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Public finance and development: top things to read in November 2021

Written by Tom Hart

Expert Comment

See all blogs in our public finance and development series.

There have been two major events since our last round-up: the International Monetary Fund (IMF) and World Bank annual meetings and the COP26 climate summit in Glasgow. These have highlighted both the medium-term fiscal challenges countries face in the recovery from Covid-19, and the longer-term challenge of transitioning to a green economy and adapting to a hotter climate.

Debt and the response to Covid-19

The IMF’s Fiscal Monitor highlights the challenges of the great vaccine divide (the inequities in access to vaccines by income level) and the great financing divide (the ability of governments to borrow to respond to the economic and health crisis). The result is that while advanced economies are projected to recover to their pre-Covid growth path, and spending and revenues will gradually approach the pre-Covid path, low-income countries are projected to suffer a persistent fall in growth relative to their pre-Covid forecasts, together with correspondingly lower revenues and spending.

The ability to issue debt at favourable terms is an important determinant of these economic and fiscal prospects. The Fiscal Monitor highlights the importance of the credibility of fiscal frameworks for access to financial markets and argues that ‘fiscal responsibility pays off’.

But another important issue is the ability of countries to negotiate fair and balanced contracts with creditors. This has grown in significance over the last decade as there has been a major change in the composition of public debt held by many lower-income countries, away from official creditors such as multilateral development banks and towards the private sector and non-Paris Club bilateral creditors. Elevated debt levels and vulnerabilities, as well as the case-by-case approach currently being adopted by the Common Framework for debt treatment beyond the Debt Service Suspension Initiative (DSSI), mean that countries need to able to negotiate effectively.

ODI and CABRI recently brought together African public debt managers to share their experiences in negotiating with different creditor groups, highlight common pitfalls and identify practical steps through which African governments can improve negotiation outcomes. The event emphasised that all the provisions in a debt contract, even those based on common market practice, are open to negotiation and should not be automatically accepted in the form presented by the creditor. Practical examples [PDF] were given on how certain clauses could be tweaked for the benefit of the debtor government. A second key message was that when it comes to negotiating with China, it is critical to recognise that China is not a homogenous entity but is made up of different lending institutions facing different incentive structures and rules. My colleague Yunnan Chen’s recent work [PDF] and research on this is a must-read for anyone seeking to understand the intricacies of the various Chinese lending institutions.

For more on debt in Africa, ODI alumnus Greg Smith is presenting his new book on Africa’s debt, Where Credit is Due: How Africa’s Debt Can Be a Benefit, Not a Burden, at the Center for Global Development (CGD) on 3rd December.

Green public finance

Fiscal issues have been at the heart of the COP26 summit. Martin Sandbu notes ‘the imperceptible approach of global carbon pricing’ including moves towards a carbon border adjustment mechanism (CBAM), or tariffs designed to price the carbon content of imported goods the same as the carbon emitted in domestic production. In short, a CBAM is a carbon price for imports, as my colleague Max Mendez-Parra explains. This TavDev blog looks at the opportunities and risks from introducing carbon taxes in lower-income countries, with case studies of Ethiopia and Ghana. The messages on risks are also emphasised in IMF research on managing the political economy of climate change policies. Another TaxDev paper looks at how better designed taxes on motoring (taxes on fuel, vehicle purchase and ownership) can make African countries cleaner, safer and more productive.

Going beyond revenue policies, the IMF has also put out a report on ‘green PFM’, or the climate-sensitive management of public finances. It provides a framework for thinking about how PFM practices support climate and environmental policies, such as incorporating climate policy goals into planning and budgeting, keeping track of climate-related spending, ensuring budget and spending processes have the flexibility to respond to climate-change-related emergencies and carrying out climate performance audits, as Bangladesh does. It also highlights the importance of coordinating with state-owned and subnational governments, who also need to incorporate climate policy objectives, and report regularly on their performance against them. There is also a companion report, Fiscal policies to address climate change in Asia and the Pacific.

A World Bank paper explores the role subnational governments can play in combatting climate change and how the key features of fiscal decentralisation (expenditure and revenue assignments, inter-governmental fiscal transfers, and borrowing) can be adapted to support them to do this.

Improving spending on education and health

Staying with the theme of decentralisation, the World Bank has also recently published on the role of inter-governmental fiscal transfers in improving education outcomes. As the report points out, this is a crucial issue as the majority of the world’s children live in countries where local governments are responsible for providing basic education, and are typically dependent on transfers from central government to fund this. Drawing on case studies from a diverse set of countries (Brazil, Bulgaria, China, Colombia, Indonesia, Sudan and Uganda), the report develops a set of principles for improving the design and implementation of education transfers to improve education outcomes, reduce spending inequalities between regions, and improve spending efficiency.

A recent review of 70 health public expenditure reviews caried out in the 2000s has found that equity- and poverty-focused issues were the most frequent policy challenge identified. As health is also a frequently decentralised function, many of the lessons of the education report might also be useful for the health sector. Health sector-wide approaches helped countries allocate aid more in line with their own – rather than donor – priorities, leading to lower fungibility of health aid, and had positive effects on reducing infant mortality.

Staying on the topic of health, last week the WHO held its biannual meeting on Fiscal Space, Public Financial Management and Health Financing. I look forward to the conference recordings and report coming out, but in the meantime the conference materials provide much food for thought across issues such as how PFM systems have (and should) adapt to the challenge of Covid-19, budget execution in the health system, and how to best get funds to frontline health facilities.

Legislative accountability

The role of the legislature in shaping the budget is frequently underplayed, perhaps from the perception that legislatures are dominated by the executive in many lower-income countries. This is an interesting case study of an instance of improved legislative scrutiny of the health budget in Uganda in 2012, showing that improved scrutiny is possible even in countries with a strong executive and political system dominated by patronage. It argues that civil society engagement and female members of parliament were crucial to the process.

Understanding the global tax deal

The global deal on a 15% minimum corporate tax rate comes against the background of significant falls in corporate tax rates over the last three decades, and low-income countries relying on corporate taxes for a greater proportion of their overall revenues than high-income countries. These two facts have sparked contrasting reactions. G7 finance ministers hailed it as historic. Richard Murphy argues that it deserves to be celebrated as major progress despite the rate being too low and it not giving enough revenues to lower-income countries. Eurodad has warned it may lead to a ‘race to the minimum’ and the Tax Justice Network argues that it is an unfair deal and shows it is time for tax negotiations to be moved to the United Nations. The International Centre for Tax and Development has collected a nice round-up of different views from a number of countries. It is notable that Kenya, Nigeria, Pakistan and Sri Lanka did not sign.

A new ODI working paper looks at why a global deal was needed, how the reforms are likely to work in practice and what the potential impacts on lower-income countries will be. It argues that the reforms are significant but do not fundamentally change the international tax system, as other proposals that had been put forward would have done. Whilst the revenue impacts are uncertain, they are likely to be relatively modest, and the OECD’s estimates of the benefits to lower-income countries of multinationals reducing tax avoidance are likely to be too high. Efforts by lower-income countries to build capacity to tackle international tax avoidance will need to continue.