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    AIReF English

    “Our mission is to guarantee effective compliance of the financial sustainability principle by the General Goverment”

    Cristina Herrero alerts of the high level of debt in a context of rising interest rates, inflation and lower growth

    • The President of the Independent Authority for Fiscal Responsibility points to the need to design a medium-term strategy in order to make sustainability a lever for recovery
    • She highlights the role of Independent Fiscal Institutions (IFIs), such as AIReF, as a key element in safeguarding sustainability, which is in the spotlight despite the suspension of fiscal rules
    • She states that the environment is complicated for ensuring stability, with revisions to growth and inflation forecasts and risks that are already materialising
    • She says that the fiscal forecasts show a position of fragility and vulnerability that may prove insufficient to stabilise public debt
    • She notes that debt remains high and could return to an upward path from 2025 in a no-policy-change scenario
    • She considers that the medium-term fiscal strategy should be anchored in a reform of the European and national fiscal framework

    The President of the Independent Authority for Fiscal Responsibility (AIReF), Cristina Herrero, participated today in the Seminar organised by the Association of Economic Information Journalists (Spanish acronym: APIE) at Menéndez Pelayo University, and warned of the high level of debt that Spain is accumulating in a context of rising rates, high inflation and lower growth. In this regard, she highlighted the need to design a credible and realistic medium-term fiscal strategy in order to make sustainability a lever for recovery.

    Cristina Herrero began her speech by highlighting the importance of recognising that sustainability is fundamental to recovery, and of not associating it only with adjustments. Sustainability is linked to a medium-term orientation and is not a quantitative debt target, but a strategy that involves planning and evaluating. In addition, it should be a lever for recovery as persistently high levels of debt over prolonged periods can be detrimental to economic growth and a source of vulnerability for the economy. And in a context of rising interest rates, they have a high opportunity cost. In her opinion, the end of the ECB’s asset purchase programme implies increased financing in the markets, which makes it necessary to build confidence and credibility with regard to the state of public finances.

    Cristina Herrero highlighted the role of Independent Fiscal Institutions (IFIs), such as AIReF, as a key element in safeguarding sustainability. In Spain, the economic and financial crisis caused an increase in debt of 65 points of GDP between 2007 and 2014, taking the ratio to over 100%. This situation led to the creation of AIReF in 2013 with the mandate to ensure the sustainability of public finances.

    AIReF, like the other IFIs, is subject to the requirements of the EU Regulation relating to independence, governance and transparency. It is also a new institution in Spain due to its specific institutional features. It has one of the broadest and most granular mandates in the EU and is a single-person body with the highest standards of appointment. It has unique funding from a supervision fee and the application of public prices to the studies it carries out and has various safeguards to ensure its independence, such as a system of appointment that is disconnected from the political cycle (six-year non-renewable term), a policy of incompatibility and the application of the principles of transparency and accountability that, together with independence, make up the institution’s guiding principles. In addition, it is a body with legal force, since it was created under an Organic Law and it issues recommendations in its reports, which are not binding, but subject to the comply or explain principle.

    AIReF is therefore a body with its own characteristics. Since it is not a regulator, it has no decision-making powers or sanctioning capacity, it has functions limited to the field of economic and budgetary analysis and its independence goes together with the highest standards of transparency and accountability.

    Sustainability at the heart of the debate

    The President of AIReF also referred to the current economic context and noted that the pandemic has led to a new increase in debt of 21 points in two years, in a context of an economic contraction larger than the average for the euro area. The situation has made it necessary to suspend the fiscal framework, while maintaining supervision by the IFIs. Although the rules are still suspended this year, sustainability has been part of the ECOFIN guidelines since the start of the pandemic and for 2023 they already incorporate certain quantitative elements. Brussels recommends that countries with the highest debt should already have a prudent fiscal policy in 2023, with growth in current spending with domestic financing lower than potential GDP. Beyond 2023, it recommends credible and gradual debt reduction paths.

    In this context, expectations for recovery have been revised downwards. In the autumn, economic conditions augured high growth, but as early as January 2022, AIReF revised growth expectations downwards and in its Report on the Initial Budgets of the General Government published in April 2022, it made a new revision. In parallel, inflation expectations have been revised upwards. Although inflation is highly conditioned by the behaviour of energy raw materials and food, it is transferred to the rest of the shopping basket. For example, in Spain, over 50% of the non-food and non-energy basket has year-on-year rates of change equal to or greater than 3%.

    In addition, the outlook is subject to higher than usual risks from the pressures on value chains and risks in the food sector; the persistence of inflation, which is triggering further revisions in the economic and monetary policy outlook; the second-round effects, since there are aspects hinting at the possibility of a scenario with persistent wage inflation; and the uncertainty about the impact of the Recovery, Transformation and Resilience Plan (RTRP).

    Fiscal forecasts

    For their part, fiscal forecasts are being exceeded by reality, with a significant increase in revenue. For 2022, AIReF has a deficit forecast lower than that of the Government. For the other years, AIReF forecasts a smaller reduction in the deficit than the Stability Programme, to reach 3% of GDP in 2024, a level that is maintained in 2025. Although this scenario points to a relatively rapid approach towards the Pact threshold (3% of GDP), AIReF warns that the country’s position is fragile, due to the fact that the projected reduction is only the result of growth and the withdrawal of support measures, the persistence of shocks may require additional measures, estimates for the structural balance suggest a worsening as a consequence of the crisis, inflation may deteriorate the fiscal balance of the medium-term and there is a great deal of uncertainty about fiscal and monetary policy.

    According to AIReF, this situation may prove insufficient to stabilise public debt, which may return to an upward path from 2025. In fact, reducing debt would require a substantial improvement in the primary imbalance. Stabilising the debt ratio at around 100% of GDP in 2040 would require a reduction in the primary balance of at least 0.1 points of GDP per year. Bringing the ratio to 80% of GDP in 2040 would require a further reduction of 0.35 points, achieving a balanced budget in 2035 and keeping interest expenditure contained at around 2.5% of GDP or a primary surplus of 2.5% of GDP.

    Although achieving primary surpluses on a sustained basis is not easy, Cristina Herrero noted that there are specific examples of countries that have managed to achieve it for more than five years, such as Belgium, Ireland, Luxembourg, Italy and the Netherlands.

    However, it is important to bear in mind that the risk of deteriorating financing conditions is already materialising. The tightening of monetary policy is having a major impact on debt yields, which will result in a higher financial burden. Compared with the last report, an increase in the average issuance rate above 100 basis points would raise the implicit rate forecast by 0.3 points (up to 2.3%), the financial burden by 0.4 points of GDP (up to 2.4%) and interest expenditure by more than €12bn in 2025.

    Fiscal strategy

    With this outlook, AIReF has persistently highlighting the medium- and long-term implications, recommending the design of a fiscal strategy anchored to a new national fiscal framework capable of adapting to the country’s needs and challenges. Despite their postponements, there is consensus that the EU and national fiscal frameworks are in need of reform. At a European level, reform must move towards more qualitative and decentralised supervision, while, at a national level, in addition to adapting the EU reform, it is necessary to improve the implications of the decentralised model, without the need to wait for the reform of the European framework.

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