Debt brake
OTHER SOURCES
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What is the debt brake?
In March 2012 constitutional Act on budget responsibility entered in force. It sets limit for the general government debt – so called debt brake. The aim is through sanction and correction mechanism prevent the increase of Slovakia´s debt to critic levels.
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Why the debt brake was established?
Governments tend to create debts (spent more as they have to disposal) not only during crises, but also in good times. Generated debt increases over time until it reaches such a high level it would be possible for the government to borrow, so the country defaults. Should this happen or the country would like to avert such a threat, the government has to adopt drastic austerity measures. As a consequence living standard of the inhabitants declines. The debt brake should increase the government´s discipline to overcome such situation with a sufficient reserve.
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Have other countries adopted the debt brake?
The debt brake is being introduced in Poland, where the constitutional act directly prohibits the government to agree on loans and guarantees those might increase the public debt over 60 % GDP. On transnational level the debt brake is being incorporated within the Stability and Growth Pact, binding to all EU members. According to this agreement, which is a part of the corrective arm of SGP, countries are obliged to maintain the debt level below 60 % GDP (or to reduce the debt level quickly enough in case of exceeding). Should the rule be repeatedly broken, a country may be sanctioned by the European Commission and the Council.
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What are the consequences, when the government faces sanctions?
The government needs to adopt austerity measures with an immediate impact on the citizens. To meet its objective (reduce the debt level), the government could increase taxes or reduce expenditures related to social transfer or reduce the scope of health care covered by general government expenditures, alternatively reduce expenditures on education or construction of motorways.
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What does the government do to reduce the debt?
In case the debt is already in sanction´s bands, in line with the constitutional act, the government is obliged to report what measures are being taken to reduce the debt amount. The measures adopted are evaluated by the independent Council for budget responsibility (CBR) and are part of its report on compliance on fiscal responsibility and transparency rules (Act Nr. 493/2011) published regularly on August each year. Description of measures, CBR´s opinion whether the measures adopted are sufficient, could be found on an interactive chart or information bellow the chart.
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why was the upper limit for the debt set at 50 % GDP (temporarily at 60 % GDP)?
A suitable debt limit that separates a safe and a critic debt level is a disputable question in economic literature with no clear answer. A safe debt limit may be different between countries and may vary within a given country over time. It depends on the country ´s development and openness, debt structure and monetary policy settings.
Even the European fiscal rules (Stability and growth pact) set the upper limit for debt at 60 % GDP, due the analysis related to the size and relative production of the economy, the 60 % limit might be problematic for the Slovak economy. In addition, small and very open economies are more sensitive to fluctuations on financial markets. For this reason the upper limit was set at 50 % GDP.
Initially a higher proposal on upper limit at 60 % GDP stem from a high uncertainty related to the medium-term economic outlook in Eurozone at that time. From year 2018 to 2027 the limits decreases by 1 p.p. yearly, until they reach 40 % up to 50 % GDP.
Even the European fiscal rules (Stability and growth pact) set the upper limit for debt at 60 % GDP, due the analysis related to the size and relative production of the economy, the 60 % limit might be problematic for the Slovak economy. In addition, small and very open economies are more sensitive to fluctuations on financial markets. For this reason the upper limit was set at 50 % GDP.
Initially a higher proposal on upper limit at 60 % GDP stem from a high uncertainty related to the medium-term economic outlook in Eurozone at that time. From year 2018 to 2027 the limits decreases by 1 p.p. yearly, until they reach 40 % up to 50 % GDP.
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Are there any sanctions?
Yes, the fiscal responsibility Act defines five sanction bands according to debt level, where individual sanctions cumulate:
50 (incl.) – 53 % GDP: the Ministry of Finance shall submit to the parliament a written justification of the debt amount, including the measures proposed for debt reduction
53 (incl.) – 55 % GDP: the government shall submit to the parliament draft measures it proposes to reduce the debt and simultaneously the salaries of government members shall be reduced to their previous fiscal year’s level
55 (incl.) – 57 % GDP: the Ministry of Finance shall block the state-budget expenditures in the amount of 3 % of the total state-budget expenditures, municipalities and self-governing regions shall be obliged to approve their budgets for the following fiscal year with expenditures not exceeding their previous fiscal year’s level
57 (incl.) – 60 % GDP: the government may not submit to the parliament a general government budget proposal with budgeted deficit and municipalities and self-governing regions shall be obliged to approve their budgets as balanced or surplus
exceeding 60 % GDP: the government shall ask the parliament for a vote of confidence
Sanctions related to debt limit from 50 % up to 60 % are in force until fiscal year 2017. From year 2018 to 2027 the limits decreases by 1 p.p. yearly, until they reach 40 % up to 50 % GDP.
50 (incl.) – 53 % GDP: the Ministry of Finance shall submit to the parliament a written justification of the debt amount, including the measures proposed for debt reduction
53 (incl.) – 55 % GDP: the government shall submit to the parliament draft measures it proposes to reduce the debt and simultaneously the salaries of government members shall be reduced to their previous fiscal year’s level
55 (incl.) – 57 % GDP: the Ministry of Finance shall block the state-budget expenditures in the amount of 3 % of the total state-budget expenditures, municipalities and self-governing regions shall be obliged to approve their budgets for the following fiscal year with expenditures not exceeding their previous fiscal year’s level
57 (incl.) – 60 % GDP: the government may not submit to the parliament a general government budget proposal with budgeted deficit and municipalities and self-governing regions shall be obliged to approve their budgets as balanced or surplus
exceeding 60 % GDP: the government shall ask the parliament for a vote of confidence
Sanctions related to debt limit from 50 % up to 60 % are in force until fiscal year 2017. From year 2018 to 2027 the limits decreases by 1 p.p. yearly, until they reach 40 % up to 50 % GDP.
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Are there any exceptions or escape clauses under which the sanctions are not applied?
Yes. The Act defines exception, escape clauses respectively. The obligation to invoke the sanctions shall not apply to the period from the declaration of war or a state of war until the end of war or a state of war. Besides that, there are other exceptions, which apply in cases defined below, however only under condition the third debt brake was exceeded (actual debt is equal or exceeds 55 % GDP).
In case the debt overruns the third sanction band, the obligation to invoke the sanctions shall not apply, if one of the condition listed below is fulfilled:
1. to the period of 24 months after the government’s Manifesto was approved and the government got the vote of confidence
2. to the period of 36 calendar months when the year-on-year percentage change of gross domestic product declined by at least 12 percentage points
3. to the period of 36 calendar months, when public expenditures incurred to restore the proper functioning of the banking sector affected by the financial crisis, public expenditures incurred to remedy the consequences of natural disasters and catastrophes and public expenditures incurred in connection with commitments arising from international treaties have, in aggregate, exceeded 3% of gross domestic product
In case the debt overruns the third sanction band, the obligation to invoke the sanctions shall not apply, if one of the condition listed below is fulfilled:
1. to the period of 24 months after the government’s Manifesto was approved and the government got the vote of confidence
2. to the period of 36 calendar months when the year-on-year percentage change of gross domestic product declined by at least 12 percentage points
3. to the period of 36 calendar months, when public expenditures incurred to restore the proper functioning of the banking sector affected by the financial crisis, public expenditures incurred to remedy the consequences of natural disasters and catastrophes and public expenditures incurred in connection with commitments arising from international treaties have, in aggregate, exceeded 3% of gross domestic product
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When are the data necessary to assess the debt brake published?
The rule is linked to data released by the EUROSTAT (Statistical Office of the EU). Data are published twice a year (so called notification of debt and deficit). While in April the data are preliminary, in October final fiscal data for the previous year are released (e.g. data for 2015 are published in April, or October 2016 respectively). Sanctions are directly linked to these two terms.
The data could be revised due to new facts with no impact of sanctions already imposed retrospectively (e.g. in 2019 data for 2015 could be revised), as at that time only data from the last know evidence were available.
The data could be revised due to new facts with no impact of sanctions already imposed retrospectively (e.g. in 2019 data for 2015 could be revised), as at that time only data from the last know evidence were available.
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The government suggests to adjust debt brake, is it justified?
The government in its Manifesto (April 2016) declared effort to seek political support for following changes:
a) link sanction bands of constitutional act to net government debt instead of gross debt (note: net government debt is gross debt adjusted for liquid financial assets, e.g. cash held in state accounts)
b) take into account strategic public investment when imposing sanctions
c) set parameters of sanction bands to support Slovakia´s economic development
d) neutralize impact of methodological changes on debt level
First of all, one should be aware that debt limit serves as an emergency brake in cases y-o-y operative management of the budget fails. In fact, let´s imagine the debt brake as a hammer (rough tool). Non-efficient management of the budgetary process enables “overeating” of additional revenues in economic good times, as a result debt increases to sanction bands. Thinking of the debt brake as an operative tool is a wrong assumption, hence one could speculate important adjustment to the rule are required. In fact, some technical suggestions might improve the debt brake. However, as actual fiscal framework (GGB 2017-2019) assumes debt reduction in years to come, this might not be a priority. Instead of debt brake relaxation, a tool to prevent expenditure reduction in recession and overspending in expansion is necessary. Automatic stabilizers could operate freely and the fiscal policy wouldn’t be procyclical. Expenditure ceilings are the appropriate tool. As a main operative tool of fiscal policy in Slovakia – so called screwdriver (fine tuning of the budget), it was already a part of the draft of the constitutional act. However, till today expenditure ceilings weren´t introduced.
What are expenditure ceilings: There are many forms of them, e.g. aggregate expenditure limit, a binding medium-term indicator, proposed by government and approved by parliament, (e.g. during the whole parliamentary term of a certain government). Its value would be denominated in euros and would depend on analysis on long-term sustainability of public finances, government objectives and expected budgetary revenues. To cover small negative surprises a reserve would be created, moreover to deal with extraordinary situations escape clauses would be defined.
a) link sanction bands of constitutional act to net government debt instead of gross debt (note: net government debt is gross debt adjusted for liquid financial assets, e.g. cash held in state accounts)
b) take into account strategic public investment when imposing sanctions
c) set parameters of sanction bands to support Slovakia´s economic development
d) neutralize impact of methodological changes on debt level
First of all, one should be aware that debt limit serves as an emergency brake in cases y-o-y operative management of the budget fails. In fact, let´s imagine the debt brake as a hammer (rough tool). Non-efficient management of the budgetary process enables “overeating” of additional revenues in economic good times, as a result debt increases to sanction bands. Thinking of the debt brake as an operative tool is a wrong assumption, hence one could speculate important adjustment to the rule are required. In fact, some technical suggestions might improve the debt brake. However, as actual fiscal framework (GGB 2017-2019) assumes debt reduction in years to come, this might not be a priority. Instead of debt brake relaxation, a tool to prevent expenditure reduction in recession and overspending in expansion is necessary. Automatic stabilizers could operate freely and the fiscal policy wouldn’t be procyclical. Expenditure ceilings are the appropriate tool. As a main operative tool of fiscal policy in Slovakia – so called screwdriver (fine tuning of the budget), it was already a part of the draft of the constitutional act. However, till today expenditure ceilings weren´t introduced.
What are expenditure ceilings: There are many forms of them, e.g. aggregate expenditure limit, a binding medium-term indicator, proposed by government and approved by parliament, (e.g. during the whole parliamentary term of a certain government). Its value would be denominated in euros and would depend on analysis on long-term sustainability of public finances, government objectives and expected budgetary revenues. To cover small negative surprises a reserve would be created, moreover to deal with extraordinary situations escape clauses would be defined.
