectsubjective,aleatoryvaluations.Andbecausetheentirevalueofthederivativeconsistsofmarginsofchangesinvaluesofotherassets,theirmarketassessmentmayrestonafragileconsensus.

Inthecaseofderivativessuppliedorobtainedbygovernments,marketvaluesmaybenonexistent.Indeed,governments,becausetheyarenonmarketplayerswithsovereignpower,widelyoperatethroughpublicpolicyunilateralornonmarketbilateraltransactions(theselastatartificialprices,aboveorbelowthehypotheticaltruemarketprices).Governmentsmayaltertheconditionsonwhichthesealeatorydiscountedvaluesdepend.Forinstance,optionsonpublicinstitutionsforguaranteesoftheexchangerateriskdependonthegovernment'sexchangeratepolicy.Furthermore,thecirculationofsomepubliceconomyderivatives(asmostofitsguarantees)isrestrictedbythenatureofgovernmentsasplayers,who,bydefinition,onlyrarelyengageintrades.Whenthesederivativesareshort-lived,thiscirculationisevenmoreunlikely.Thus,accountingforderivativesbyreferringtomarketvalues,alreadyproblematicinamarketeconomy,maybeevenharderinpubliceconomymatters.

Butmarketvaluesarenottheonlypossiblemethodforassessingpubliceconomyderivatives.Onemaytrytoevaluatethembyrelyingonthedirectanalysisoftheprinciplestowhichtheyareattached,andofthemarkettrendsthatconditiontheirvalue.Thismaybeanexpensive,difficulttaskforaprivateinvestor,butitmaybeeasierfor

abiginstitutionwithbroadinformation,particularlyifarangeofpossiblevalues(ratherthanasinglevalue)isprovided.

Thisisparticularlytruefortheliabilitiesthatgovernmentsmayassumebywillinglyorunwillinglysupplyingderivativestootherpubliceconomyinstitutionsandtomarketandquasi-marketmarketeconomicentities.Thus,accountingforderivativesinthepubliceconomyispossible,evenifitdiffersfromconventionalmeans,anditisnecessarybecausethepubliceconomyneedsderivatives.

Bureaucratsandpoliticiansmaymaintainthatitisimpossibletoaccountforpubliceconomyderivativesbecausetheymaynotliketheirbehaviorandtheirresultstobetransparent.Butlackoftransparencyinfinancialpositions,asrecentexperiencesshow,canresultinfinancialmarketturbulence,anditisviewednegativelybyinternationalfinan-

cialmarkets.Thosewhopersistinithavetopayapremiumontheirinterestratesandhazardagreaterriskoffinancialstrainincaseofsymptomsofinsolvency.

Derivativesarehighlyvariedphenomena,asthetypesofartificialentities,imaginedinfinance,maybemultiplesoftraditionalmonetaryandrealassetsandliabilities.Letusbeginwiththedistinctionbetweenthetwocategoriesofderivativesthosegivingonepartyaunilateralrightandtheotheracorrespondingobligation,andthosegivingbothpartiesarighttogetherwithanobligation(thatis,optionsandfutures).Inthefirst,onepartyhasalltherisks,sincetheotherhasthechoiceofperfectingthecontractornotsometimeinthefuture.Inthesecondcase,bothpartiesmayhaveariskbecausetheyareobligedtoperformthecontractatafuturetime.

Optionsmaybeofferedonbothsidesofatransaction.Inoneinstance,theentitledpartieshavethefaculty(call),butnottheobligation,totakeanamountoftheconsidered(realorfinancialormonetary)principalassettowhichthederivativesareattached,andtheowneroftheprincipal,whoisliabletotheoption,isobligedtoacceptthechoiceofthecounterpart.Inanothercase,theowneroftheprincipalassettowhichtheconsideredderivativeisattachedcanputit,attheagreed-uponcost,onhiscounterpart,whomusttaketheassetorrespondforitsliabilities,givingthecollaterals,ifany.

Options;becausetheirasymmetricalnatureprovidesmoreunilateralrightsthanotherderivatives,mayarisefromariskyunilateraldecisionoftheirsupplier.Theyleavethecounterpartsafuturedecision,onanopportunitythattheyfromthebeginninghavenotchosen.Thisisthecaseoffreeoptions,givenbycorporationstotheirstandingstockholdersonnewstocks.Theseoptions,havingtheirorigininaunilateraldecisionbythegoverningbodiesofthecorporations,maybetradedonthemarketandthushavea(potential)

marketvalue.Butobviouslythisvalueisbasedontheexpectedvalueofthecorporationofferingtheoption.

Similaroptionsmaybegivenbycorporationsthatissuebondstotallyorpartiallyconvertibleinstocksandoptions(warrants)onfuturestocks.Heretoo,besidesthemarketprice,itispossibletogetanobjectivevaluationbyconsideringthenetvalueofthecorporationtowhichtheoptionsrefer.

Governments,too,inrelationtoprivatizationofpublicenterprises,mayissueoptionsontheirstocks,preferentialstocks,andwarrants,thusreducinganddiversifyingtheirindebtedness.Theseoptionsbecomeprofitabletothosewhogetthem,ifthevalueofthestockstobeoptionedishighenoughtocompensateforthecostincurredtogetthem,plusamarketinterestrate.Ifthisdoesnothappen,thosewhotooktheoptionlosemoney.

Peoplewhobuyareservationforatrainoralotteryticketmayrisktheirdownpaymenttobeassuredofadesirableassetwhosepurchasemightbecome,inthefuture,moreexpensiveorimpossible,andmightmakeacapitalgainthroughsellingitwhenitsvalueincreases.Thesuppliersofoptionsbenefitbybeingabletosellfutureassets,gettingadownpaymentinthepresent.Successfuloptionsmusthavealowenoughcosttomaketheirsaleattractive.Iftheprincipalassets'priceinthemarketislowerthantheircost,theywillremainunsold.Thus,thepartieswhoissuetheoptionsonentitiesundertheircontrol,inexchangefortheimmediatebenefittheyobtain,mayriskgettinglessthantheymightbeabletogetinthefuture,evendiscountingthatagivenamountofpurchasingpowerinthepresentishigherthanitwillbeinthefuture.Theyprefersomethingcertaininthepresenttosomethinguncertain,probablybigger,butneversmaller,inthefuture.Theyplayitsafe.

Inthiskindoftransaction,oneparty(theselleroftheoption)ishedging,andtheotherpartymaybehedgingbyundergoingapresentcertaincosttoassuretohimselfachoicethatmaybecomemoreexpensiveorimpossibleinfuture.Bothpartiesarehedging,butoneofthemistakingapositiverisk,asinabet,thatpresumablyappearstohimtobefair,oratleastnotunfair.

Theseoptionsandwarrantsmaycirculateonthemarketasderivatives,withanetvaluehigherorlowerthantheiroriginalcost,dependingonthevaluationoftheprincipalasset.InthecaseofawarrantWSwithaninitialcostof10thatallowssubscriberstobuyastockSat100,ifthemarketvalueofSis120,thevalueofWSwillbe20andthegainfortheinitialsubscribers10.ThosewhobuyWSat20,again,willeitherhedgeorbet,dependingonwhethertheyfearthatallSandWSwillbesoldoutorbecometooexpensivetobepurchasedinthefutureorhopethatWSwillincreaseinvalue,sothattheymayrealizeacapitalgainonit.

IfSisquotedat105,WSwillhaveavaluelowerthanSplusthepurchasepriceofW;ifSisquoted100orless,WSwillhavenovalue,andthosewhosubscribedWStomakeacapitalgainwillfeelalossof10,plusinterest.However,thosewhoboughtWSat10,tobesuretogetS,maystillconsiderthatisworthitforthemtogetSevenifSisquoted100orless.Theyareliketrainpassengerswhopaidforareservation,and,whentheygotonthetrain,discoveredthatitwasalmostempty.

IssuersofWSat10,however,ifSisvaluedonthemarketatlessthan110,maygetareputationforcheatingbymeansofunscrupulous,hazardousfinancing,andtheymayfindtheirfinancialcredibilityaffectedadversely.Ratherthanovershooting,theyshouldundershootthepricesoftheprincipalassetsandthoseoftheirwarrants.Thismaybe

particularlytrueforgovernmenttreasuriesissuingwarrantsforthestocksoftheirpublicenterprises.

Theoptionsgamealsomayimplyhedgingbyonepartyandrisktakingbytheother,incontractswithdifferentderivatives.Acaserelevantforgovernmentsengagedindebtserviceonforeignloansmaybethatofcurrenciesoptions,wherepartyAgetsintimeT0fromB,anoptiontogetinT1,UunitsofaforeigncurrencyFforanamountU'ofdomesticcurrencyD,UF/U'DbeingtherateofexchangebetweenFandDinT0,withthepossibilityofgivingXunitsofD,UF/XDbeingthemarketrateofexchangebetweenFandDinT1.Here,AgetstheoptionforacertainamountofpurchasingpowerdenominatedinF,atthepresentrateofexchange,withthecertaintythathewillnotincuraloss,becausehewillnotexerttheoptionifUF/XDisgreaterthanUF/U'D.BhastheriskofprovidinginT1moreunitsofFfortheU'Dunitsthanthosedueaccordingtothethencurrentmarketprice.Ifthishappensandhewantstoresell,U'Dwillhaveanetloss.Thesupplyofthisoptionhasacost,relatedtothelikelihoodofadevaluationofthecurrencyD.Ahereishedging;Bisrisking.ButB,whotakesariskbysupplyingtheFoption,doesnotneedtobearisklover.Bmaysimplybeabankersellinghedgingatapremium,protectinghisownriskswithassetsorwithsymmetricalderivatives.

Thisneedforhedgingmayarisefromexposuretotherisksofforeigndebtservice.Othercallandputoptionsarerelatedtorisksinstandingactivitiesandtotheneedforcreditsguaranteedbyassetsexposedtorisks.Typically,theproducerofagivencropmaybuytheputoptionofsellingitatapredeterminedprice,whichnormallywillallowhimareasonablemarginofgain,thusassuringthathewillhaveagivenrevenue.Hemaythusbeabletogetacredit,givingtheoptionascollateral.Theownerofgivenstocksorbonds,maybuyputoptionsinordertosellthematapredeterminedpriceforsimilarplaysafe

strategies.Obviously,inthesecases,thosewhoselltheputmayriskanetlossbecausetheycommitthemselvestotake,inthefuture,givenassetsatpricesthatmaybehigherthantheirvalue.Inassetswithvolatileprices,themarginoffluctuationand,therefore,thenetloss,maybelarge.Theseoptionsthusmayhaveahighcost.

Publicinstitutionsmaybeengagedinthesupplyofputoptions,toassuretheacquisition,atapredeterminedprice,ofgivencropsinordertosupportagriculturalproduction.Inthiscase,theoptionsoftenaregivenwithoutcostorwithaverylowpremium.Therefore,theseinstitutionsmayneedasubsidy.Andthelegalormoralguaranteeofthegovernmentforthemmayberisky.

This,however,isnotalwaystrue.Putsmaybesuppliedatanearlyperiod,whenthecropsarejustcomingout,and,therefore,marketpricesarelow.ProducerA,whoisshortofcredit,maybequitewillingtoexert

theputatthatprice.Keepingtheseassetsforenoughtime,thepurchasersmaybeabletoresellthematahigherprice,withamarginofgain.Thus,situationsexistwherethosewhopurchaseputoptionsarehedging,andthosewhosellthemareengagednotinrisktaking,butinnormaltradeandfinanceactivities.

Purchasersmaytakeoptionsonfuturegoodscalledcalls.Somepersonsneedtohavegivenassetsand,therefore,askfortheoptionofpurchasingthematapredeterminedprice.Thus,thosewhoneedregularsuppliesofoiltorunagivenproduction(forexample,inpetrochemicals)mayhedgeagainstfuturehigherprices,buyingoilcallsatapredeterminedprice.Thesupplieroftheseoptionsmayberisktakerswhopromisetosellassetstheydonotownshortatagivenprice,hopingthatthecallwillnotbeexerted.Ifitisexerted,becausetheeffectivepriceishigher,theywillundergothelossofpurchasingtheassetsatapricehigherthantheirresaleprice.Thattheytakethisrisk,however,doesnotimplytheyaregamblerswithapreferenceforrisk.Theymayaskpremiumsforthehedgingsprovided;buycallsforthesameassets;orsetaside,reserve,anddistributetheirportfoliosofoptionstocompensateforvariousrisks.

Ontheotherhand,calloptionsmaybegivenbytheownerandproducersofgivenassets,toincreasetheirliquidity.Iftheoptionisexerted,becausethemarketpriceishigherthanthestipulatedprice,theyloseapotentialgain,buttheyhavecashedadownpayment;andiftheoptionisnotexerted,becausepricesarelower,theykeepthatpremium.

Tosumup,thereare,fromtheriskpointofview,threekindsofputsandcallsthosewhereneitherpartiesriskafuturenetloss,thoseinwhichthesupplieroftheprincipalassetpromisingtheoptionofprocuringitrisksanetloss,andthoseinwhichthewould-betakersoftheprincipalassetriskanetloss.

Guaranteesbelongtothisthirdtype;theyarelikeputcontractsatpredeterminedprices.Theguarantorsriskaloss,whilethoseinstitutionsthatareguaranteedandtheircreditorshedgeagainstloss.Inamarketeconomy,theguarantorsgetapremiumfortheirrisktaking.Inthepubliceconomy,guaranteesarefrequentlysuppliedbygovernmentswithoutapremium,eitherbecausetheyaregiven,bycontract,asasortofhiddengranttoeasetheactivitiesguaranteed,orbecausetheyarecalledtorespondbyamoralobligation.

Accountingforguaranteesinamarketeconomyisgenerallyeasierthanaccountingforoptionsoffuturecallsorputswhentheirriskrelatestothepatrimonialvalueofexistingprincipalassetsandcollaterals.Itispossibletoproceedtoadirectvaluationofthelikelyfuturenetpatrimonialvalueoftheprincipalandofthecollaterals.Accountingforguaranteesgivenbyagovernmentmaynotbedifferent,providedthattheirlegalbasisisspecified.

Marketeconomyguaranteesareeitherprovidedforagivenamountorforanyamountinrelationtoagivenitem,foragiventimeperiod.Normally,theoptioncannotbeexertedbeforetheowneroftheprincipalisaskedtorespondfortheconsideredliabilities.But,undercertainconditions,hemayhavethelegalorpracticaloptiontocallfortheguaranteebeforedirectlyresponding.Theguarantor,iftheoptionisexerted,althoughliableforpaymentoftheguarantee,willbecomeowneroftheguaranteedassetandcollateralswithinthelimitsstipulated,whichmayexceedtheguaranteedliability.Ifthisisthecase,theowneroftheprincipalassetnormallywillnotexerthisoption.

Letusnowconsiderfutures.Theydifferfromoptionsinthatbothpartiesarecommittedtoagivenpromise,withoutanalternativeoption.Inthecaseofoptions,therearethreepossibilities:norisktakingforeitherparty,risktakingbythesupplieroftheprincipalasset,andrisktakingbyitspotentialpurchaserorguarantor.Infutures,therearefourpossibilities:noriskofnetlossforbothparties,riskofnetlossforthegiverorthetakeroftheprincipalasset,orriskofnetlossforbothparties.Actuallythepassagefromoptionstofuturesbasicallyimpliesashiftfromunilateralriskassumptiontorisksharing.

Asidefromthissharingaspect,futuresaresimilartooptions.Infutures,apredeterminedamountofagivenassetN,orofamountsofNtobespecifiedaccordingtothefuturemagnitudeofagreed-uponparameters,mustbesuppliedatafuturetimeT1,inexchangeforapredeterminedamountofanassetM,orforamountsofMtobespecifiedaccordingtoagreedparameterswithunknownfuturemagnitude.ThegoingvalueofthederivativewillbedeterminedbythedifferencebetweentheassumedmarketratioofMandNinT1,TX,TZandtheiragreedratiointheoriginalcontract.Futuresmayrelatetorealorfinancialassetssuppliedinagivencurrency,ortothe

tradebetweendifferentcurrencies.

IfthemarketpriceofNinTZ,theperiodoftheendofcontract,ishigherthanitsagreed-uponprice,intermsofM,thesupplierAloses.Intheoppositecase,itispurchaserBwholoses.Butwehaveseenforoptions,onemustdistinguishbetweenthecaseinwhichAownsNfromthatinwhichAhastobuyitfordeliverytoB;andbetweenthecaseinwhichB,wantingMforhisproductionorforhisportfolio,hastheliquiditytopayforitfromthatinwhichhehastoresellit.

Itislikelythatfuturesonpublicdebtwilldevelopinthesecondarymarket.Indebtmanagementitisimportanttoavoidthefallintheirvalue,whichisasignalofthereducedappreciationofthatdebt.

ForwardcurrenciescontractsarefuturesforthepurchaseofcurrenciesF,bysubjectsA,whowillpaywithDatapredeterminedrateUF/U'D(itmaybetherateinT0oraratetobedeterminedaccordingtogiven

parameters).Thesecontractsarerelevantforgovernmentswhohavetoserviceforeigndebts.IfgovernmentAbuysafutureforF,andthemarketrateofF/DislowerthanUF/U'D,Awillincuraloss.ThusifAwantstohedgeontherateofexchange,hecan,rationally,buyafutureif,inhisbelief,itisunlikelythatDwillimproveonF.IfAisuncertainwhetherDwillimproveorworsenonF,tohedge,hemightprefertobuyacallonF.Butafuturemaybelessexpensivethananoption,becausetheriskisshared.Aswenotedforoptions,thosewhosupplyFbyforwardcontractsneednottoberisktakers.Iftheyarebankers,theoppositeisusuallytrue.Inregulatedmarketstheyareobligedtocovertheirriskswithadequateassetsanddiversifiedportfolios.

Animportantfutureforpublicdebtmanagementistheforwardrateagreement,inwhichonepartyreceivesandtheotherpays,atagiventime,thedifferencebetweenthevalueofagivensumofmoney,inagivendenomination,assessedbyapredeterminedrateofinterest,andtheeffectivevalueofarateofinterestchosenbytheparties(supposetheaverageinterestrateoftheLibororoftheGermanBund,inthatdayorinthemonthbeforethatday).

Anotherkindoffuturerelevantforpublicdebtmanagementandforservicingforeigndebt,incasesofatemporarylackofliquiditydenominatedinforeigncurrency,istheswaponinterestratesoroncurrencies.Intheinterestratesswap,thepartiesexchangetwointerestratesflows,onagivensum,denominatedinagivencurrency,onepredeterminedandtheothertobedeterminedaccordingtothebehaviorofthechosenrate(forexample,theLiborortheBund)orbothtobedeterminedaccordingtothebehaviorofthechosenrates(forexample,foronepartytheLiborandtheothertheBund).Inthecurrenciesswap(whichmayberelevantforservicingpublicdebtsdenominatedinforeigncurrency)thetwopartiesgiveeachothertwogivenamountsoftwodifferentcurrencies,presumablyatthepresent

rateofexchange,andcommitthemselvestogetbacktheiroriginalsumsatarateofexchangethatwillbefixedaccordingtopredeterminedcriteriarelatingtothevariationsintherateofexchangeplusaninterestrateonthem.

Insummary,derivativesmaybeemployedtohedgeagainstriskortoofferprotectionagainstriskandtoengageinriskyoperations,hopingtogainthroughthem.Abundleofderivatives,withrisksdependingonoppositeordiversifiedeventsmayalsoappearasawaytoperformrisk-indifferentactivities.

DerivativeStrategiesforthePublicEconomy

Intheworldofderivatives,strategiesmaydiffergreatlyaccordingtoobjectivesandtothefunctionsoftheplayers.Thosewhorisktheirownwealthmaybehaveverydifferentlyfromthosewhomerelyhazardthe

propertyofothersasagentsofthepubliceconomy.Marketeconomyactorsmaydecidetoplayriskygamesbecausetheypreferrisk.Thesameriskswiththetaxpayers'moneyshouldnotbepermittedtopubliceconomyagents.Onecannotassumethattaxpayershaveapreferenceforrisk.Moreover,itislikelythatpubliceconomyagentstendtounderassessrisks,sincetheyplaywiththewealthofothersinanasymmetricinformationalsetting.Theymayhopetodisguiseprobablelosses,whiletakingthepraiseforpossiblegains.Intheriskygamesperformedbytheagentsofthegovernment,utilityfunctionsofothersmayeasilybeincorporatedintheutilityfunctionofthecommunity,withoutcostfortheseagents.

Actorsofrealandfinancialeconomy,whoplayinriskymarkets,maybuyoptionsandfuturestohedgeagainstrisks:eithertoplayamaximaxstrategy,infaceofriskysituations,beingriskneutralortoplayamaximin.Theymayadoptthisstrategy,beingriskaverseatleastinsomecircumstances,becausetheyareunabletoassesstherisk,thatis,becausethereareimportantuncertaintiesthatmayleadtounpleasantoutcomes.

Publiceconomyagentsmayfindthemselvesinsimilarsituations.Thequestion,then,ariseswhethertheyshouldplayamaximaxoramaximinstrategy.Situationsmaydiffer.However,wheneveritisdifficulttomakeobjectivevaluationsoftherisk,maximinshouldbepreferred,becausemaximaximpliesachoicemadeinuncertaintywithsubjectivevaluations.Andasnoted,theagentsofthepubliceconomyoperatewiththewealthofothersandmayincorporatetheutilityfunctionofothers,withoutcosttothemselves.Thustheirdiscretionarychoicesunderriskmaybebiased.Andapparentmaximax,pursuedwithuncertainty,supposedlydoneintheinterestofthecommunity,mayactuallybeshapedbytheinterestofparticularparties.

Itmaybelogicaltoexpectthatthosewhorationallyinvestinderivativesasnormalrisk-neutralinvestorswouldgain,onaverage,aswouldanyotherinvestor.Butitwouldbeillogicaltoexpectthatthosewhobuyderivativesforahedgeshouldmakeanetgainbythem.Whattheyaimtodo,onthecontrary,istopayasmallcosttoavoidtheriskofbiggerlosses.Thusgovernmentsthatbuyandissuederivativesinordertohedgeagainstrisksintheirdebtpolicyshouldnotbeexpectedtomakegainsonthem.Rather,thequestionmaybewhytheyhavetheneedtobuyderivativestohedgeriskindebtmanagementandtoselltheminordertoimprovetheirprivatizationpolicies.

Diversificationofthedebtportfolioinordertoreduceforeignexchangerisks,asfarasissuesdenominatedinforeigncurrenciesareconcerned,ispossibleonlybychoosingcurrenciesthatfluctuateamongthemselveswithoutasystematicbias,asituationthatmightbetruefortheEurocurrenciesandthedollar.

Thereductionoftherisksofexchangeforthedomesticdebtpurchasedbyforeigners,whetherinforeignordomesticcurrency,isonlypossibleifthedomesticmonetarypolicyanddomesticbalanceofpaymentsaresuchthattherateofexchangeofthenationalcurrencyremainsstablecomparedtotheforeigndenomination,orthatthefluctuationsbelowandaboveparitytendtocompensateeachotherthroughtime.Clearly,thismaybelikelyfordebtstradedamongcountrieswithcurrencieshavingsimilarratings,asperhapsamongsometransitioncountries,butitmaynotbethecaseforthecurrenciesoftransitioncountriesinrelationtotheEurocurrenciesandthedollar.

Thus,thereremainsaneedforweakcurrencycountries(whichmosttransitionanddevelopingcountriesare)tohedgeagainstexchangerisksinpublicdebtmanagement.Toraisefundsinforeignfinancialmarkets,instrongcurrencies,obviouslymeanspayinglowerinterestratessothattheserviceoftheforeigndebtappearslesscostlyand,insomecases,muchlessthanthatofthedomesticdebt.Thechiefreasonsforthisdifferentialaredifferentratesofinflationanddifferentcreditworthiness.Clearly,thesemayalsobereflectedintheriskofexchangeamongcurrencies.Onemayarguethatbuyingderivativestohedgeagainsttheexchangeriskisazero-sumgamebecausethepremiumstobepaidtogetforwardcontractsoroptionstocovertheriskofadeterioratingrateofexchangeforthedomesticcurrencymaybeequivalenttotheriskthatcausesthedifferentialinthegiveninterestrates.Theconclusionmightbethatitissimplybettertoavoidissuesinforeigncurrency.Thereareseveralreasonswhythisstatementiswrongandemployingderivativestosmooththeexchangeratesriskonforeigndebtsisrationalpolicy.Thefirstisthatadebtindomesticcurrencyownedbyforeignersentailsexchangeriskswhileexertingagreaterburdenonthebalanceofpaymentsbecauseofthehigherinterestservice;foreignperceiversnormallyasktheirbankstobepaidintheirowncurrency.

Thustheproblembecomesthesizeofthebudgetdeficittobefinancedandthebalanceofpaymentsituation.Inasimplemodel,withsupplyofsavingsandproductioncapacitygiven,abalanceofpaymentdeficit,atfullemployment,isnothingbuttheconsequenceofabudgetarydeficitandofapermissivedomesticcreditpolicythataccommodatesit.Anexternaldebtwilldevelopundertheseconditions,anditislikelythatapartofitwillberepresentedbydomesticpublicdebtboughtbyforeignersatapricelowerthantheirfacevalue.Ifthisistrue,andthegovernmentisunabletoreducethedeficitorstimulateahigherlevelofsavingsandproduction,itisbettertoissuepublicdebtdenominatedinforeigncurrency,whilehedgingbyderivatives.

Publiceconomyagents'decisionsshouldrationallytakeintoaccounttheirexternaleffectsontheoveralleconomicandfinancialsystem.Theriskofadevaluationthatappearsofamodestsize,ifitmaterializes

inanatmosphereoflackofconfidence,mayhavespiralingpotentials.Itisrational,then,forthosewhomanagetheexternalpublicdebttopursueamaximinandnotamaximax,byhedgingwithderivatives,inspiteofthecurrentcostofsuchapolicy.

Apointinfavorofthepolicyofhedgingbycurrencyderivativeswhileraisingforeigndebt,isthatalthoughtheinterestratedifferential,onmedium-andlong-termdebtsofaweakcurrencycountryvis-a-vistheinterestrateofstrongcurrencycountries,mayreflectamedium-orlong-termuncertaintyaboutthegovernment'sfinancialstabilityandsolvency,apremiumonshortertermderivativesprotectingagainstdomesticcurrencies'devaluationsmayreflectamuchsmallerrisk.Thismaybeparticularlythecasewhenthefinancialconditionsoftheconsideredcountryaregraduallyimproving.

Theopposite,unfortunately,willbetrueforhedgingonmedium-tolong-termdebtinforeigncurrencyagainstadevaluationofthecurrencyofacountrywhosefinancialconditionsaredeteriorating.Butstill,thereisroomforemployingderivativesforahedgeagainsttheriskofexchangedevaluationintheserviceofpublicdebtdenominatedinforeigncurrency,consideringtheriskofspiralingeffectsofdownwardadjustmentsintherateofexchange.Itistrue,however,thatanexcessofforeignpublicdebt,whetherinforeignorindomesticcurrency,maycreateastrainonthebalanceofpayments,whichonecanhardlyremedythroughpurchasingderivativestoprotectagainsttheriskofexchange.Here,theremedyistoreduceinflationandbudgetarydeficit,toreducethepublicdebtandthecostofitsservice.

Inanycase,ifhedgingbyuseofcurrencyderivativesistobeeffectiveitmustbedrawnonforeign,notondomestic,financialinstitutions.Indeed,incaseofweaknessinthedomesticcurrency,thepossibility

ofdrawingforeigncurrencyfromabroadfortheserviceofitsexternaldebt,helpsthegovernmentindefendingitsexchangerate.Onthecontrary,ifthisforeigncurrencyiscalledfromdomesticcreditinstitutions,thestabilityofthecountry'sfinancialsystemmaybefurtherprejudiced.

Shouldgovernmentsofthetransitioncountriesissuewarrantsandotherderivativesonthesaleofstocksoftheirenterprisesorshouldtheywaituntiltheyarereadytobesoldonthemarket?Toissuewarrantsandbondswithoptionsonstocksofpublicenterprisesofuncertainvalueisnotawisepolicy,particularlyifthegovernmentismakingtheefforttoimprovethem.Underthatpolicy,thebenefitsoftheseefforts,insteadofprofitingtaxpayers,gotothepurchasersoftheseoptions.Ontheotherhand,privatizationproceduresforpublicenterprisesmaytaketime.And,iftheaimistospreadtheirpropertyout,anissuanceofwarrantsandoptionslinkedtopublicbondsmayeasetheirdiffusionamongsavers.

ContingentLiabilitiesandDebtDerivativesofCentralGovernments

Guaranteesarecommoninthebusinesssector,wheretheyareusuallysuppliedbyspecializedfinancialinstitutionswhoseliabilities,iftheprinciplesofawell-orderedmarketeconomyarerespected,areaccuratelyaccountedforandsubjecttoprudentialrules.Publiceconomyguaranteesaremuchlessregulatedandrarelyrecordedinpublicaccountdocuments,inspiteofthefactthattheymayproduceburdensomefutureliabilitiestothetaxpayersandtothecountryasawhole.

Inadditiontoexplicitguarantees,governmentsmayhavecontingentliabilitiesfordebtsofotherpublicandprivatesectorinstitutions.Letusconsideralistofguaranteesandcontingentliabilitiesthatmightincreasetheaggregatecentralgovernmentdebtburden.

Legalormoralresponsibilityofthecentralgovernmentforthedebtsoflocalgovernments,theirenterprises,theirnonprofitinstitutionsinthesocialandculturalarea,andtheirquasi-marketcorporationsperformingpublicservices.Theseserviceswouldincludewatersupply,localtransportation,ecologicalservices,andregionaltollroads

Themoral(orlegal)responsibilityofcentralgovernmentforthecontingentliabilitiesofindependentsocialsecurityandsocialinsuranceinstitutions.Inparticular,thiswouldincludesocialinsuranceandsocialsecuritypensioninstitutionswhetherofficiallyfundedorofficiallyunfundedfinancedbycompulsorycontributionsthatgivevestedrightstotheenrolled.Thiswouldautomaticallyproducefutureliabilitiesfortheseinstitutions

Themoral(orlegal)responsibilityforthedebtsofnonprofitsocialwelfare,socialeconomy,andculturalinstitutionsandcooperativesperformingimportantpublicinterestservices(hospitals,universities,

researchinstitutions,theaters,museums,creditandinsurancecooperatives,andagriculturalcooperatives).(Theseinstitutionsarecontrolledbythecentralgovernmentbyitsappointmentofmembersoftheboardsandpersonnelorbyitsregulationandlicensingoftheiractivitiesaspublicservices.)

Legal(ordefacto)contingentliabilityfortheliabilitiesofautonomouspublicenterprises,whetherorganizedascorporationsorinotherforms,entirelyownedbythecentralgovernment.(Generallythe100percentownershipimpliesautomaticlegalresponsibilityoftheowner,fordebtsmadebytheadministratorsoftheconsideredasset.Examplesmayincludestaterailways,thepost,

stateexportcreditinsurance,stateagriculturalstorageenterprises,stateforeigncurrency[monopolistic]institutions,statelong-termpublicutilitycreditcorporations,statebroadcastingandtelevisioncompanies,stateprintingoffices,andstatearsenals.

Guaranteesgivenbythetreasuryorothercentralgovernmentinstitutionstopubliceconomyindustrial,commercial,andfinancialcorporationstoenablethemtoraisefundsonthemarket,domesticallyandabroad,thattheyotherwisecouldnotobtainorcouldobtainonlyatahigherinterestrate.(Inadditiontothosementionedabove,typicalinstitutionsincludestateelectricitycorporations,statetelephonecompanies,stateairlines,nationaloilcompanies,nationalmaritimecorporations,statedefenseindustrycorporations,import-exportcorporations,andnationalcreditandinsurancecompanies.)

Explicitandimplicitguaranteesfortheliabilitiesofprivateormixedeconomyenterprisesoperatingforthegovernmentinthequasi-marketactivitiesofprivatizedpublicinvestmentsandservices.ThisincludesBOT(build,operate,andtransfer),withorwithoutleasing;BTO(build,transfer,operate),withorwithoutleasing-back;buildandoperateasafranchise,orbuildandoperateasapublicserviceconcession,whetherwithinoroutsidealegalordefactomonopoly.(Thestate'sdifferentkindsoflegalrelationswiththesequasi-marketactivitiesdeterminetheextentofitsliabilityasguarantor.)

Guaranteesbythegovernmenton(concessional)publicpolicyloansgivenonthebasisofstateincentivesandfundingbythebankingsystemtovarioussectorsofeconomicactivityorareasthatseemtodeservepublicincentives.(Someexamplesincludelow-costhousing,smallbusiness,cooperatives,trademodernization,technologicalinvestments,agriculturalimprovements,energy-saving,environmentalprotection,culturalandtouristindustries,exports,andlessdevelopedanddecliningareasandsectors.)

Moralliabilitiesofthecentralgovernmentforthecontingentliabilitiesofcreditinstitutionsconsideredtobeinthepublicinterest.(TheUnitedStates'federalgovernmentbail-outofsavingbankstocovertheirliabilitieswithdepositorsisthetextbookexampleofthiskindofputliability.)

Moralresponsibilityofthecentralgovernment(supportedforinternationalinstitutions)forthecontingentliabilitiesofimportantfinancialinstitutionswhosefailurewouldcreateachainofatmosphereexternaldiseconomies,withperverseeffectsontherateof

exchange,onthestockmarket,andonthesolvencyoftheprivateeconomicsystem.(The1997Koreancaseisatextbookexample.)

Moralresponsibilityofthecentralgovernmentforthecontingentliabilitiesofthecentralbankinrelationtoagreatdomesticbankingcrisisowingtoexcessive,hazardouslending(Japanisthetextbookexample.)

InlightoftheMaastrichTreaty,accountingfortheseguaranteesandcontingentliabilitiesisneededifthereistobeacomprehensivepictureofthepossiblefuturedebtburdentobeaddedtothestandingliabilitiesforpublicdebtsandthebudgetarydebtsoftheconsideredgovernment.

Toassesstheirvalue,however,impliesadelicateanalysisofthesolvencyoftheunderlyingprincipalassets.Theirvaluealsodependsonthedegreetowhichtheconsideredgovernmentbecomesliableandonthewaysinwhichitispossiblefortheconsideredgovernmenttoputalimitonthesecontingentliabilitiesbymakinguseofitssovereignpower.

Socialsecurityinstitutionsdeficitsmaybecoveredbyincreasingthesocialsecuritycontributionorbyreducingpensionrights:bycuttingprivilegesorbyprolongingtheretirementageandbyfiscalillusionsdevicessuchasapplyingadditionaltaxesandrelenting,andfilingandhaltingescalatorclausesprotectingtheirpurchasingpower.Butbeforetheseremediesareadopted,itseemsprudenttomakeatruthfulaccountingoftheselikelyfuturenetliabilities,astheyappear,withoutinterventions,assuminga100percentputonthegovernment.

Prudentrecordingoftheseliabilitiesshouldnotbeconceivedasamereexerciseincomprehensivepublicaccounting.Itisbothameanstoascertainwhatthehiddencostsofchosenpoliciesareandameanstofocusonmeasurestobeundertakentopreventundesiredmoraland

quasi-legalgovernmentresponsibilitiesforliabilitiesofotherpublicandprivateconcerns.

Privateinitiativeinpublicinvestmentsandinthesupplyofpublicandquasi-publicgoods,inprinciple,particularlyifpursuedbycompetitivedevices,mustbewelcomeditbroadensthescopeofmarketoperationsinpubliceconomyactivitiesandreducestheneedforpublicindebtedness.Thestandardobjectionthatinterestratesforpublicdebtarenormallylowerthanthosepaidbymarketoperators,sothataprivatizationofpublicinvestmentsmakestheirfinancingmoreexpensive,restsonaconfusionbetweentheinterestratesonpublicdebt,withorwithoutthefinancingoftheseinvestments.Thebiggerthepublicdebt,thehighertheinterestrates,sothegovernmentwillpayalowerinterestratebyreducingthepublicborrowingrequirement.Theseratesmightbelowerthanthosepaidbytheprivateinitiativesreplacingthepublicsector.This,however,doesnotmeanthattheselastratesshould

beashighasthosethatthegovernmentwouldhavepaidifitsyearlyborrowingrequirementshadbeenbiggerbecauseofbiggerfinancingneeds.Moreover,ifpublicinvestmentsarefinancedbyprivateinitiative,presumablythetimeperiodtocompletethemwillbeshorter,andfinancialcosts,accordingly,reduced.Publicinvestmentsmaybeaccomplishedmoreefficientlyiftheirownershipremainswiththeirmarketeconomyproducers.

Butonemustnotoverlookthepubliccostsofguaranteesbygovernmentsforthecontingentliabilitiesthatmayarisefromtheseinitiativesinthecourseoftime.Transparentaccountingisneededtoassesstheeffectivecostsofthesewaysofsupplyingpublicgoods,tocomparethemwiththeirbenefitsandwithotheralternatives.Thisaccountingwillhelpofficialsunderstandtheextentofagovernment'simplicitliabilitiessothatcontractsmightbebetterspecifiedandpricesrevised.

Guaranteesbygovernments'institutionsonloansofotherinstitutionsshouldbemadetransparentbytheirproperrecordinginannexestotheannualbudgets.Otherwise,theycontinuetoconstitutehiddentransfers,withunknowncostsandunknownbeneficiaries.Thefirststepinthisaccountingistorecordthefacevalueoftheguarantee,whichisoften(butnotalways)specifiedinthelegalinstrumentconcedingit.Aconversionindomesticcurrency,atalikelyrateofexchange,maybeneedediftheguaranteeisgiveninaforeigndenomination.Thesecondstepistoevaluatethederivative,assuch.Sometimes,inthecaseofguaranteesonrisksonexchangeratesonexportcreditstoforeigncountries,forinstance,itmaybepossibletofindamarketpriceforthesederivativesiftheyhavereliablecounterpartsonthemarket.

Amarketreferencedoesnotexistforotherpubliceconomyguarantees.Inthesecases,governmentsshouldtrytoprovide

estimatesbyindependentofficialbodiesandprivateratinginstitutions.Attheend,inthatappendixtothebudget,thefirstcolumnshouldhavethefacevalueofagivenpublicguaranteeandthesecondcolumntheestimatedvalueofitsderivativeanditsstandingatthebeginningofthefiscalyear.

Acentralgovernmentmayhaveanextensivevarietyoflegal,quasi-legalandmoralliabilitiesforthedebtsanddeficitsofotherpublicandprivateinstitutions.Amongthemarelowerlevelgovernments,publicenterprises,andquasi-publicnonprofitinstitutionsandcooperatives.Thesystematicrecordingofthelegalandmoralderivativesoftheseliabilities,eveniftheworkislaboriousandthevaluationsdifficult,givesthecentralgovernmentawaytorecognizethelackofconstraintsonitsfinancesandtherelatedhiddencostsandrisks.

Forgovernments,thesurestwaytoavoidresponsibilitiesfortheexcessiveliabilitiesofitspublicenterprisesistomakeanextensiveprivatizationofthemassoonaspossible.Thisistrueevenifthegov-

ernmenthasnolegalobligationtotakecareoftheirdebts,andthey,theoretically,couldbedeclaredbankrupt.Indeed,governmentscanhardlyresisttheblamefornotintervening.Ifthefailureaffectsimportanteconomicandfinancialconcerns,andparticularlyiftheyhaveimportantforeigndebts,lackofactionbythegovernmentdamagesthegeneralcreditworthinessofthecountry.

However,ifthegovernmentdecidestoprivatizeitspublicenterprise,itmustbepreparedtoundergothecostsofmakingthemsaleableinotherwords,itmustcourageouslyfacethecostsofavoidingfuturegreaterlosses.

Asfortheresponsibilityofthecentralgovernmentfortheliabilitiesoflowerlevelgovernments,similarproblemsarise.Inprinciple,thesegovernments,ifinsolvent,mightgobankrupt.Butthecentralgovernmentcannotaffordtoletthishappen.Ontheotherhand,itcannotacceptsystematicliabilityfordebtsirresponsiblymadebyothergovernments.Whatisneededistheadoptionofrestrictiveregulationsthathinderlowerlevelgovernmentsfrommakingdebtsforcurrentexpendituresandlimitingtheirdebtsforinvestmentstogivenaggregatelevelswiththefurtherrequirementthatthesedebtsshouldbeservicedthroughearmarkedrevenues.

Asforthenonprofitinstitutions,thosecooperativesandconcernsofdubiouslegalnatureinwhichthegovernmenthasasubstantialinvolvement,itisimportanttodecidewhethertheyarereallyapartofthegovernmentornot.Ifnot,thegovernmentshouldleavethementirelyinprivatehands.Iftheyarepartofthegovernment,theyshouldberecognizedasoff-budgetgovernmentunits,withalltheresponsibilitiesofgovernmentunits.Andtheirnetdebtsshouldbeconsolidatedinthegovernmentdebtthisbeingthevalueofthesederivativesforit.Transparentaccountingofallstandingliabilitiesincreasestheefficacyofpublicdebtmanagementandthe

creditworthinessofthegovernment.

APPENDIXES

ProfileofSpeakersMARIOI.BLEJER

Mr.BlejerisaSeniorAdvisorintheMonetaryandExchangeAffairsDepartmentoftheInternationalMonetaryFund.HeholdsaPh.D.ineconomicsfromtheUniversityofChicago.HehasheldseniorpositionsattheIMFandtheWorldBank,andhastaughtatBostonUniversity,theHebrewUniversityofJerusalem,andNewYorkUniversity.Hehaspublishedextensivelyonfiscalissues,tradeandbalanceofpaymentsproblems,andeconomicstabilizationandliberalizationinLatinAmericaandeconomiesintransition.Hehasbroadexperienceofeconomicreforminpreviouslycentrallyplannedeconomies,andhehasbeeninvolvedinresearch,economicadvice,andtechnicalassistancetoChina,EasternEurope,andcountriesoftheformerSovietUnion.HewasteamleaderfortheTaskForcefortheStudyoftheSovietEconomyin1990.

FRANCESC

FORTE

Mr.ForteisaProfessorofPublicEconomicsintheFacultyofEconomicsandBusiness,UniversityofRome.From1982to1983hewasItaly'sMinisterofFinance,andfrom1983to1985heservedasMinisterofEuropeanAffairs.DuringhisdistinguishedcareerhewasHighCommissionerforAidtoUnderdevelopedCountries,andfrom1992to1994hewasChairmanoftheFinanceandTreasuryCommitteeintheItalianSenate.Currently,Mr.Forte'smainareasofresearchincludefiscalandmonetaryconstitution,budgetaryrules,publiceconomyaccounting,andnationalincomeaccounting.

HAFEZGHANEM

Mr.GhanemiscurrentlySectorLeaderatthePovertyReductionandEconomicManagementUnit,EuropeandCentralAsiaRegion.HejoinedtheBankin1983asaYoungProfessional.HethenworkedonpubliceconomicsissuesintheBank'sCountryPolicyDepartment.Heheldseveralcountryeconomistpositions,includingthoseforCôted'Ivoire,theregionalmissioninWestAfrica,andtheresidentmissioninDhaka,Bangladesh.UponreturntotheWashingtonoffice,hebecameamemberofthecoreteamwhopreparedthe1995WorldDevelopmentReportonLaborMarkets.Afterthisassignment,hebecametheprincipaleconomistcoveringArmenia,Georgia,Moldova,andUkraine.Mr.GhanemholdsaPh.D.ineconomicsfromtheUniversityofCalifornia,Davis.Hispublicationsincludepapersonforeignborrowingstrategiesandonlabormarketpolicies.

DIETERGLATZEL

Mr.GlatzelisHeadofUnit,FinancialAccounts,EurostatinLuxembourg.Between1973and1983,hewasAdministratorofFinancialAccounts,firstinEurostatBrusselsandthenintheLuxembourgoffice.BeforejoiningEurostat,Mr.GlatzelwasafinancialanalystattheUnionBankofSwitzerland,Geneva.HisactivitieshaveincludedservingaschairmanoftheworkingpartyforFinancialAccounts,Eurostat,memberoftheWorkingGrouponStatisticsattheEuropeanMonetaryInstitute,memberoftheGroupofEuropeanFinancialStatisticiansattheOECD,andmemberofthegroupofexpertsfortherevisionoftheSNAfinancialaccountsin1988.Mr.GlatzelholdsaneconomicsdegreefromtheUniversityofBerlinandaPh.D.fromtheGenevaInstituteofGraduateStudies.

HOMIKHARAS

Mr.KharasiscurrentlyDirectorofEconomicPolicy,Poverty

ReductionandEconomicManagement(PREM)NetworkoftheWorldBank.Inthiscapacity,hemanageseconomicpolicywork,includingbroad-basedgrowth,fiscalsustainability,macrofinancialintegration,aideffectiveness,andtradeandcompetitiveness.Beforehiscurrentassignment,hewasLeadEconomistandCountryOperationsChiefforBrazilintheBank,and,priortothat,LeadEconomist,LatinAmericaandtheCaribbeanRegion.HewasalsoaSeniorPartner,JeffreyD.SachsandAssociates.Mr.KharascompletedhisPh.D.ineconomicsat

HarvardUniversityandhisundergraduatestudiesattheUniversityofCambridge.

LOUISDEMONTPELLIER

SinceAugust1995,Mr.deMontpellierhasbeenGeneralAdvisoroftheTreasuryofBelgium.AsamemberoftheTreasurymanagementteam,hisfocusisonthedevelopmentofBelgium'sfundingstrategyanddebtmanagementinthedomesticandinternationalmarkets.HewasDirectorofFundingoftheEBRDinLondonforfouryears,andjoinedtheEBRDfromCSFirstBostoninLondon,wherehewasacapitalmarketcoveringofficerforBelgianandFrenchinstitutionalclients.Previously,heworkedasaninstitutionalportfoliomanagerforcentralbankswiththeBankforInternationalSettlementsinBasel.Mr.deMontpellierholdsamaster'sdegreeinlawfromtheCatholicUniversityofLeuven,amaster'sineconomicsfromtheCatholicUniversityofLouvain,andanM.B.A.fromtheJohnsonGraduateSchoolofManagement,CornellUniversity.

HANAPOLACKOVA

Ms.PolackovaisPublicSectorManagementSpecialistintheEuropeandCentralAsiaRegionoftheWorldBank.ShehasworkedprimarilyincentralEuropeancountries,assistinginpublicfinancemanagementreforms.Herfocusisonthemanagementofpublicexpenditures,debt,contingentliabilities,andfiscalrisks.In1996,shewasaVisitingFellowattheNewZealandTreasury.PriortojoiningtheWorldBank,Ms.PolackovaworkedonthestrategyforaccessiontotheEuropeanUnionattheMinistryofForeignAffairsintheCzechRepublic,andduring199092shewasSpecialAdvisortoPresidentHavel.Ms.Polackovaholdsamaster'sineconomicsandpublicaffairsfromtheWoodrowWilsonSchool,PrincetonUniversity,andaPh.D.inphysicsfromMasarykUniversity,theCzechRepublic.

MARCELOSELOWSKY

Mr.SelowskyistheChiefEconomistoftheEuropeandCentralAsiaRegionoftheWorldBank.From1988to1992,heheldthesamepositionintheLatinAmericanandCaribbeanRegion.Before1988hewasDivisionChiefintheTradeandMacroeconomicPolicyDivision.EarlierinhiscareerMr.SelowskywasEconomicAdvisorintheDevelopment

EconomicsDepartmentandOperationalPolicyStaffandEconomistintheDevelopmentResearchCenterattheBank.HewasAssistantProfessorofEconomicsatHarvardUniversityandVisitingProfessorattheWoodrowWilsonSchool,PrincetonUniversityand,morerecently,intheEconomicsDepartmentatUCLA.Mr.SelowskyholdsaPh.D.fromtheUniversityofChicago.

GRAEMEWHEELER

Mr.WheeleristheDirectoroftheFinancialProductsandServicesDepartmentintheTreasuryoftheWorldBank.ForthefouryearsbeforejoiningtheBank,hewastheTreasureroftheNewZealandDebtManagementOffice(NZDMO)andDeputySecretarytotheNewZealandTreasury.Beforethis,hewasDirectorofMacroeconomicPolicyandForecastingintheNewZealandTreasury.Inthesecondhalfofthe1980s,Mr.WheelerwastheEconomicCounselorfortheNewZealandDelegationtotheOECDinParis,andheheadedtheNewZealanddelegationinmeetingsthatledtotheestablishmentoftheEBRD.Heholdsabachelor'sdegreeincommerceandadministrationwithdoublemajorsineconomicsandappliedeconomicsfromVictoriaUniversityofWellingtonandamaster'sdegreeincommerceineconomicsfromAucklandUniversity.

ParticipantsfromCentralEuropeanCountriesBULGARIA

Ms.NikolinaMicheva,Director,FiscalServicesDepartment,NationalBankofBulgaria

Mr.LatchesarStefanov,Head,GeneralDepartment,ExternalFinance,MinistryofFinance

CZECHREPUBLIC

Mr.RenataCechova,DeputyHead,TreasuryDivision,MinistryofFinance

Mr.JiriFranta,Head,TreasuryDivision,MinistryofFinance

Ms.MiroslavaDostalova,MonetaryOperationM.andFinancialMarketsSection,BankingTransactionsDepartment,CzechNationalBank

Mr.MilanRiha,Chief,DealerofMoneyMarketOperations,BankingTransactionsDepartment,CzechNationalBank

ESTONIA

Mr.AgateDalton,Director,ExternalDepartment,MinistryofFinance

Mr.AguLellep,SecretaryGeneral,MinistryofFinance

Mr.MartinPoder,DeputySecretaryGeneral,InternationalAffairs,MinistryofFinance

HUNGARY

Ms.MariaDunavolgyi,ManagingDirector,DebtManagementAgency,StateTreasury

Mr.AttilaNadi,PortfolioManager,DebtManagementAgency,StateTreasury

Mr.JozsefThuma,President,StateTreasury

LATVIA

Ms.AgitaBirka,HeadofExternalDebtManagementDivision,ForeignExchangeDepartment,BankofLatvia

Ms.DaceBrencena,Director,DepartmentofDomesticFinancialResources,MinistryofFinance

Mr.NilnisLindemanis,DeputyStateTreasurer,MinistryofFinance

Mr.AivarsVeiss,StateTreasurer,MinistryofFinance

LITHUANIA

Mr.GintautasGalvanauskas,DeputyDirector,InternationalRelationsDepartment,BankofLithuania

Mr.RamunesLygis,Head,MarketOperationsDivision,InternationalDepartment,MinistryofFinance

Ms.RutaSkyriene,Director,StateDebtDepartment,MinistryofFinance

POLAND

Ms.AnnaSuszynska,EconomistandDebtManagementSpecialist,PublicDebtDepartment,MinistryofFinance

Mr.JacekTomorowicz,Director,ForeignDepartment,Ministryof

Finance

Ms.AnnaTrzecinska,DeputyDirector,MoneyandCreditPolicyDepartment,MinistryofFinance

european union accession: the challenges for public liability management in central europe

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