Coping With a New Reality

Public debt ratios have worsened almost everywhere and public finances have become more vulnerable

Countries need to adapt, but “no one-size-fits-all”

Fiscal policy should be growth-friendly with a focus on measures that boost both short- and medium-term growth

The April 2016 Fiscal Monitor examines how countries can respond to the sharp deterioration of fiscal positions in the past year.

Public debt ratios have been revised upward in most countries. The revisions have been the largest in emerging market and middle-income economies, where fiscal deficit ratios in 2015–16 are now expected to exceed the levels observed at the beginning of the global financial crisis.

The main forces driving bigger budget deficits and the rise in debt ratios are ongoing adjustments in the global economy. These lasting transformations include continued weakness in global economic activity, the decline in commodity prices, the slowdown in trade, and tighter financial conditions in emerging and developing economies.

“All countries need to adapt to these new realities, but no one-size fits-all,” said Vitor Gaspar, Director of the IMF’s Fiscal Affairs Department. The appropriate policy response varies across countries and depends on the nature of the fiscal challenge they face. The report outlines three main challenges.

Advanced economies: Steering clear of the deflationary trap

Advanced economies are facing the triple threat of low growth, low inflation, and high public debt. This combination of factors could create downward spirals where economic activity and prices decline—leading to increases in the ratio of debt to GDP—and further, self-defeating attempts to reduce debt. To avert falling into such a deflationary trap, countries should do more to bolster domestic demand and fiscal policy has an important role to play. This is especially the case in countries where interest rates are already close to zero and hence monetary policy cannot be expected to provide a big boost to activity.

The focus should be on fiscal measures that boost both short- and medium-term growth (such as infrastructure investment) and policy actions that support the implementation of structural reforms. In countries where fiscal consolidation cannot be postponed, its pace and composition should be calibrated to reduce the short-term drag on economic activity. Should a significant decline in global growth materialize, a swift and bold multilateral policy response would be needed...