Additional information
by Santiago Herrera (Author), Eduardo Olaberria (Author)
Policy makers in Latin America and the Caribbean (LAC) often complain that poor fiscal performance in their countries is a result of a high degree of spending rigidity. Despite being a common complaint, the issue has remained largely ignored by the literature because of the lack of adequate measures of rigidity that allow cross-country and time series comparability. This report helps close this gap by introducing a new measure of spending rigidities that can be easily applied to multiple countries. It focuses on the categories of spending that are naturally inflexible--wages, pensions, transfers to subnational governments, and debt service--and separates them into two components: structural and nonstructural.
The structural component is determined by economic, demographic, and institutional fundamentals. The nonstructural component is determined by short-run transitory factors associated with business and political cycles. The degree of rigidity of spending is then proxied by the ratio of structural spending to total spending, with a higher value indicating that spending is driven mostly by factors out of the policy makers' control.
This concept of rigidity was applied to 120 countries for the years 2000+"17 and produced several interesting results:
- Advanced economies and developing countries in other regions have higher levels of rigidity than countries in LAC.
- The sources of rigidity vary by country.
- Higher rigidity is associated with higher spending levels, higher tax rates, higher public debt, and lower efficiency of public spending.
- Rigidity has pervasive effects on fiscal sustainability, increasing the country's financing needs and reducing the probability of the country starting a fiscal adjustment.
Given these pervasive effects of spending rigidity, the report concludes by discussing several policies to contain the sources of rigidity in the long term, ranging from the importance of deepening the pension reform process to the need of establishing strong fiscal institutions promoting medium-term fiscal planning.
Author Biography
The World Bank came into formal existence in 1945 following the international ratification of the Bretton Woods agreements. It is a vital source of financial and technical assistance to developing countries around the world. The organization's activities are focused on education, health, agriculture and rural development, environmental protection, establishing and enforcing regulations, infrastructure development, governance and legal institutions development. The World Bank is made up of two unique development institutions owned by its 185 Member Countries. The International Bank for Reconstruction and Development (IBRD) focuses on middle income and creditworthy poor countries and the International Development Association (IDA), which focuses on the poorest countries in the world.
