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September 10, 2010

Strengthening Strategic Macro-Fiscal Management in the Caribbean

Posted by Michel Marion1

 

There is a strong need in the Caribbean for a more strategic, top-down, multiyear approach to fiscal policy management. That is the main message I want to convey in this post. The recent global financial crisis has made that clearer than ever, both in the Caribbean and elsewhere. What, however, do I mean with terms like strategic, top-down and multiyear? In many countries around the world including in the Caribbean, governments have traditionally employed a single-year, “bottom-up” approach to budget preparation – wherein the ministry of finance (MoF) negotiates with line ministries to bring down their individual and collective budget requests for the coming year to an “irreducible” minimum. This then defines the resource envelope, which must then be financed either by revenues or new debt: revenues are raised to the extent possible politically, with the remainder coming from new debt.

In many Caribbean countries, this approach - where new financing is determined residually to “make ends meet" - has led to mounting debt and debt service obligations. Some countries have reached the point where their credit ratings are at risk, and with it, access to financing on reasonable terms. Some countries have been compelled to carry out painful fiscal adjustments. Other countries, on this path but not yet at this stage, are eager to keep or restore an investment-grade credit rating; and they are seeking a more strategic and more sustainable approach to fiscal management.

A key aspect of the strategic, top-down fiscal policy approach is that revenue and financing targets (and the policies to attain them) are established first; while spending plans are determined residually in the Fiscal Plan. Indeed, once approved by the Minister of Finance and the Cabinet of Ministers, budget allocations are then made within prescribed multiyear resource envelope ceilings.

A government is elected typically with an expectation of a multiyear tenure. There is also an expectation that it will make good on commitments made during the election period and reaffirmed at the opening of Parliament through the course of its mandate. A multi-year plan permits fiscal strategies including expenditure plans for the entire interval to be set out and for plans for the upcoming year to be cast within this multiyear context. This averts the risk of having to front-load on delivering at once on all the election promises made. As the organic growth of revenues is typically more buoyant than that of expenditures, some fiscal space can be revealed and planned for in the later years. This lends credibility to the prospects that political commitments will be honored in the out-years. Such planning is especially useful if difficult fiscal adjustments are required in the first or second year of the mandate. Under a multiyear approach, progress on the achievement of fiscal and program priorities can be tracked, since every year the Government must explain why the economic and fiscal outcomes may have differed from plans, and what these deviations imply for the remainder of the mandate.

Moreover, under this “rolling plan” approach, it is recognized implicitly that plans can change – by unforeseen economic or fiscal circumstances or by the emergence of new priorities or opportunities. While differences from existing plans are highlighted, the continuity in the planning, execution, tracking, and retargeting process is highlighted. This is not possible under the single-year budget model. At a technical level, this approach adds impetus to the drive to refine forecast procedures and assumptions in order to minimize ex post deviations from forecasts and plans. The multiyear perspective also provides a mechanism to track the progress of capital projects through the planning and construction cycle; and it creates a path from the completion of a capital project to the associated incremental operation, and maintenance costs.  

Strategic fiscal management also entails an all-encompassing approach to risk assessment and management, one that takes into account contingent liabilities – potential fiscal exposure to liabilities of statutory bodies in the event that they run out of cash or are unable to service their guaranteed debt, or national or public sector pension plans which at some point may be unable to meet their pay-out obligations. Sound fiscal management also extends to setting a medium-term debt strategy aimed at minimizing risks and costs of the nation’s debt portfolio and which provides a framework for effective debt management.

CARTAC’s Role and Approach

The IMF’s regional technical assistance center for the Caribbean, CARTAC, provided additional support capacity in macro-fiscal management in 2009, with an expectation that an increasing number of countries were about to transition to a more strategic approach to macro-fiscal management, and that this would be accompanied by increased demand for technical assistance (TA).  A multi-faceted TA program was put in place, encompassing hands-on TA activities in the macro-fiscal area, i.e., in multiyear revenue forecasting, medium-term fiscal framework (MTFF) preparation and debt sustainability analysis (DSA) preparation. The approach was complemented with mentoring, attachments of staff to CARTAC, and institutional support to assist Ministries of Finance in member countries in developing their own capacity.

The central objective of CARTAC’s TA in this area is to help member countries develop staff competences and institute supporting legislation, regulation, processes, and the required datasets, systems and communications tools and mechanisms. One of the concrete outcomes has been a growing cadre of high calibre regional macro-fiscal experts; better communications among institutions engaged in macro-fiscal management; and improved macro-fiscal datasets and transparency.

Where possible, CARTAC encourages member states to set up a macro-fiscal policy and analysis unit (MFU) in their Ministries of Finance; mandate it to be the “keeper” of the fiscal frame and responsible for the key “upstream” and “downstream” aspects of strategic fiscal management and related tasks. The staffs in these units advise the government on appropriate multiyear fiscal targets; they prepare medium-term macro-fiscal projections, and they develop fiscal policies that are designed to achieve these targets. They carry out all related model-development, forecasting, impact analysis, policy-development and reporting tasks. The MFUs also play an important role in the preparation of pre-budget consultations and Budget documents and coordinate the preparation of analytical budget execution reports. Typically, MFUs are also responsible for managing the historical and forecast macro-fiscal datasets; and Unit staff members are often the group the IMF’s area department missions work most closely with to discuss recent macro-fiscal developments and prospects. 

Part of my work as Macro-fiscal Advisor in the region is to carry out needs-assessment missions to review and assess current methods and approaches. I typically look at the preparation of fiscal projections, the derivation of fiscal targets (if any), and the analysis of in-year fiscal performance, etc. Opportunities for improvements are then identified, as are changes which can be put in place quickly. Reform strategies which CARTAC can assist with are explored. This is also generally an appropriate venue for a more fulsome discussion of opportunities for improvement in processes and methodologies, information flows and management, organization of work and division of tasks among groups engaged in fiscal policy, budget preparation and budget execution activities; and to discuss other relevant institution-related issues.

The technical work program usually suggested to governments consists of three inter-linked parts (a core macro-fiscal technical program, a debt strategy and management program, and support for assessment and management of (other) fiscal risks. I describe these components briefly below.

1. The Core Macro-fiscal Technical Program: Preparation of Multiyear Revenue Projections, a Medium-Term Fiscal Framework and a Debt Sustainability Assessment

CARTAC offers a series of core workshops or less formal TA, including mentoring, to help inter-agency teams - led by the MFU in the MoF - in the preparation of:

a) base-case, model-based judgment-augmented Medium-Term Revenue Projections;

b) A Medium-Term Fiscal Framework, encompassing a base case and, – when significant fiscal gaps are revealed and corrective fiscal action is required – a  “Fiscal- Policy” scenario encompassing fiscal adjustment to close the gap with proposed fiscal targets;

c) A Debt Sustainability Assessment, wherein the baseline and policy-enhanced fiscal projections are subjected to alternative economic assumptions and to country-specific stress tests, using the IMF-WB DSA framework and templates; and,

d) Analytical Budget execution reports focused on providing explanations for fiscal outcomes and especially for deviations from plans and their full-fiscal-year implications and for the years beyond.

This program is also designed to strengthen the ability of MFUs in member countries to help the leadership team in the MoF to assess and manage the fiscal risks associated with their central government operations.

2. Strong Debt Strategy and Management Capacity and Well-Functioning Institutions

Sound debt management policies and strategies help to further strengthen macro-fiscal management. CARTAC has been sponsoring the participation of debt managers from member countries at IADB workshops and conferences targeted to debt managers in Latin-America and Caribbean regions. More recently CARTAC has been delivering a technical assistance program to strengthen debt management capacity in the region. Capacity to design a sound debt strategy and to execute it proficiently through effective institutions also helps to assess and manage fiscal risks. CARTAC delivers a multi-faceted TA program including institutional reviews of Debt Offices and Debt Office functions, which generally lead to recommended measures to address gaps or weaknesses, some of which could be addressed through the other elements of CARTAC’s TA program.

Three hands-on workshops are included:

a) Interpretation of loan agreements and the codification of key provisions into debt recording and management information systems;

b) Analysis and assessment of the member country’s loan portfolio as a key element in the development of a medium-term debt strategy; and,

c) Debt negotiations; for those countries considering debt renegotiation strategies, designed to sharpen the negotiating strategies and skills of front office officials.

3. Effective Assessment and Management of Other Fiscal Risks

A complete fiscal risk assessment must take into account all material short-term or longer-term fiscal risks. Poorly structured or unsustainable national or public sector pension plans can pose such a risk. Risks posed by insolvent, overly indebted, or poorly managed state-owned enterprises (whose debt is typically guaranteed by the central government explicitly or implicitly) and who become unable to operate or to service their debt obligations must also be taken into account and managed.
 
a) Support for Reforms of National and Public Sector Pension Plans

In the area of national or public sector pensions, CARTAC assists member countries by reviewing the plans of member states, and recommending reform options (as required) that will restore their sustainability and reduce the risks to the fiscal frame. In member countries who decide to implement the recommended reforms, CARTAC may also provide follow up implementation support, by providing estimates of the actuarial implications of the alternative reform options being considered; by assisting in drafting the legal instruments required to enact the reforms; and by proposing communications strategies to help build public support for the reforms.

CARTAC has also developed and has begun to offer in-country quantitative pension reform workshops to help officials in ministries of finance and public pension plan managers “de-mystify the actuarial and other quantitative estimates associated with reforms of national and public sector pension plans”. In recent months, workshops were delivered in the British Virgin Islands, St. Kitts and Nevis and the Turks and Caicos Islands.

b) Managing Fiscal Risks Associated with State-Owned Enterprises (SOEs)

An initial structured TA intervention, including a quantitative workshop targeted to the SOE oversight team in the MoF and financial officers in statutory bodies, was delivered in St. Vincent and the Grenadines in late 2009. A menu of follow-up TA activities focusing on strengthening different aspects of SOE oversight and governance was also proposed, and the authorities there are acting on those recommendations. In April of this year, CARTAC responded to a request from St. Kitts and Nevis for assistance in strengthening the capacity of the ministry of finance’s state-owned enterprise (SOE) oversight team to better assess and contain fiscal risks associated with SOEs. Anticipating more countries coming forward to request assistance in this area, CARTAC has developed a structured TA program, including a needs-assessment component and a quantitative workshop focused on presenting a structured approach to the analysis of SOE financial statements and the preparation of regular reports to be submitted to the MoF by SOEs. This TA, including the workshop, was already provided to St. Vincent and the Grenadines St. Kitts and Nevis, and Montserrat; it is scheduled to be delivered in Suriname next week and in Jamaica later this year.

 

1 Michel Marion is Macro-fiscal Advisor at CARTAC, one of the IMF’s regional technical assistance centers. CARTAC, based in Barbados, provides technical assistance and training in core areas of economic and financial management at the request of its participating countries. CARTAC operates as a UNDP project with the International Monetary Fund serving as the executing agency. The priorities of CARTAC are set by a Steering Committee consisting of six representatives from the participating countries, four from bilateral and multilateral agencies, and one each from CARICOM and the Caribbean Development Bank. 

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