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Comments by Professor Lars Calmfors: Economic Policy Council's 2019 Report

Finland's Economic Policy Council published their annual report in January 29, 2020. In the report, the Council evaluates the government’s fiscal policy and its employment-promoting policies. As in the previous reports, in addition to fiscal policy, the Council concentrates on fiscal sustainability and on the connections between social security and employment.

Lars Calmfors, Professor of International Economics at the IIES in Stockholm, gave his comments on the 2019 report. Professor Calmfors gave this presentation in the report launch seminar, in Helsinki, on 29 January 2020.

For more information, please see: https://www.talouspolitiikanarviointineuvosto.fi/en/home/

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Comments by Professor Lars Calmfors: Economic Policy Council's 2019 Report

  1. 1. Comments on the Economic Policy Council’s 2019 Report Lars Calmfors Helsinki 29 January 2020
  2. 2. Outline 1. The Finnish Economic Council 2. Finland’s economic-policy problems in a Nordic perspective 3. Fiscal policy in a medium-term perspective 4. The relationship between employment and fiscal targets 5. The council’s analysis of long-run fiscal sustainability
  3. 3. Economic Policy Council in Finland • Broad remit – not only fiscal policy • High standards - independence - qualification requirements - appointment procedures • But insufficient resources: perhaps pool resources of EPC and NAOF • Reports of high quality • Valuable input into the economic-policy discussion • But uneven level of abstraction in reports - some parts are not so accessible to a wider audience - advice: separate better between parts for a wider audience and parts for specialists
  4. 4. General government fiscal balance, percent of GDP -12 -10 -8 -6 -4 -2 0 2 4 6 8 19901991199219931994199519961997199819992000200120022003200420052006200720082009201020112012201320142015201620172018 Denmark Finland Sweden
  5. 5. Maastricht debt, percent of GDP 0 10 20 30 40 50 60 70 80 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Denmark Finland Sweden
  6. 6. General government net financial wealth, percent of GDP -60 -40 -20 0 20 40 60 80 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Denmark Finland Finland, before revision Sweden
  7. 7. S2 sustainability indicator Denmark -1 – -2 Finland 3 – 5 Sweden -1 – 1
  8. 8. 0 10 20 30 40 50 60 70 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 Figure 3b: Elderly dependency ratio, 2015 to 2100 (65 and older as share of 15 to 64) Iceland Norway Sweden Finland Denmark
  9. 9. Fiscal targets and forecasts Targets • Medium-term objective (MTO): Maximum structural deficit of 0.5% of GDP • Government target: zero (nominal) fiscal balance in 2023 Forecasts • Structural deficit of 1.3% of GDP in 2023 • Nominal fiscal deficit of 1.2% of GDP in 2023 • Expenditure on fighter jets not included
  10. 10. Discrepancy between forecasts and targets • Government expenditure increases • The goverment hopes to cover the discrepancy through higher revenues (and lower expenditure) from employment increases • The council is concerned that EU rules will be violated • Wrong timing from a stabilisation policy point of view
  11. 11. Negative interest-growth differential • Debt can ”pay for itself” • Debt-to-GDP ratio can fall also with primary deficits (if not too large) • Argument has some merit in Denmark and Sweden with low debt ratios • Dangerous argument for Finland • Bond yields rise with debt above threshold • Risk of snowball effect • Fiscal fatigue threshold?
  12. 12. Other aspects of fiscal policy • Expenditure increases are financed by sales of financial assets - Financial-asset sales and government borrowing affect net financial wealth in identical ways • The future-oriented investment programme - All is not investment • Escape clause for spending limit (expenditure ceiling) - exceptional situation
  13. 13. The government’s labour-market targets • Target for employment rate of 75% in 2023 • Target for unemployment rate of 4.8% in 2023 • Key element in the government’s plan to meet the fiscal targets
  14. 14. Fiscal impact of higher employment according to the council • Back-of-envelope calculation: 1 percentage point higher employment rate improves primary balance by 0.8% of GDP • Microsimulation: 1 percentage point higher employment rate improves primary balance by 0.4% of GDP • Sustainability-gap calculation: 1 percentage point higher employment rate improves sustainability indicator by 0.4% of GDP
  15. 15. Problems with calculations •Increase in employment is not an exogenous event •Instead, it is an endogenous response to policy
  16. 16. Differential fiscal effects depending on employment policy • Less generous benefits - lower unemployment benefits - more restricted access to unemployment benefits - more restricted access to early retirement - higher retirement age • Earned income tax credit - Sweden: only 20-30% of static revenue loss offset by dynamic gains • Employment subsidy - uncertainty regarding crowding-out effects on non-subsidised employ- ment
  17. 17. Fiscal policy and employment policy • Expenditure increases are conditioned on employment policy - conditioning on ex-ante assessment of effects according to council • Problems with assessment - definition of employment-policy measure - does employment change depend on these measures or on something else? - fiscal impact of employment measure? • Unnecessary complications - all that is required is comparisons of good fiscal forecasts with fiscal targets
  18. 18. Fertility and the sustainability indicator • Alternative scenario with fertility rate of 1.2 instead of 1.45 • Small effect (0.3% of GDP) with time horizon till 2070
  19. 19. Fertility and the sustainability indicator • Alternative scenario with fertility rate of 1.2 instead of 1.45 • Small effect (0.3% of GDP) with time horizon till 2070 • Impact is doubled (to 0.6% of GDP) if time horizon is lengthened to 2085 - full account of effect of smaller labour force • But time horizon should be lengthened even longer - to take into account that number of pensioners ultimately fall, too • Likely zero effect in the very long run • Cf analysis for Norway by Statistics Norway
  20. 20. Main conclusions 1. High-quality work by the Economic Policy Council - but analysis of link between employment policy and fiscal policy could be sharpened 2. Finland has a large fiscal sustainability problem - current policy does not appear well designed to address this problem Caveat: This is an outsider’s view But: Hard for an outsider to come to any other conclusion

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