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Vaccination is key to fiscal sustainability
With the pandemic still ravaging the global economy, public finances remain under stress. The recently released IMF Fiscal Monitor provides a timely update on the outlook for public accounts in this context. GianLuigi Mandruzzato and Joaquin Thul highlight the key takeaways from the IMF’s analysis.
Short-term focus on vaccination and fiscal support
The IMF’s Fiscal Monitor relies on growth projections from the IMF’s World Economic Outlook to forecast the impact on public finances. The IMF Fiscal Monitor estimates that in the upside scenario tax revenues would be USD1 trillion higher than baseline through 2025 in developed countries alone, while expenditures would also be much lower. A virtuous cycle results in which improved public finances free up resources for the benefit of economic growth with favourable feedback effects on public debt. Vaccines should be seen as a global public good and, according to the IMF, the vaccination campaign could be "the public project with the highest return ever identified".
As a result of the large fiscal responses to fight the pandemic public debts are much higher. Debt-GDP ratios have risen by tens of percentage points in developed and emerging countries, raising concerns about governments’ short-term funding of large-scale needs and debt sustainability in the medium to long term. Thankfully short-term financing is made easier due to low interest rates resulting from expansive monetary policies. According to IMF forecasts, interest expenditure on public debt as a percentage of GDP will continue to fall in coming years in advanced economies and will remain low in emerging market economies. This will free up precious public resources.
A credible fiscal strategy improves debt sustainability
According to the Fiscal Monitor, in the near term, governments should continue to provide emergency financing to the healthcare and education sectors while in the medium to long term, it emphasises the importance of frontloading public investment as simulations show that it has the highest impact on medium-term economic growth.
To finance these policies, countries will need to raise additional revenues and improve spending efficiency. Strengthening tax collection systems will be crucial as governments face large spending needs. Furthermore, limited fiscal space in emerging markets should encourage governments to prioritise expenditures towards the sectors most affected by the pandemic.
The IMF notes that countries can adopt different strategies to deal with the surge in debt, including raising taxes on corporate and personal incomes, property, and consumption. Governments should also consider imposing wealth taxes. In the past, these have been less frequently used because of the challenges stemming from difficult valuation of assets and collection of third-party information.
Alternatively, countries could agree on an effective minimum corporate tax, thereby reducing international tax competition. The IMF suggests governments should earmark revenues from such taxation to finance healthcare, education and social assistance expenditures. To avoid social instability, raising taxes and redirecting government spending require political consensus and improvements in people’s perception of government functions. Reinforcing people’s trust in their governments will be key to successful implementation of the policy changes required to support growth.
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