Typical street scene in Santa Ana, El Salvador. (Photo: iStock)
IMF Survey: Belgium Needs to Press Ahead With Structural Reforms
April 2, 2008
- Population projected to age quickly, with sizable impact on public finances
- Regions need to become fully accountable for the social security system
- Reforms, especially in labor market, key to keeping high living standards
Belgium's population is projected to age quickly, with significant repercussions for public finances.
People in Brussels, Belgium, where public supports significant pre-funding of rise in aging-related spending (photo: Jacques Collet /AFP/Getty)
ANNUAL ECONOMIC HEALTH CHECK
The current conjuncture presents significant challenges to policymaking. Headwinds from a more testing international environment are strong and they are clouding Belgium's near-term growth outlook.
The spike in oil prices, euro appreciation, spillovers from the global financial turmoil, and slowdown in partner countries are exerting a drag on activity. However, the window to tackle the implications of population aging—through fiscal pre-funding and higher growth—is closing rapidly.
Unfavorable demographics
Belgium's population is projected to age quickly, with significant repercussions for public finances (see Chart 1). There is broad public support for a significant pre-funding of the rise in aging-related spending, reflecting concerns about intergenerational fairness and the need to avoid tax increases or drastic spending cuts in the future.
The High Finance Council (HFC)—a council of independent experts monitoring fiscal policy—designed a strategy to deal with aging based on gradually building primary surpluses and using the savings from declining public debt to finance part of the costs of aging. The corresponding fiscal medium-term consolidation path was planned to begin in 2007 (see Chart 2).
However, actual fiscal consolidation has slipped below the HFC-recommended path, in part due to the hiatus in policy making since April 2007 (see box). Therefore, future surpluses over the medium term will need to make up for this slippage and set in motion sufficient adjustment to deliver the HFC-recommended budget surplus of 1.1 percent of GDP by 2011, consistent with a primary structural surplus of close to 4½ percent of GDP.
Complex political environment
In the June 2007 federal elections, voters rejected the outgoing left-right coalition and put the center Christian Democrats in a commanding position to form a new coalition, but disagreements on reforms of fiscal federalism arrangements led to a six-month political impasse. On December 21, 2007, a five-party government under interim Prime Minister Guy Verhofstadt was formed, putting an end to the political strife. Its main tasks included setting the budget for 2008 and setting the transition for the broad-based coalition government led by Prime Minister Yves Leterme, starting on March 21, 2008. However, serious tensions remain within the coalition, especially surrounding constitutional reforms, and the policy agenda is already being influenced by the perspective of the regional elections of 2009.
Regions need to chip in.
Fiscal consolidation requires an effort from all levels of government. Regions and communities will need to contribute more than in earlier budgets. Sustaining a surplus of at least 0.3 percent of GDP, as was achieved in 2007, seems feasible. Such an objective is justified because commitments to future spending have increased under public-private partnerships, and the resolution of imbalances in the fiscal federalism arrangements will require devolution of competencies and associated spending to the regions without a proportional transfer of revenues.
Fiscal devolution
The current fiscal federalism arrangements have led to widening vertical imbalances between the federal institutions (federal government and social security, the so-called "Entity I") and regional and local governments (the so-called "Entity II,") with entity I having to bear most of the aging-related costs. Resolving vertical imbalances will require shifting more of the burden of fiscal consolidation from federal to regional entities.
Regions need to become fully accountable for the social security system. Besides, strengthening the accountability of municipalities for their budgetary decisions is also desirable. In addition, horizontal imbalances within regions—resulting from regional income and growth differentials—raise solidarity, equity, and incentive issues.
How to resolve these imbalances will require a broad national consensus but it is essential that any new agreements need to be neutral from a consolidated budget perspective, provide incentives for regions to work toward narrowing income differences, and be fully transparent about intergovernmental solidarity mechanisms.
Further devolution of competencies should be accompanied by strengthened accountability and stronger coordination among federal and subfederal entities of both budgetary and other economic policies. For this purpose, fiscal institutions, such as the High Finance Council and the internal stability pact, may need to be strengthened.
Labor reforms
In the context of sharp price increases, widespread partial indexation will boost wages in the near term. While largely shielding purchasing power, indexation mechanisms require continued wage discipline—of which there is a good recent track record—to prevent an erosion of competitiveness and second-round effects on inflation.
The recent good pace of job creation can be sustained through combining continued wage moderation with broader reforms of the tax-benefit system, education, training, and retirement regimes. In particular, raising investment in human capital would help maintain high productivity levels while removing inactivity traps and keeping older workers in the labor force would boost employment.
A balanced reform could consist of the phasing out of unemployment benefit in exchange for an increase in payouts during the first few months of unemployment, and the inclusion of all out-of-work benefits and allowances in taxable income, in exchange for a gradual reduction of these benefits when jobs are taken up. Such an approach would reap the synergies between fiscal adjustment and labor market polices.
Comments on this article should be sent to imfsurvey@imf.org