Updated fiscal survey in light of changes to national accounts
2013 budget performance to date:
Revenues in the budget to date, and tax revenues in particular, are in line with the full year forecast. At the beginning of the year, revenues were below the annual path, and they subsequently accelerated, but overall they are very close to the path. The fact that to date, the deficit from the beginning of the year is below the path consistent with the full year deficit ceiling (4.65 percent of GDP) is the result of expenditure about NIS 7 billion below budget, not of a surge in tax revenues.
The budget from a multiyear perspective and the changes in National Accounts measurement:
- Based on the fiscal rule which dictates the permitted increase in expenditure, the expenditure ceiling is calculated as a product of the average real growth rate over the past 10 years and the ratio between 60 percent and the gross public debt to GDP ratio.
- The average growth rate over the previous 10 years, including concatenation before 2006, to use in calculating the expenditure ceiling for the 2015 budget increased from 4.3 percent to 4.6 percent.
- The changes in the national accounting methodology, according to which GDP is 7 percent greater than according to the previous methodology, reduced the debt to GDP ratio as of the end of 2012 from 73.2 percent to 68.4 percent.
- The significance of those two changes is that the growth rate of the expenditure ceiling derived from the expenditure rule will accelerate in coming years. In 2015, the increase is from 3.5 percent to 4 percent, and in the years following 2015, the increase moderates gradually.
- In order to meet the expenditure ceiling derived from changes in the National Accounts, the government will need to reduce expenditures derived from its commitments by about NIS 3.5 billion in both 2015 and 2016.
- Based on the Research Department’s model, and assuming full performance of budget expenditures and preservation of the tax rates set in law, the forecast deficit in 2014 is 3.0 percent of GDP—precisely in accordance with the deficit target.
- To the extent that the government increases its expenditures in accordance with the rate derived from the expenditure rule ceiling, the deficit is expected to stabilize in 2014–15 and then to increase. This is in contrast to the previous forecast, in which the deficit would remain stable over time.
- In the above scenario, the debt to GDP ratio will increase slowly, and will reach 71 percent of GDP in 2020.
- In order to meet the declining deficit targets, under the above scenario an additional increase in revenues, of about NIS 5.5 billion in 2015 and about NIS 9 billion in 2016, will be required, and/or a reduction of part of the increase in expenditure allowed by the rule. This is in addition to adjustments required in order not to deviate from the expenditure ceiling.
In August, the Central Bureau of Statistics revised its National Accounts data in accordance with a revised methodology of accounting—2008 SNA. As a result, the Israel’s GDP in 2012 was about 7 percent greater than under the previous methodology. In addition, the real growth rate also changed, as a result of new definitions, so that in 2010 the real growth rate was 5.7 percent, compared with 5.0 percent under the old methodology, and in 2012 it was 3.4 percent, as opposed to 3.1 percent.
By definition, these changes have an effect on the size of the fiscal components in Israel when measured as a percentage of GDP. The government deficit in 2012 declined by 0.3 percent of GDP, from 4.2 percent to 3.9 percent, and the gross public debt declined by nearly 5 percentage points of GDP, from 73.2 percent under the old methodology to 68.4 percent under the new methodology. Assuming that growth in the coming 2 years will be in line with the Bank of Israel’s forecast, and based on the budget for 2013–14 which was approved by the Knesset, the deficit in 2014 is expected to be 3.0 percent of GDP, in line with the deficit target set in the budget, compared with an expected 3.2 percent of GDP under the old definition. We note that to date, only a few countries have revised their National Accounts data based on the new methodology, so that it is still not clear how the revision will impact Israel’s international standing.
By law, Israel’s budget framework has been set in recent years based on a fiscal rule, which dictates the permitted growth in expenditure (hereinafter, the “expenditure ceiling”), and based on deficit targets which decline in coming years. The expenditure ceiling is calculated as the product of the average real growth rate over the past 10 years and the ratio of 60 percent to the share of debt in GDP. Thus, the expenditure ceiling calculation is impacted by both the increase in the growth rate and the decline in the debt to GDP ratio, with both effects working toward permitting greater expenditure. In 2015, following the changes in definitions and including concatenation backward for 2003–06 based on the old growth rate, the relevant growth rate for the 2015 budget increased from 4.3 percent to 4.6 percent. This change alone increases the permitted expenditure framework in 2015 by 0.2 percentage of GDP. Together with the decline in the debt to GDP ratio, the permitted increase in expenditure will accelerate from 3.5 percent to 4 percent. It is important to emphasize that despite the increase in the expenditure ceiling, government commitments in 2015 and 2016 still deviate by about 3.5 billion from the new expenditure ceiling.
In the medium term, given the expected growth rate for coming years, if the government will bring its commitments in line with the expenditure framework, the government deficit is projected to increase gradually to 3.5 percent of GDP by 2018, and then to decline slightly (Figure 1). Consequently, the ratio of gross debt to GDP is expected to increase to slightly above 70 percent (Figure 2). Furthermore, if the government does not adjust its commitments to the current permitted expenditure framework, the deficit is forecast to reach 3.9 percent in 2018 and the debt to GDP ratio is expected to increase to 73.5 percent in 2020.
In order to meet the reduced deficit targets which the government has set for coming years (2.5 percent of GDP in 2015 and 2.0 percent of GDP in 2016), given the expected rate of growth for coming years, the government will need to make an additional adjustment, on the expenditure side and/or the revenue side, of a combined NIS 14.5 billion in 2015–16 (NIS 5.5 billion in 2015 and NIS 9 billion in 2016). To the extent that these adjustments are made, they will allow a continued decline in the debt to GDP ratio in coming years.
Figure 1: The expected path of the government deficit in coming years, before and after the CBS revision, while adhering to the expenditure rule and current tax legislation, and deficit targets based on the approved budget (percent of GDP)
Figure 2: The expected path of gross government debt in coming years before and after the CBS revision, while adhering to the expenditure rule and current tax legislation, and the expected path of the debt if the government meets the deficit targets it set (percent of GDP)