Budget 2014: A macro view

This story was first published in The Straits Times on Feb 26, 2014

Most of the attention surrounding Budget 2014 justifiably revolves around Budget initiatives, such as the Pioneer Generation Package, the Productivity and Innovation Credit Plus scheme, and CPF contribution rate increases. But it is also instructive to think about the Budget as a whole, and consider the size of the Budget balance, the level of government spending, and what they mean for public finance in the near future.

Here is a look at three macro- level issues surrounding Budget 2014.

Global economic outlook

LAST Friday, the Finance Minister unveiled Budget 2014, calling for an overall Budget deficit of $1.2 billion in Financial Year (FY) 2014. This is based on the Ministry of Trade and Industry's economic growth forecast of 2 percent to 4 per cent. The deficit is modest, being only about 0.3 per cent of expected 2014 GDP, and is sized to maintain the low resident unemployment (2.8 per cent) and subdued consumer price inflation (2.4 per cent) of 2013.

For an open economy such as Singapore's, the world economic climate matters greatly for growth estimates.

The International Monetary Fund (IMF) has projected that the world economy will grow at 3.75 per cent in 2014, up from 3.0 per cent last year. This improvement will be mainly driven by economic recovery in advanced economies of the United States and the euro zone. That appears to augur well for the Singapore economy.

There are, however, considerable downside risks. In January, many emerging economies were rocked by large and rapid financial outflows. Countries as geographically dispersed as Turkey, South Africa and Argentina have seen the value of their currencies battered, prompting memories of contagion during the Asian financial crisis of 1997-8.

Nearer home, China's growth is based too heavily on investment and credit expansion. Of particular concern is the presence of a large, opaque and increasingly shaky "shadow banking" sector that exhibits high leverage and interconnectedness.

India could also return a weaker coalition government after its May general election, thereby slowing the pace of economic restructuring.

As the Finance Minister acknowledged, "the global outlook for 2014 is uncertain". A modest deficit for FY2014 can thus be seen as building a fiscal buffer. By not draining current reserves, accumulated from recent Budget surpluses, the Government is in a strong position to run fiscal stimulus in reaction to the downside risks, should they materialise.

Fiscal sustainability

THE highlight of Budget 2014 is the Pioneer Generation Package. But what makes it even more interesting is the way the Government has chosen to pay for it.

Because it is designed to give lifelong help to our pioneers for their health-care expenses, including generous subsidies for MediShield Life premiums, most of the associated expenditures will happen in future years.

Indeed, MediShield Life itself is likely to be introduced only at the end of 2015. Yet, the Government has decided to fund the package entirely through Budget 2014, placing $8 billion into a Pioneer Generation Fund for this purpose.

That the Government has decided to use Budget 2014 monies alone for the Pioneer Generation Fund reflects the belief that this is the fiscally prudent decision. It frees up future Budgets for other needs.

Indeed, other needs are arriving. Construction work for the $8 billion North South Expressway and the $18 billion MRT Thomson Line will start in FY2014, but most of the work will happen in FY2015 and beyond.

Government expenditures and transfers (excluding injections into endowment and trust funds) have already been growing steadily, from 13.4 per cent of GDP in FY2010 to approximately 17.5 per cent projected for FY2014. This trend is set to continue as both infrastructure spending and social spending expand with population increase and ageing.

The Government is able to fund the Pioneer Generation Package without raising rates for broad-based taxes, such as personal income tax. This is because it has drawn on an $8.1 billion Net Investment Returns Contribution (NIRC).

The NIRC comprises up to 50 per cent of the net investment returns on the net assets managed by GIC and the Monetary Authority of Singapore, and up to 50 per cent of the investment income from the remaining assets (which include Temasek Holdings).

First used in FY2009, the NIRC has now become an indispensable part of the Government's finances.

The Government does not disclose the size of net investment returns on its reserves, nor does it disclose the percentage of net investment returns it draws to form the NIRC. But the NIRC is constitutionally limited to be no more than 50 per cent of net investment returns.

This latter provision is a prudent built-in safeguard to ensure that the reserves will continue to grow, but it also means that the NIRC has limits to its expansion. Increases in government expenditures and transfers in future years may eventually have to be funded by higher taxation on income and goods.

Budget balances improve over time

DURING the Budget 2014 speech, the Finance Minister also presented the fiscal position of FY2013. It turns out that last year's projected $2.4 billion overall surplus was revised upward to $3.9 billion.

This must have been a surprise to economists. Given that economic growth of 4.1 per cent in 2013 well exceeded the official growth forecast of 1 to 3 per cent, many economists had predicted a far larger surplus, with estimates going as high as $6.5 billion.

There is still some hope for the bullish predictions to be realised. This is because the $3.9 billion figure is itself an estimate. The financial year ends on March 31, and final data on spending and receipts are not yet available.

We will only know how large the actual FY2013 surplus is when Budget 2015 is unveiled next year. There are grounds to suggest that it could well be considerably larger than $3.9 billion.

Let me illustrate my point with FY2012. When Budget 2012 was unveiled two years ago, the Government's initial estimate was that it would run a $1.27 billion overall surplus. When FY2012 was reviewed a year later, the Government revised its estimated overall surplus to $3.86 billion. In last Friday's review of FY2013 fiscal position, the actual FY2012 overall surplus was revealed to be $5.82 billion.

FY2012 was not an anomaly. In each of the three financial years spanning 2010 to 2012, the Government had underestimated revenues and overestimated expenses. Revised estimates for the overall Budget balance beat initial estimates by an average of $2.5 billion. In turn, actual balances exceeded revised estimates by an average of $1.6 billion.

These upward revisions can be explained largely by factors that are specific to each year, which may not be repeated in other years. FY2010 saw the economy growing at the stellar rate of 14.5 per cent as it recovered from the 2009 recession. Unanticipated run-ups of revenues from stamp duty and vehicle quota premiums occurred in FY2011 and FY2012.

Nonetheless, institutional features also contribute to systematically positive Budget revisions. For example, ministries often do not use their full budget allocations, preferring to keep internal contingency funds. Fiscal prudence does not just reside at the Cabinet level, but permeates through multiple levels of government.

Perhaps the Government is becoming more accurate in its initial estimates - the gap between initial and revised estimates shrank in FY2013, compared to recent financial years.

Still, I would not be surprised to see another $1 billion eventually added to the FY2013 surplus. We shall have to wait till next year's Budget to find out if I am right.

The writer teaches at the Department of Economics, National University of Singapore, and is a member of its Singapore Centre for Applied and Policy Economics (Scape).

This story was first published in The Straits Times on Feb 26, 2014

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