Back Matter
  • 1 https://isni.org/isni/0000000404811396, International Monetary Fund

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1

This paper is a product of a research project on medium– and long–term aspects of fiscal policy in transition economies I did for the European I and II Departments of the International Monetary Fund. Massimo Russo and John Odling–Smee gave me every assistance I needed, including unrestricted access to Fund documents and Departmental staff. Gérard Bélanger was especially supportive (and patient). I would specifically like to mention Michael Deppler, Leslie Lipschitz, Liam Ebrill, Juha Kähkönen, Mark Griffiths, Rachel van Elkan, Emmanuel Zervoudakis, Biswajit Banerjee, Michael Marrese, Russell Kincaid, Craig Beaumont, Max Watson, Reza Moghadam, Daniel Citrin, Henri Lorie, Ashok Lahiri, Emmanuel van der Mensbrugghe, Piroska Nagy, Peter Keller, Patrick Njoroga, Adalbert Knöbl and Jonathan Dunn (I hope I did not commit either a type I or a type II error in this list). Finally, I owe a great debt to the splendid work done by Xiaoning Gong, who put together an essential data base for the project. Kasper Bartholdy made many useful comments on an earlier version. The views and opinions expressed in this paper are those of the author only and are not to be taken to represent the views and opinions of the International Monetary Fund.

2

Running down foreign exchange reserves is counted as a form of foreign borrowing.

3

They are Bulgaria, the Czech Republic, Hungary, Poland, Romania, and the Slovak Republic (for the European I Department) and Estonia, Kazakhstan, the Kyrgyz Republic, Lithuania, the Russian Federation, and Ukraine (for the European II Department).

4

This function can be viewed alternatively as the application of its second role, that of providing financial assistance to individual countries, when the client country is deemed large enough for its troubles to have systemic externalities.

5

There is a concessional or aid element in most Fund lending, as the rates paid on drawings on the Fund are undoubtedly lower than what the drawing country could have expected to pay in the private loan markets, if it had access to these at all.

6

The national government in turn derives its stabilization role from its ability to remove (or at least minimize the incidence and severity of) liquidity, cash–flow or borrowing constraints on private sector spending, through the use of taxes, transfer payments, government borrowing and monetary financing.

7

and possibly of other public sector banks and financial institutions (such as general or sectoral development banks)

8

From the point of view of the measurement of the financial deficit of the central bank, the reclassification of quasi–fiscal transactions into their subsidy and tax equivalents will often merely shuffle items from the ‘net interest paid’ column to the ‘primary deficit’ column, without this affecting the magnitude of the financial deficit. This is the case e.g., when central bank lending at below market rates of interest is converted into and recorded as central bank lending at imputed market interest rates (reducing ‘net interest paid’) combined with an explicit interest subsidy (raising the primary deficit).

9

When markets are incomplete, not only do the present discounted value of these net resource transfers matter, but also their timing.

10

An example in an American context would be “borrowed reserves”, which are claims by the central bank on commercial banks.

11

I elaborate on this in Section III.B below.

12
Let S¯ be the conventionally defined primary surplus as a fraction of GDP, then the adjusted primary surplus as a fraction of GDP, s, is given by
St=S¯t+((1+it(1+it*)(1+t)(1+πt)(1+gt))bt1*
where i is the domestic nominal interest rate i* is the foreign nominal interest rate, ∈ is the proportional rate of depreciation of the nominal exchange rate and b* is the stock of net foreign liabilities as a fraction of GDP.
13
Let d¯ be the conventionally defined financial deficit as a fraction of GDP, then the adjusted financial deficit, d, is given by
dt=d¯t+εt(1+πt)(1+gt)bt1*
14

The equality would be exact in a continuous time representation of the debt–GDP dynamics.

15

The equality would be exact in a continuous time representation of the debt–GDP dynamics.

16
Denote the required N–period primary surplus–GDP ratio at time t by SRN(bt1bt1+N) and the actual N–period seigniorage–GDP ratio by σAN. Note that,
σAN[j=tt1+Ni=tj(1+gi1+ri)]1j=tt1+Ni=tj(1+gi1+ri) σj
The required N–Period primary surplus–GDP ratio (for N ≥ 1) is given by
SRN(bt1bt1+N)[j=tt1+Ni=tj(1+gi1+ri)]1[bt1i=tt1+N(1+gi1+ri) bt1+N]σAN
Let the actual N–period primary surplus–GDP ratio be denoted SAN
SAN[j=tt1+Ni=tj(1+gi1+ri)]1j=tt1+Ni=tj(1+gi1+ri) sj
The N–period primary gap, denoted GAPN, is given by :
GAPN(bt1bt1+N)SRN(bt1bt1+N)SAN
17
GAP1(0) is the excess of the primary surplus that would just stabilize the debt–GDP ratio in period t over the primary surplus planned or expected for period t. This is equal to
GAP1(0)(rtgt1+gt) bt1σtst
18
Denoting the long–run real rate of interest by r and the long–run growth rate of real GDP by g, the solvency gap is formally given by
GAP(rg1+g) bt1σAsA

Here σA denotes the permanent planned or expected seigniorage–GDP ratio and SA denotes the permanent planned or expected primary surplus–GDP ratio.

19
The myopic permanent primary gap, MGAP, is defined as follows:
MGAP=(rg1+g) bt1σtst
20
β=β(1+r)+δ(1+γ1+π*)
The rate of inflation that maximizes steady–state seigniorage is
πmax=1βg1+g
and the maximum level of steady–state seigniorage is
σmax=(1+gβ)eαβ(1β+11+g)
21

Recent insights into the optimal use of distortionary taxes on the returns from durable (capital) assets, due to Chamley [1986] (see also Lucas [1990], Zhu [1992], and Roubini and Milesi–Ferretti [1994]) imply that, at least in some of the standard neoclassical models, the Friedman rule for the optimal quantity of money (the nominal rate of interest should be zero and satiation with real money balances should occur) still applies despite the fact that there are no non–distortionary tax instruments available for financing public expenditure (see Buiter [1995a]).

22

net of the value of its external assets. Obvious corrections must be made if the interest rate on the central bank’s banks interest–bearing liabilities differs from the interest rate on international reserves, when both are expressed in a common currency.

23

The effect applies equally when the delay in payment is limited to the legally permitted grace period and when the tax payments are technically in arrears.

24

To the extent that the Fischer hypothesis does not hold and higher anticipated inflation reduces the real rate of interest, the real value of the debt is eroded even by higher anticipated inflation.

25

The “need” for seigniorage cannot be inferred accurately from the government deficit–GDP ratio, as this includes nominal interest payments which will be inflated (in every sense of the word) by a high rate of inflation. An inflation– and real growth–corrected deficit–GDP ratio provides a better guide to the magnitude of the seigniorage required in the long run (as a proportion of GDP).

26

Van Aarle and Budina do not include real output or any other “scale variable” as an argument in their base money demand functions. I interpret their equation as if it had a unitary elasticity of real money demand with respect to real output.

27

I ignore the real growth rate terms in the expressions for the long–run seigniorage maximizing inflation rate and the long–run maximal seigniorage–GDP ratio in the two equations given in footnote 33. Van Aarle and Budina have the logarithm of real money balances as the dependent variable in their money demand equations and do not include real GDP or some other scale variable as a regressor.

28

When the current advanced OECD countries had the levels of per capita income achieved now by the advanced transition economies, their public spending shares were considerably below those achieved currently by the advanced transition economies.

29

Taxing the profits of (partly) foreign–owned enterprises will of course be subject to the usual transfer–pricing problems.

30

In this section no attention is paid to the distinction between ex post and ex ante rates of return, as this is not relevant to the point made. I do not recommend this as a general rule of thumb.

31

“Augmented” means inclusive of quasi–fiscal transactions.

32

Indeed the VAT operated in the OECD countries too has been shown to have high administrative costs (to the tax department) and high compliance costs for businesses trying to carry out the obligations of calculating and paying the tax (see e.g., Cnossen [1994]).

33

Estonia’s tax reform of 1992 and 1993 contained strong elements of tax simplification, by reducing exemptions, and by simplifying rates. In 1994 the personal income tax changed to a flat rate of 26 percent (the same as the corporate income tax rate), with an exemption (or allowance) at the lower end.

Aspects of Fiscal Performance in Some Transition Economies Under Fund-Supported Programs
Author: Mr. Willem H. Buiter