Posted by Daniel Borges[1] and Luis Felipe Vital N Pereira[2]
Since 2002 the Brazilian government has published an annual fiscal risk statement (FRS), making Brazil one of the pioneers in transparency of fiscal risks. This statement is published as an annex to the proposed Budget Guidelines Law, which is submitted by the Executive branch to Congress in April each year. The Brazilian Fiscal Responsibility Law (Complementary Law No 101, 2000), requires the publication of a FRS which provides an assessment of contingent liabilities and general risks that could influence the current budget.
During the FRS’s first decade, Brazil experienced strong economic growth, supported by stable and favorable domestic and international conditions including high commodity prices, controlled inflation and the strong commitment of federal and local governments to delivering primary surpluses. Under these circumstances, the FRS received very limited attention and was considered a bureaucratic document to fulfill a legal obligation.
In recent years, however as the economy slowed down and as a series of economic stimulus measures did not produce the desired effects, Brazil´s fiscal scenario significantly deteriorated and the public sector experienced its first primary deficit since 2002.
It is not surprising that during economic downturns fiscal risk analysis becomes more important, and this is exactly what happened in Brazil. With the crisis, some fiscal risks materialized and placed strong pressure on the fiscal accounts including the financial needs of state owned enterprises (SOEs), the contingent liabilities related to subnational governments, the recognition of omitted financial commitments, and the fiscal impact of changing macroeconomic variables. The crisis highlighted the importance of understanding and managing fiscal risks.
The Brazilian government was already working on improvements to fiscal risk management as part of a joint effort between the Treasury (Secretaria do Tesouro Nacional – Ministry of Finance) and Seplan (Secretaria de Planejamento e Assuntos Econômicos – Ministry of Planning).
In this context, Brazil has just published a substantially improved FRS as part of the proposed 2018 Budget Guidelines Law (PLDO 2018 – link below). The structure and content of the FRS has been modified to align it with international best practices. Some of these changes were proposed in discussions with International Monetary Fund staff during the technical cooperation missions held in 2016 and 2017 and during the Fiscal Transparency Evaluation mission.
The previous FRS evolved overtime to include information on macroeconomic risks, public debt, financial assets, public banks, and contingent liabilities and contingent assets related to court cases. There was some analysis of the sensitivity of revenue, expenditure and debt to changes in key economic indicators (e.g. GDP, Inflation, and exchange rates) and a few specific risks were discussed however many were excluded.
The latest version of the FRS has been improved by making the structure clearer, expanding its content, employing new methodologies for analyzing macroeconomic indicators and expanding the analysis of specific fiscal risks.
The structure has been clarified by including a section dedicated to the analysis of general risks and another focusing on specific risks which explores each risk in detail. Some of the changes and clarification involved: i) the standardization of concepts, with an explanation of the risks facing primary revenues and expenditures and financial risks which could impact the outstanding amount of debt; ii) the separation of risks applied to the 2018 budget versus future budgets and iii) the exclusion of expenses that were not subject to uncertainty, as they do not constitute fiscal risks.
Efforts to improve fiscal modelling resulted in the standardization of sensitivity analyzes of revenues, expenditures and debt based on Monte Carlo Simulations and the FRS now includes fan charts presenting sensitivity analysis. This enhancement results in a visual illustration of how macroeconomic developments influence the fiscal accounts. The macroeconomic stress scenario, that consists of a highly adverse scenario which has a low probability of emerging, was also redesigned to include a more robust and consistent methodology. Consistency checks are now employed, for example with the comparison of contingent liabilities presented in the FRS with those registered in the government general balance sheet.
It is also important to highlight other improvements including more discussion of specific risks; i) a section has been added that addresses the fiscal risks related to concessions, permits and Public Private Partnerships; ii) more detail explanations to describe the fiscal risk related to lawsuits have been included; iii) fiscal risks related to financial assets of subnational entities, like the loans from the Federal Government to sub-nationals granted in the previous decades, have been added and iv) projections of fiscal risks related to the operations of the Constitutional Funds.
As a final remark, the document refers to the creation of a dedicated department in the National Treasury for the monitoring of fiscal risks, the General Coordination of Planning and Fiscal Risks (COPEF/STN). This institutional improvement reinforces the understanding that permanent risk monitoring must be executed in conjunction with medium and long-term fiscal policy planning.
The Brazilian government still has a large agenda for the coming years. One of the main items is the establishment of a working group to improve processes to better quantify fiscal risks related to lawsuits. Also, under development are strategies for the mitigation of fiscal risks. Another important step is to disseminate these good practices to States and Municipalities, who also have a legal obligation to publish risk statements, and to encourage them to improve their fiscal risks reports, based on the Federal Government’s methodologies.
[1]Daniel Borges, Head of Strategic Fiscal Planning and Fiscal Risks Department at Brazilian National Treasury. Previously Daniel worked as Head of External Debt Operations and as the Head of Brazilian Sovereign Wealth Fund. He has experience as a public executive, consultant and joined National Treasury’s staff in 2001. Holds a master’s degree in Economics.
[2]Luis Felipe Vital N Pereira, Deputy Head of Department, Strategic Fiscal Planning and Fiscal Risks Department: Holds a master´s degree and a PhD in economics. He has 10+ years of experience in the Brazil National Treasury in different positions related to external debt, fiscal-economic research, public investments and asset management (Brazilian Sovereign Wealth Fund).
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