Finding Sustainable Fiscal Space for the Health Sector

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Finding Sustainable Fiscal Space for the
Health Sector

• Peter S. Heller
• IMF
• November 2005

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Potential domestic sources of fiscal space-1

• A higher tax burden raising tax rates, new
  taxes, and strengthening revenue administration
  efforts
• Cutting expenditure, particularly unproductive
  expenditure
• Enhancing effectiveness of current spendingin
  health and other sectors
• Promoting a high-growth mix of expenditurehigher
  growth rates can facilitate greater future
  revenue potential the challenge is to ensure
  spending that has high productivity

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Potential domestic sources of fiscal space-2

• Seignorage creation
• - Seignorage a potential source of some fiscal
  space (0.5-1.0 percent of GDP (the latter with a
  6 inflation rate)
• - But is more possible with higher rates of money
  creation and thus higher inflation? What
  inflation is tolerable, consistent with
  macroeconomic stability with growth?
• - Understanding the potential relationship
  between inflation and the demand for money the
  higher the inflation rate, a decline in money
  demand will reduce potential seignorage income
• Domestic borrowing
• - Can be an important independent source of debt
  burdenin immature domestic markets, high real
  interest rates can be a significant budgetary
  burden not subject to debt cancellation
• - While inflation can lower real value of debt,
  it quickly leads to new borrowing having to be
  financed with higher risk premium and higher
  nominal rates

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Potential External Sources of fiscal space

• External resources
• External grants an obvious source of additional
  fiscal space but still subject to sustainability
  concerns if not of predictable, long-term
  duration
• Borrowing How concessional? debt sustainability
  analysis importantclarify thresholds
• Recent debt cancellation initiative raises
  important issues

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Above slides highlight that macroeconomic issues
ultimately may constrain available amount of
fiscal space

• If resources cannot be found from tax increases,
  expenditure reallocation or cutbacks, expenditure
  efficiency increasing measures, or grants, then
• Fiscal space only available consistent with
  policies of money creation that do not engender
  growth-inhibiting rate of inflation or that does
  not engender excessive vulnerability in terms of
  debt levels

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Recognize that potentialities for fiscal space
are country specific. Recognize that
potentialities for fiscal space are
country-specific

• In some countries, there may be room for
  increased taxes or reallocation of expenditure
• In others, tax burden already at limits of what
  is desirable for a low-income country (LIC) or a
  significant share of expenditures are likely to
  be nondiscretionary or difficult to prune
• In some, high domestic debt burdens, combined
  with high real interest rates, make it difficult
  to find fiscal space without action to reduce the
  burden of domestic debt (requiring responsible
  fiscal consolidation efforts). External debt
  relief cannot help in such cases

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Handouts illustrate these issues for Malawi,
Zambia, and Tanzania. What is their message? For
Malawi and Zambia,

• There is very limited scope to use domestic
  resources to finance more spending, especially in
  short-run, with taxes high, expenditure
  relatively inflexible, and large domestic debt,
  especially with adverse debt dynamics (difference
  between growth rate and interest rates)
• Also for Malawi and Zambia, with high inflation,
  printing money not option
• In medium-run, must rationalize spending
• Grants and concessional loans necessary

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For Tanzania,

• A low tax ratio (is room for higher taxes to finance productive
  government expenditure
• Similarly, with domestic debt at 15 percent and
  relatively low real interest rates, room for
  additional borrowing, particularly from nonbank
  sources
• But low monetization suggest caution about use of
  seignorage for increased spending

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Critical concerns in fiscal space debate-1a

• There is likely to be competition from other
  parts of government for any available fiscal
  space
• Infrastructure vital for growth
• Other social sector needs
• exceptionality of health argument not
  universally accepted

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Critical concerns in fiscal space debate-1b

• AND recognize that Ministers of Finance want as
  much fungibility as possible. Not surprising that
  a MOF may, in formulating a budget, seek to
  substitute reliance on external resources for
  domestic budgetary supportimplicitly shifting
  some domestic resources to nonaided sectors
• Even in health sector, aid flows often derive
  from vertical initiatives unmet needs in other
  parts of the health sectorMOH may seek to take
  advantage of external resources and shift
  domestic budgetary support to other parts of
  health sector.

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Critical concerns in fiscal space debate-2

• Decisions today MATTER One must consider the
  future spending implications of current spending
  programs
• Some expenditure programs, once started,
  effectively preempt future fiscal space
• May be ripple effects of policies to enhance
  absorptive capacity in health sector (e.g.,
  financial incentives for medical care workers).
  Supplementing wages to health workers distorts
  the wage scale in relation to other public sector
  employees. This could effectively absorb some
  fiscal space.

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Critical concerns in fiscal space debate-3

• Be cautious about confusing the issue of fiscal
  space with other constraints to a scaling up of
  programs
• - Governance limits
• - Absorptive capacity limits (e.g.,
  unavailability of skilled manpower in the health
  sector)
• - Corruption
• - Concern about vulnerability associated with
  excessive dependency on external
  donors

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Critical concerns in fiscal space debate-4a

• - What are implications of new debt cancellation
  initiative for the fiscal space debate?
• - Will create some fiscal spacefreeing up of
  resources previously used for debt service
  (interest and amortization)but note that much of
  the debt being canceled was at concessional rates
  already and one would need to estimate whether
  any offset in terms of reduced flow of
  grants/concessional loans from IMF/Bank
• - In principle, enhances capacity of countries to
  engage in new borrowing
• - But, does not mean that the productivity of the
  expenditure financed by loans is unimportantnow
  more than ever need to avoid the problems of the
  past in terms of unproductive wasteful borrowing

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Critical concerns in fiscal space debate-4b

• - Particular caution about borrowing,
  particularly on nonconcessional terms, for
  recurrent type expenditure programs with
  benefits only realizable over the long-term
• - There will be many temptations from creditors
  to provide new loans
• - Emphasizes need for prudential debt
  management/expenditure assessment procedures

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Sustainability is a critical concern in
considering the use of fiscal space for health

• The issues are several
• - Grants preferable to loans (even concessional)
  do not raise debt service issues. But even with
  grants,
• - How should a government respond to a sizeable
  increase in sectoral grant support but with no
  guarantees of sustained external support beyond
  2-3 years?
• - Particularly for human resources for health
  (HRH), we must train and employ for a long
  period Can we count on donors providing
  resources for a long enough time period that we
  can make employment commitments?
• - Concern of a minister of finance expand a
  program and then find that in a subsequent year,
  other cutbacks or borrowing will be required to
  sustain a program. Limits on the extent of such
  exposure.
• - Greater long-term predictability in donor
  assistance thus enhances fiscal space!

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Longer term fiscal space issues also are critical
in considering sustainability

• Minister of Finance, Minister of Healthmust
  consider longer term strategy for scaling up,
  while ultimately scaling down the external
  financing of a sectoral program.
• Thus, the issue of domestic revenue mobilization
  graduallyover a decade or sosubstituting for
  external funding becomes critical. Cannot assume
  external support forever

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Are their macroeconomic limits to the use of
fiscal space created from grants or highly
concessional loans?

• In terms of Dutch Disease, and if the scaling up
  principally for health, probably not. If for a
  generalized scaling up of aid flows, then it
  depends!
• - Is aid mostly used for imports?
• - Does aid finance investments or programs that
  free up critical supply bottlenecks?
• - If a real appreciation of the exchange rate is
  acceptable in the development strategy, then not
  a worry in any case
• - Emphasizes importance of enhancing the supply
  response of the economyremoving transportation
  bottlenecks, building up productive
  infrastructure, and increasing access to markets

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Are their macroeconomic limits to the use of
fiscal space created from grants or highly
concessional loans?

• Are IMF program ceilings too tight? Some NGOs
  argue yes. IMF view?
• IMF programs can be flexibly designed in terms of
  acceptable inflation rate, but that once annual
  inflation rises above 10-12, a country is
  endangering its growth prospects
• - Engendering higher risk premia on borrowing
• - Deterring incentives for private investors
• - Aggravating position of the poor, who are least
  able to protect against inflation
• - And reducing the demand for money, which
  reduces the potential for future seignorage gains
• - Moreover, seignorage from additional money
  growth has potential in most LDCs, to buy not
  much more additional revenue going from an
  inflation rate of 6 to a higher rate of 15 has
  the potential to raise revenue by no more than
  about 0.8 percent of GDP. Since higher inflation
  will reduce the demand for money, the actual
  revenue impact would probably be closer to only
  0.4 percent of GDP.

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IMF Work agenda

• - Area department mission chiefs to continue to
  collaborate with country authorities and donors
  in order to be sure that all efforts are made to
  facilitate the effective use of grants and
  concessional loans for the productive expansion
  of health sector programs.
• - To prepare a paper on the various fiscal issues
  associated with fiscal space and budget
  sustainability in a world of scaled up grant
  flows
• - To collaborate with the World Bank on its
  forthcoming Development Committee paper on Fiscal
  Space and Growth
• - To continue to carry out pilot projects on
  fiscal space in selected countries.

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Conclusion

• To summarize some key points
• - Significant limits on how much fiscal space can
  be created in the absence of external
  grant/concessional loan support in short to
  medium term
• - There is competition for such fiscal space
• - Greater predictability over the long-term in
  donor assistance can create more effective fiscal
  space
• - With external support for expanding health
  sector, macroeconomic policy framework should not
  prove an inhibiting factor to the use of such
  resources
• - Caution is needed, post-debt cancellation, with
  new borrowing
• - The need for an integrated sectoral plan to
  determine how to expand the health sector is
  critical