June 26, 2018

On May 11, 2018, the Executive Board of the International Monetary Fund (IMF) discussed a paper entitled Assessing Fiscal Space: An Update and Stocktaking. It reviews the implementation of the fiscal space framework developed in the paper Assessing Fiscal Space: An Initial Consistent Set of Considerations, which was published on December 15, 2016.

The framework outlined in the paper focuses on assessing the availability of space, but not its use. The paper stresses that the use of fiscal space is informed by many other considerations to be discussed during Article IV consultations. For instance, it is entirely consistent for a country with fiscal space to not use it or indeed to actually need to bolster it further, especially in the current cyclical upswing.

During 2017-2018, the framework was piloted in the Article IV consultations of 34 advanced economies and emerging markets, comprising almost 80 percent of global GDP in PPP terms. Fiscal space is defined as the room for undertaking discretionary fiscal policy relative to existing plans without endangering market access and debt sustainability. The framework is multi-dimensional, with IMF staff judgment and country-specific factors playing a significant role in the final judgment. It was developed in response to the need to provide a more systematic approach to assessing fiscal space in the context of Fund surveillance. It serves as a tool to inform assessments of the availability of fiscal space over a three to four year horizon.

The paper finds that the pilot met its key objectives. The framework generally worked well across the various pilot countries, generating assessments that were broadly in line with its underlying logic and indicators. The implementation of the framework also revealed a few potential areas for modification to further support fiscal space assessments in country-specific contexts, such as exposure to shocks, economic structure and level of development. Such extensions include a more formal integration of contingent liabilities, as well as adjustments to capture the specificities of commodity producers and low-income countries who obtain a significant amount of external market or other non-concessional financing.

Executive Board Assessment[1]

Executive Directors welcomed the opportunity to discuss the update of the framework for the assessment of fiscal space and the experience with the pilot application of the framework. Most Directors agreed that this experience indicated that the framework had provided a useful approach for assessing fiscal space in a consistent manner across countries, supported engagement with the authorities, and had been appropriately applied.

Going forward, Directors noted that the framework was a work in progress and needs to be strengthened further in several respects including the ability to incorporate country‑specific circumstances, evaluation of funding conditions, contingent liabilities, and intergenerational considerations. Most Directors supported an extension of the framework to commodity producers and low‑income countries which obtain a significant amount of external or other non‑concessional financing, with appropriate modifications, while ensuring consistency with the debt sustainability and external sector assessment frameworks. Many Directors noted that additional refinements and extensions are necessary before the framework is integrated systematically into Fund surveillance, and looked forward to further discussions with the Board. Many others, while recognizing the scope for further refinements, supported moving forward in using the framework more systematically as a tool for Fund surveillance.

Directors stressed the importance of clearly communicating the factors underlying staff’s assessment of fiscal space to the authorities and markets, particularly with respect to the distinction between the availability of fiscal space and its use. While the assessment of available space is an important input for analyzing fiscal policy, a view on the use of fiscal space needs to be based on additional criteria, requiring a broader analysis of factors and country‑specific circumstances. In the current cyclical upswing, many Directors underlined the need to ensure that the application of the framework is symmetric. In particular, policy advice should remain mindful of the ongoing broader multilateral surveillance messages, among others, on the need to rebuild fiscal buffers where needed and to maintain adequate cushions to enhance resilience to shocks.

Directors underscored that an assessment of fiscal space is sensitive to the initial state of the economy and that it is a forward‑looking, conjunctural, and dynamic concept. This requires the assessments to consider the consequence of alternative paths for fiscal policy and likely market reaction, while adequately accounting for uncertainty.

Directors underscored that well‑designed fiscal rules play an important role in safeguarding policy credibility, maintaining market access and contributing to building fiscal space. With this, most Directors considered it appropriate that the fiscal space assessment is made with and without the existing fiscal rules. Directors also stressed that the fiscal space assessment is not an assessment of the rules themselves, although some noted that wide and persistent gaps between assessments with and without rules could justify a reevaluation of the rules with careful consideration of credibility risks. A few Directors emphasized the need for the framework to incorporate union‑wide considerations in the assessment of space for members of currency unions where fiscal rules play an important role in macroeconomic stability, together with effective monetary policy.

Directors underscored that the assessment of fiscal space should not be a mechanical exercise in bilateral surveillance but should inform the wider fiscal policy discussion with authorities. Directors broadly concurred that a framework‑based assessment of fiscal space every three years should suffice, with more frequent assessments in the case of large macroeconomic shocks, substantive shifts in funding availability or market sentiment, or significant changes to fiscal policy and rules.