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The importance of fiscal consolidation

Innovative financing at a global level Informal meeting of EU Directors General for Development Brussels, 9 th February 2010 Peter Bekx Director for International Economic and Financial Affairs European Commission. The importance of fiscal consolidation.

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The importance of fiscal consolidation

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  1. Innovative financing at a global levelInformal meeting ofEU Directors General for DevelopmentBrussels, 9th February 2010Peter BekxDirector for International Economic and Financial AffairsEuropean Commission

  2. The importance of fiscal consolidation Change in debt as a share of GDP – Commission Autumn 2009 forecasts

  3. Global challenges with budgetary impacts • Financial stability: the costs of bail-outs should be paid by the financial sector • Climate change/Copenhagen Accord: fast-start of USD 30 billion 2010 to 2012 and the goal of USD 100 billion dollars a year by 2020 by developed countries to developing countries • Development: MDGs, G8 Gleneagles and EU commitments on scaling up ODA

  4. The role of innovative financing in addressing these budgetary challenges • Expenditure: reduction in non-productive spending tends to have more long-lasting effects if linked to structural reforms • Traditional tax revenues: increases in rates, in tax bases and in efforts to fight tax fraud • Innovative sources of financing: potential to be further explored

  5. Instruments of innovative financing • Definition: public finance that is raised in non-traditional ways; does not include mechanisms that are exclusively private finance • Earmarking: can improve political acceptability, but leads to budgetary inflexibility • Importance of implementation at global level: fair burden-sharing and global political commitment needed; risks of tax evasion by relocation of economic activities or tax bases • → Coordination among all relevant key players (notably G-20) essential, but EU taking on a role of global leadership could also be an option

  6. Innovative financing related to the financial sector • Pricing of leverage and risk-taking: a fee on certain balance sheets positions of financial institutions, with the revenues being channelled either into a crisis resolution fund (Sweden) or into the budget (US) • Financial transaction tax: expected to help stabilise financial markets by reducing "speculative" trading • Taxation of bonus payments: expected to reduce managers' or traders' incentives to take excessive risks (UK, France) • Increase in profit taxation: higher rate or surcharge on corporate income tax in the financial sector

  7. Innovative financing related to climate change • Putting a price on greenhouse gases emissions to use least-cost abatement opportunities: • Cap-and-trade schemes: Revenues from the auctioning of allowances (e.g. in EU ETS as of 2013) • Carbon taxes: in the EU as a complement to cap-and-trade where this is difficult to directly apply to small and diffuse emission sources; scope for further EU coordination in the Single Market • Emissions from international aviation and maritime transport: Proposals in climate change negotiations; inclusion of aviation in ETS as of 2012; airline ticket tax by several countries • Flexible mechanisms of the Kyoto Protocol: selling/auctioning Assigned Amount Units (AAUs); levy on CDM projects

  8. Innovative financing for development • Frontloading of public finance and action by tapping the capital markets: • International Finance Facility (IFF), IFF for Immunisation, Global Climate Financing Mechanism • Targeted bonds: green bonds, diaspora bonds • IMF Special Drawing Rights (SDRs) • Debt-for-development swaps (Debt2Health) • Leveraging private finance through public incentives: • Advance Market Commitments (AMC) • Tax discounts • Public-Private Partnerships • Market-based insurance schemes • Lotteries

  9. Assessment criteria • Potential to raise revenues: serious budgetary challenges to be addressed • Effects on market efficiency: internalisation of external costs and benefits (“double dividend”) • Effects on equity and income distribution: affects political acceptability and need for accompanying social expenditure • Administrative and legal aspects: may complicate feasibility

  10. Potential to raise revenues • Financial sector: applying Sweden's Stability Fee in the EU-27 could raise more than €10 billion; FTT revenue estimates of more than €50 billion worldwide and of about €20 billion for Europe • Climate change: auctioning revenues from the EU ETS could provide nearly €26 billion per year by 2020 (half of this should be used for energy and climate change purposes); carbon taxes already raising important revenues of 0.3% to 0.8% of GDP in several Member States • Development: existing instruments already deliver important contributions, but the potential for significant scaling up might be limited

  11. Effects on market efficiency • Financial sector: taxing leverage and risk-taking by financial institutions can foster financial stability by slowing the build up of excessive risk positions in balance sheets; FTT may actually increase price volatility in specific markets by reducing the number of transactions and liquidity; transactions easier to relocate • Climate change: a price on carbon emissions allows limiting global warming by using the least-cost opportunities of emission abatement • Development: frontloading can prevent substantially higher costs or risks in the future by acting at an early stage

  12. Effects on equity and income distribution • Financial sector: companies are likely to roll over part of the tax burden to clients • Climate change: low-income groups tend to spend more of their income on transport and energy, possibly implying a need for compensating social measures • Development: additional and hidden burdens on future budgets from frontloading may create issues of inter-temporal distribution if future aid flows fall

  13. Administrative and legal aspects • Financial sector: tax on leverage and risk-taking as well as a surcharge on the corporate income tax easy to administer; compatibility of FTT with the EU Treaty provisions of free movement of capital to be further assessed • Climate change: concerns about legal compatibility with WTO rules and administrative costs of carbon border taxes • Development: institutional complexity of some of the mechanisms

  14. Conclusions • Significant budgetary challenges in the years ahead give innovative sources of financing an important role to play • Global coordination will be essential as isolated action is likely to be less effective • Taxing leverage and risk-taking in the financial sector and the pricing of carbon emissions are of particular interest because of a possible “double dividend” • Relevant experiences of innovative financing for development have some potential of being scaled up, but the revenues are likely to be more moderate • Commission will examine the most promising instruments in further detail and present proposals in due time, taking into account the importance of both EU and global coordination

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