Hankyung Research Institute: "The Key to Success or Failure in Fiscal Rule Operation Is Controlling Total Expenditure Growth"

[Asia Economy Reporter Changhwan Lee] An analysis has emerged that the key to the success or failure of fiscal rules operation lies in 'controlling the increase in total expenditure' and 'managing fiscal deficits.'

The Korea Economic Research Institute (KERI) revealed this through a report titled 'Comparison of Overseas Cases of Fiscal Rules and Domestic Introduction Plans,' commissioned to Professor Jeonghee Lee of the University of Seoul.

Fiscal rules are norms that manage fiscal soundness indicators so that they do not exceed a certain level, and if this standard is exceeded, the country must prepare fiscal consolidation measures. South Korea is currently discussing its introduction.

The South Korean government's draft fiscal rules set the fiscal deficit criterion within -3% of Gross Domestic Product (GDP). This was found to be looser compared to Sweden or Germany. The national debt criterion was set at 60% of GDP, which is an increase from this year's forecast (43.9%), contrasting with Sweden and Germany, which, after introducing fiscal rules, lowered their debt ratios by about 20 percentage points within 4 to 7 years through fiscal consolidation efforts.

In Sweden, in the early 1990s, fiscal deterioration occurred due to excessive welfare costs, economic recession leading to reduced tax revenues, and public fund injections. In response, Sweden implemented strong fiscal consolidation reforms and introduced stringent fiscal rules in the mid-1990s.

They implemented a 'spending cap rule' that set limits on total government spending and pension expenditures for the next three years to prevent government spending from exceeding these limits, and a 'fiscal balance rule' aiming for a general government fiscal surplus of at least 2% of GDP.

These rules effectively controlled indiscriminate government spending expansion and fiscal deficits, leading to an automatic reduction in government debt. General government debt fell from 79.5% of GDP in 1996 to 58.7% in 2000.

Germany also introduced a 'fiscal balance rule' into its constitution in 2009, limiting the federal government's fiscal deficit to within -0.35% of GDP (applied from 2016) and the state governments' deficits to 0% of GDP (from 2020).

Additionally, according to the fiscal rules under the revised EU Stability and Growth Pact in 2011, if government debt exceeds the 60% of GDP threshold, reducing the excess by one-twentieth of the average excess over the past three years is considered compliance with the 'debt brake rule (60%).' Consequently, general government debt decreased from 90.4% of GDP in 2012 to 69.3% last year.

Professor Lee Jeonghee evaluated, "Compared to Germany and Sweden, our government's fiscal rules allow a larger fiscal deficit margin, and the national debt ratio is theoretically designed to permit up to 100% of GDP according to the formula, effectively allowing a higher debt limit."

Professor Lee suggested, "To secure medium- to long-term fiscal soundness, fiscal rules that appropriately control total expenditure or strictly manage fiscal deficits are necessary. Considering the characteristics of Korea's legislative and budget decision-making, combining three fiscal rules?pay-as-you-go principles for mandatory spending, total expenditure limits, and national debt ratio limits?is the most effective."

This content was produced with the assistance of AI translation services.