[Exclusive] Despite Snowballing Fiscal Deficit, Zero Warnings Issued... "Local Governments' Sound Fiscal Indicators Are Ineffective"

Introduced Local Government Sound Fiscal Monitoring Indicators in 2011
Only Zero Local Governments with Integrated Fiscal Deficit Ratio Warning
"Indicator Standards Overestimated, Full Review Needed"
After Supplementing Indicators, Dozens of Local Governments' Finances 'Shaken'

Regulations established to monitor the fiscal soundness of local governments have been found to be ineffective for 10 years since their introduction. When fiscal soundness is compromised, measures such as 'caution' or 'crisis' should be imposed, but due to excessively lax regulations, the majority of local governments were assessed as sound. After fiscal experts strengthened the regulations to an appropriate level, it was revealed that the finances of dozens of local governments were actually at risk. The government has identified loopholes in the system and plans to develop improvement measures.

According to the report titled “Study on Enhancing the Effectiveness of the Local Fiscal Crisis Management System,” obtained by Asia Economy on the 22nd, there are loopholes in the local sound fiscal devices managed by the Ministry of the Interior and Safety. The report was prepared by the Korean Local Finance Association and submitted to Minister Lee Sang-min of the Ministry of the Interior and Safety last September.

The government manages the fiscal levels of local governments under the Local Finance Act. The indicators used for supervision include six metrics: integrated fiscal balance deficit ratio, debt ratio relative to budget, debt repayment ratio, local tax collection rate, treasury balance ratio, and public enterprise debt ratio. If certain criteria are not met, warnings are issued after review. If fiscal soundness and efficiency decline, the local government is designated as a ‘Fiscal Caution Entity,’ and if fiscal risk is severe, it is designated as a ‘Fiscal Crisis Entity.’

Since the system was introduced in 2011, no local government has received a warning based on the integrated fiscal balance deficit ratio through 2021. If the ratio is between 25% and less than 30%, a caution should be issued, and if it is 30% or higher, crisis measures should be taken, but the majority of local governments fell below 10%. In fact, except for 2020, the national average recorded a negative value, indicating that the regulatory effect was practically non-functional.

The other indicators show similar trends. For the debt ratio relative to budget, no local government has been cautioned since the first quarter of 2017. The last crisis designation was in 2013. Only one local government was cautioned in 2013 for both the debt repayment ratio and treasury balance ratio, and no local government has been cautioned for the public enterprise debt ratio since 2013.

After Supplementing Indicators, Dozens of Local Governments Found Financially At Risk... "Alternative Review Stage"

The report pointed out, “A comprehensive review of the indicators appears necessary,” and “It was found that the possibility of local governments being designated at the caution stage under the current indicators is almost none.” The core of the report is that because the indicator standards are set too high, maintaining the current level will make it difficult to promote sound fiscal management in local governments in the future.

When the research team examined local finances using new indicators such as mandatory expenditures, dozens of local governments were found to be in caution or crisis. Based on the ratio of social welfare expenses to own revenue, from 2012 to 2022, 67 local governments were in caution and 26 in crisis. For the ratio of current expenditures to own revenue, 111 were in caution and 26 in crisis. For the ratio of mandatory expenditures to available expenditures, 21 were in caution and 16 in crisis.

Recently, local governments have been expanding their finances by resuming local bond issuance. This is due to a sharp decline in local tax revenues caused by the real estate market slump and a reduction in grants from the central government. Jeollabuk-do plans to issue 300 billion KRW in local bonds for the first time in 11 years since 2013, and Incheon City intends to increase its local bond issuance from 16.5 billion KRW this year to 260.5 billion KRW next year. Local government debt was only about 24.5 trillion KRW in 2018 but surged to 36.6 trillion KRW in 2021 amid the COVID-19 pandemic.

The government has recognized the system’s loopholes and has begun working on measures such as tightening indicator standards or adding supplementary indicators. Strengthening local government fiscal capacity is one of the 120 major tasks of the Yoon Suk-yeol administration, but it is judged to be practically difficult to achieve under the current system.

An official from the relevant ministries said, “We are at the stage of listening to experts’ opinions and reviewing alternatives,” adding, “We need to examine what effects stricter crisis management would have and how local governments can accept institutional changes.”

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