APPENDIX G

RECENT OVERSEAS AND AUSTRALIAN EXPERIENCE WITH FISCAL RESPONSIBILITY LEGISLATION, FISCAL REPORTING AND FISCAL TARGETS

APPENDIX G

RECENT OVERSEAS AND AUSTRALIAN EXPERIENCE WITH FISCAL RESPONSIBILITY LEGISLATION, FISCAL REPORTING AND FISCAL TARGETS

G.1 RECENT OVERSEAS EXPERIENCE

Overview

Overseas experience reveals different approaches to fiscal responsibility legislation. In particular, it is important to distinguish fiscal responsibility legislation that establishes certain reporting standards from that which sets specific fiscal targets and that which involves some combination of both approaches.

The New Zealand Fiscal Responsibility Act 1994 is the most notable example of legislation designed to impose fiscal discipline largely through legislated fiscal reporting requirements that increase the transparency of fiscal policy processes. It sets a fairly general range of objectives based on the principles of prudence and stability. France and the United States have been exponents of the other approach of legislating more specific and measurable fiscal objectives.

In keeping with the trade-off between flexibility and the binding nature of constraints, the former approach would enable a more flexible fiscal policy response to changes in economic conditions while the latter approach, in theory, may provide more certainty that fiscal policy will follow a particular course. However, overseas experience to date with targets, especially in the United States at the federal level, suggests that they have not matched the expectations that existed when they were introduced.

Treasury's submissions to both the Joint Parliamentary Committee of Public Accounts (JCPA) inquiry into fiscal responsibility legislation and the Commission contained summaries of recent United States experience with such targets at the federal level. They also discuss the somewhat different approaches to fiscal responsibility adopted by other countries, namely, the United Kingdom, Canada, France, Germany, Japan and the European Union.

The majority of member countries of the Organisation for Economic Co-operation and Development (OECD) have adopted some form of fiscal target over recent years. Success with these targets has been varied and they have often been adjusted to take account of changed economic or political circumstances. Attachment G.1 to this appendix outlines the targets that some member countries have had in place until recently or have in place now.

New Zealand

Very few jurisdictions have adopted comprehensive fiscal reporting standards along the lines of those spelt out in New Zealand's Fiscal Responsibility Act. The Act was introduced with the aim of improving the conduct of fiscal policy in New Zealand. This was to be achieved through specifying a set of principles of responsible fiscal management and strengthening the reporting requirements of the government. Box G.1 sets out the Act's five principles of responsible fiscal management.

Box G.1: New Zealand's legislated principles of responsible fiscal management
  • Reduction of Crown debt to prudent levels, so as to provide a buffer against factors that may impact on the level of total Crown debt in the future, by ensuring that, until such levels have been achieved, the total operating expenses of the Crown in each financial year are less than the total operating revenues.
  • Once prudent debt levels are reached, they are to be maintained through ensuring that, on average, over a reasonable period of time, the total operating expenses of the Crown do not exceed its total operating revenues.
  • Achieving and maintaining levels of Crown net worth that provide a buffer against factors that may impact adversely on the Crown’s net worth in future.
  • Prudent management of fiscal risks facing the Crown.
  • Pursuing policies consistent with predictability about the level and stability of tax rates for future years.

The New Zealand Fiscal Responsibility Act allows New Zealand Governments to depart from these principles only if such a departure is temporary. In the event of a departure, the Act requires the government of the day to specify the reason for the departure, how it intends to return to the principles, and the period of time it expects to take to return to the principles.

Treasury's submissions to the JCPA inquiry into fiscal responsibility legislation and the Commission outlined the main features of the New Zealand legislation, including its reporting requirements. Both submissions noted that because 'the legislation has only been in place since late June 1994 it is too early to adequately judge its success'. However, they also noted that, following the first presentation of a Budget Policy Statement to the Finance and Expenditure Committee, as provided for under the Act, the Committee's report suggests it found the process to be beneficial. And while there may need to be a change in government and some strain on New Zealand's fiscal situation before the Act is fully tested, the performance of the legislation to date has been encouraging.

The release of the first Budget Policy Statement early last year encouraged public debate about the fiscal policy framework and the trade-offs between debt reduction, tax levels and government expenditure. Other benefits from the Act to date, observed by New Zealand politicians, officials, business people and commentators, include:

  • enhanced credibility of the fiscal policy process
  • improved focus on decision-making
  • a focus by politicians on balance sheet concepts and a related attention to the efficiency of asset use
  • a concentration of the minds of New Zealand Ministers on avoiding cost over-runs in their portfolios arising from the Act's regular reporting requirements.
  • identification of formerly hidden contingent liabilities
  • an acceptance of the principles of risk management in government
  • increased pressure on the New Zealand Treasury to improve its forecasting performance arising from the Act's transparency and accountability requirements
  • better appreciation outside the New Zealand Treasury of the processes followed to make economic forecasts.

In addition, the New Zealand Treasury considers that the resource costs of the Fiscal Responsibility Act are not too onerous as most of the work needs to be done anyway. There are, however, more budget production processes and these slow the budget down by a few weeks.

G.2 RECENT COMMONWEALTH EXPERIENCE

Since the early 1980s, the Commonwealth Government has used medium term fiscal targets on two occasions to assist it to pursue fiscal outcomes.

In 1984, the then Government formulated the 'Trilogy' which promised:

The Trilogy's targets were largely achieved and heralded a period of fiscal restraint, with budget surpluses commencing in 1987-88.

In 1993, following the recession induced swing into substantial budget deficit, the then Government announced its intention to return the budget to a deficit of around one per cent of GDP by 1996-97. In the 1993-94 Budget, a medium term fiscal strategy was put in place to achieve this goal. With the benefit of hindsight it can be seen that this objective was not sufficiently ambitious given the strength of the economy then and in the subsequent few years.

With regard to fiscal reporting, the current practice of the Commonwealth Government is, at budget time, to give a full accounting of the Government's fiscal policy stance and the economic parameters on which that stance and the budget numbers themselves are based. This is usually updated once a year in the mid year review which contains a reestimation of budget performance against the budget time estimate and new economic parameters.

When, as discussed previously, the Commonwealth Government has used fiscal targets it has been the budget speech and documentation that have provided the basis for assessing fiscal performance against these targets.

Since the implementation of the New Zealand Fiscal Responsibility Act, and following the discussion of Australian budgetary practices that occurred after the release of the 1995-96 Budget and in the run-up to the 1996 federal election, calls for reforms to these practices have emanated from a number of quarters.

In June 1995, in his first Headland speech, the then Leader of the Opposition, Mr Howard, committed a coalition government to a Charter of Budget Honesty. It was made clear that the Charter would require the clear separation of the recurrent and capital sides of the budget; establish benchmarks against which budget policies can be assessed; seek to achieve prudent public debt levels; and establish a more appropriate balance between operating revenue and expenses. These aims cover both reporting requirements and fiscal policy objectives.

In November 1995, the JCPA released Report 341, Financial Reporting for the Commonwealth: Towards Greater Transparency and Accountability. The JCPA recommended the introduction of a fiscal reporting Act which would, like the New Zealand legislation, increase the transparency of the budgetary process. It did not support mandatory fiscal policy objectives in legislation.

Attachment G.2 reproduces the Treasury's summary of the main recommendations of the JCPA report contained in its submission to the Commission.

The main difference between the New Zealand legislation and the JCPA's recommendations is that the former requires announced objectives to be consistent with 'prudent' approaches to debt levels and risk management, while in the latter there is no explicit constraint on the government of the day's announced fiscal policy approach. Another distinction is the New Zealand requirement for a pre-election fiscal statement.

G.3 RECENT AUSTRALIAN STATE AND TERRITORY EXPERIENCE

All Australian State and Territory Governments have introduced some form of medium term fiscal strategy over the last few years. Generally, a key aim of these strategies has been to achieve a reduction in debt levels through expenditure restraint (and sometimes also through revenue increases and asset sales). However, the experience of the States differs widely in respect of the length of time such strategies have been in place, the specificity and comprehensiveness of the strategies and the degree to which those strategies have been met or exceeded.

Attachment G.3 updates the brief outline of the medium term fiscal strategies adopted by the States of Australia included in Treasury's submission to the JCPA inquiry.

A number of factors seem to have led to the adoption of these strategies. In the late 1980s and early 1990s, the States were placed under significant fiscal pressure, due mainly to weaker revenue growth associated with falling asset prices, the national recession and the financial difficulties of some State financial institutions.

The adoption of medium term fiscal strategies by the States demonstrated their commitment to fiscal prudence and helped restore confidence in State finances. Justifying expenditure restraint and tax increases was also assisted by placing spending and tax decisions in the context of public and transparent medium term fiscal strategies. Further, the existence of a medium term fiscal strategy has assisted credit ratings agencies in rating State debt. Overall, the adoption of medium term fiscal strategies has contributed to better fiscal policy at the State level.

Nonetheless, it should be borne in mind that different levels of government have different responsibilities. For example, State and Territory Governments, along with local government, have limited responsibility for macroeconomic management. The absence of such responsibilities suggests that the loss of flexibility to respond to current business conditions inherent in more specific and shorter term objectives for fiscal responsibility are less important for these governments than for the Commonwealth Government.

This line of argument may explain in part why many state governments in the United States have had constitutional constraints placed on deficit spending and the raising of debt since the 1840s. All states in the United States but one have current constraints. Nevertheless, such arrangements at the federal level are still the subject of considerable debate in the United States. Treasury's submissions to both the JCPA inquiry and the Commission contained discussion of United States experience with fiscal responsibility procedures at the state level.

This is not to say, however, that the adoption of tightly constraining provisions at the State level may not have macroeconomic effects. To the extent that State budget deficits are reduced (increased) by stronger (weaker) economic performance, adoption of constraints at the State level could diminish the operation of automatic stabilisers in the economy as a whole.

Attachment G.1: Recent OECD experience with fiscal targets

Box G.2 below outlines the fiscal targets adopted by OECD countries over recent years.

Box G.2: Fiscal targets used in OECD countries

Country

Target

Austria The goal is, within the legislative period, to reduce the general government deficit to below 3 per cent of GDP. This target is to be met mainly through expenditure cuts, although changes in taxation will also play a role. The size of the expenditure cuts depends on the state of the economic cycle at the time.
Canada In 1993, the Canadian Government introduced a deficit target of approximately 3 per cent of GDP by 1996-97 and introduced a new expenditure management system aimed at expenditure restraint.
Denmark The reduction of the deficit is an explicit objective. The target for expenditure growth is a rate significantly lower than long term growth in GDP. The Danish Government is now proposing a target of surplus on average over the cycle.
Finland The Finnish Government adopted a new scheme of budget ceilings in 1990 in which the Finnish Cabinet decides on expenditure ceilings for each ministry as formal guidance for budget preparation.
France France has been guided by the need to steadily lower central government deficits and to reduce tax burdens. The five year fiscal consolidation projections have recently been altered. These projections increase the targeted central government budget deficit by 0.5 percentage points each year to 1999 relative to the projections in the Five Year Fiscal Consolidation Act. New projections indicate a central government deficit of 3 per cent of GDP in 1997. The new projections do not seem to have any claim to legal status. It is unclear whether the Consolidation Act will be repealed to take account of the revised projections.

Country

Target

Germany The target has been to reduce total public budget deficits from 5.5 per cent of GDP in 1991 to 3 per cent in 1995. The Grundgesetz (GG) Basic Law of Germany requires that the budget be balanced with respect to current revenue and current expenditure on average over the economic cycle and limits revenue obtained by borrowing to the amount of investment expenditure.
Greece The 1991 stabilisation program aimed to decrease the central government's borrowing requirement from 13 per cent of GDP to 4 per cent in 1994.
Italy The target in the mid-1980s was to reduce the total borrowing requirement of the extended public sector to about 7-8 per cent of GDP by 1990. These targets were not met.
Japan The Government has not adopted aggregate spending targets since the early 1980s. But it has pursued fiscal reforms aimed at phasing out deficit financing bonds and reducing the ratio of public debt to GNP. The main instrument of fiscal restraint has been strict guidelines which every ministry has to follow in preparing budget requests.
Netherlands The coalition agreement for 1991-94 set the target for the budget deficit at 4 per cent of net national income for 1991 declining to 3 per cent in 1994.
New Zealand The Fiscal Responsibility Act does not set specific targets, rather it requires governments to set targets and follow broad principles of economic management. The New Zealand Government's long-term objectives include: reducing net public debt to below 20 per cent of GDP; achieving at least fiscal balance over the economic cycle once net public debt is below 20 per cent of GDP; maintaining a broad-base and low-rate tax environment; reducing current outlays to below 30 per cent of GDP; restoring net worth to significantly positive levels and reducing risks to the fiscal position.
Spain The medium term objective has been to control the public sector deficit and curtail public expenditure. With the move to a single European market, budgeting in the early 1990s emphasised continued fiscal consolidation and a shift from consumption to investment expenditure.
Turkey The Five-Year Development Plan specifies targets for economic performance and public finance. The Plan also contains target ratios of public expenditure to GNP.
United Kingdom Since 1980, the Medium Term Fiscal Strategy has provided the framework for monetary and fiscal policy. In 1992, the New Control Total (which involves the United Kingdom Cabinet establishing a total amount for public spending and then making recommendations on allocations within the total to departments and programs) was to be constrained to a rate that ensured that general government expenditure grew more slowly than the economy as a whole over time. The current medium term goal is to bring the public sector borrowing requirement back towards balance over the medium term and to ensure that when the economy's growth rate is on trend the public sector borrows no more than required to finance its net capital spending.
United States Congress passed legislation in 1995 (the Balanced Budget Resolution) that required the United States Government to balance the budget by 2002. However, the legislation contains no details of specific spending reductions or receipt increases that would lead to balance.

Source: OECD, Budgeting For Results: Perspectives on Public Expenditure Management, 1995 and various OECD economic surveys.

Attachment G.2: Summary of the main recommendations of the Joint Parliamentary Committee of Public Accounts

Introduction

This attachment reproduces the summary of the main recommendations contained in Joint Parliamentary Committee of Public Accounts (JCPA) Report 341 - Financial Reporting for the Commonwealth: Towards Greater Transparency and Accountability included in the Treasury's submission to the Commission.

Summary of the JCPA's Main Recommendations

The form and content of the fiscal reports required under the proposed Fiscal Reporting Act are similar to reporting requirements in the New Zealand Fiscal Responsibility Act. In many cases the JCPA's approach would formalise in legislation reporting arrangements which already exist.

Accounting Framework

The proposed Act would require fiscal reports (outcomes) to be produced for the whole of government on an accrual basis, and the first Commonwealth accrual budget to be tabled in 1999-2000.

Content of Fiscal Reports

The proposed Act would specify forms of accrual financial performance indicators, agreed to by the Government and the JCPA, against which the Government would be required to report performance and future policies.

The JCPA envisaged that Treasury and the Department of Finance would advise on the appropriate choice of indicators, after public consultation.

The proposed Act would require forecasts for the budget year and the following four years to include:

Frequency of Fiscal Reports

The JCPA recommended that fiscal reports be tabled in the following reporting cycle:

Parliamentary Scrutiny

The proposed Act would establish a Parliamentary Committee to examine and report on fiscal reports produced under the Act, and all fiscal reports would automatically stand referred to this Committee for inquiry and report.

The proposed Act would make specific provision for the Committee to call Ministers of State to give evidence on these reports.

Attachment G.3: Recent Australian State and Territory Government experience with fiscal commitments and legislated targets

This attachment provides a brief outline of the medium-term fiscal strategies recently adopted by the States of Australia.

New South Wales

In 1988-89, New South Wales embarked on a five year fiscal strategy which set the objectives of, inter alia, containing growth in recurrent payments and debt, and reducing New South Wales's tax severity. The 1991-92 Budget papers (the last budget to mention the strategy) stated that to a substantial degree the objectives had been achieved, particularly in the areas of debt constraint, restraint in taxes and charges and renewal of infrastructure.

In February 1996, the New South Wales Government introduced its General Government Debt Elimination Act. A summary of the legislation is contained in Treasury's submissions to both the JCPA inquiry and the Commission.

Victoria

In its 1991-92 Budget, Victoria set out a debt management strategy to, inter alia, achieve current account surpluses in the longer term. In October 1992, the Victorian Government announced a three year medium-term strategy to eliminate the deficit on the current account by 1995-96. Revenue-raising and expenditure-cutting measures were also proposed. A surplus on the current account of 0.8 per cent of gross state product (GSP) was achieved in 1994-95, a year earlier than set out under the strategy.

Fiscal targets for the 1995-96 to 1998-99 period include:

In addition, the Victorian Government has announced that it is pursuing further longer term budget objectives to reduce State debt and debt servicing ratios to levels consistent with the restoration of Victoria's former AAA credit rating and to bring Victoria's overall tax effort into closer alignment with the average of the Australian States.

Queensland

In its 1990-91 budget papers, Queensland set out three key elements of its financial strategy. These involved full funding of long term liabilities, including superannuation and workers compensation, funding of social assets (such as schools) from recurrent revenues and debt to be raised only for assets that can effectively generate the income to service the debt.

Each year, the Queensland budget papers reaffirm the State's commitment to these elements. As a result of this approach, Queensland’s budget operates in structural surplus (estimated at around 0.8 per cent of GSP in 1995-96). Queensland is the only State to hold net financial assets in the general government sector (estimated at 2.4 per cent of GSP in 1995-96).

Western Australia

In its 1993-94 budget papers, Western Australia outlined a medium term budgetary strategy covering the period up to the end of the current Government's first term in office. The main objectives of the strategy include achieving a zero net financing requirement (NFR) on the consolidated fund, the reduction of net debt and the restoration of the State's AAA credit rating.

The 1995-96 budget papers announced that the Western Australian Government achieved a NFR surplus of 0.2 per cent of GSP on the consolidated fund in 1994-95, two years earlier than set out in the strategy. Net debt is also expected to fall as a percentage of GSP from 18 per cent in 1993-94 to 15.1 per cent in 1995-96. This will assist in restoring the State's credit rating.

South Australia

In 1993, South Australia implemented a debt management strategy (DMS) in agreement with the Commonwealth Government as part of the Commonwealth's special assistance package to assist in the bail-out of the State Bank of South Australia. The main element of that strategy was to reduce net debt to sustainable levels.

South Australia has successfully completed the DMS, achieving lower net debt to GSP ratios than set out in the DMS each year. Net debt to GSP has fallen from 28 per cent at June 1993 to an estimated 22.6 per cent at June 1996.

South Australia's May 1994 financial statement expanded the DMS and announced a medium term financial strategy. This strategy provided for, inter alia:

Outlays savings measures announced in the 1995-96 Budget leave on track the target of eliminating the underlying deficit in the non-commercial sector by 1997-98. A deficit of 0.3 per cent of GSP is expected in 1995-96. The public sector redundancy program remains on target. Over the three-year period to 30 June 1995, the South Australian Government has made significant workforce reductions of 11 per cent or 9,192 FTE employees.

Tasmania

In 1990-91, Tasmania introduced a five-year financial strategy with the initial assistance of the Commonwealth. That strategy set a consolidated fund NFR target of $40m in 1994-95. This was broadly achieved, with the actual NFR in 1994-95 being $43.4m.

The 1994-95 Budget announced a new five year financial strategy, which includes:

The 1995-96 Budget was consistent with this strategy and announced that general government net debt as a percentage of GSP fell to 14.5 per cent at June 1995. Net interest costs as a proportion of recurrent receipts are projected to fall from 8.9 per cent in 1994-95 to 8.6 per cent in 1995-96.

Australian Capital Territory

In June 1992, the Australian Capital Territory Government presented a three year budget strategy. This included the achievement of balanced current account budgets and increasing revenue collections where necessary. The Australian Capital Territory has achieved surpluses on its current account for the past three years and has increased its tax to GSP ratio from 3.4 per cent in 1989-90 to 4.3 per cent in 1993-94.

In its 1995-96 Budget, the Australian Capital Territory presented a three year financial plan to:

Northern Territory

In its 1993-94 Budget, the Northern Territory Government announced that interest payments would be contained in future to levels no higher than those faced in 1992-93 and that current expenditures would not increase in real terms. The 1994-95 Budget reaffirmed these targets and expanded its fiscal strategy to:

The 1995-96 Budget papers stated that the fiscal targets had been satisfied with:

In 1995-96, the Northern Territory budget papers revised an aspect of the fiscal strategy to maintain per capita current expenditure at a level no higher than the combined influences of inflation and population growth on a three year rolling basis.


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