From the powerful United States to small Caribbean countries such as Belize, Barbados, the Cayman Islands, Grenada, Jamaica and St Lucia, governments are severely challenged by their fiscal situations but do not have any immediate solutions for overcoming the difficulties they face.
The problem for those countries is that the longer the situation persists, the more painful it becomes by way of remedies to resolve those fiscal burdens. For that reason alone, citizens of those countries should be as concerned as international rating agencies and donors about the future stability of their respective economies.
From time to time, rating agencies would disclose their stance on the directions in which the countries’ fiscal situations are heading, and it is high time the public does the same to force changes in the attitudes of governments toward public finances.
Indeed, such a call for action is critical because the reality facing our countries on the fiscal side warrants urgent action. Although action is needed on both the revenue and expenditure sides, I suggest that governments dedicate more attention to effective management of public expenditure as a practical solution to their fiscal crises. Why?
Governments are free to determine the levels of their spending. These expenditures are often categorized as non-discretionary (for example, payment of wages and salaries and interest on loans) and discretionary (for example, purchase of goods and services).
The problem, in many instances, is that the non-discretionary components often account for a significant portion of overall public spending and are usually long-term in nature. Furthermore, once they begin to grow it becomes increasingly more and more difficult to manage as well as reduce them, particularly in times of a slowdown in economic activity. And that scenario is precisely what is playing out in the United States as well as several of our Caribbean economies at this very moment.
On the revenue side, governments have been forced to raise several taxes in order to generate cash flow to cover rising expenditures. In the prevailing global environment, that strategy has become more prominent partly because it is less likely to tap into foreign aid as donor countries and agencies are also forced to tighten their own financial circumstances.
The reality, therefore, is that governments find themselves in a counter-productive situation. On the one hand, they increase expenditure (an expansionary fiscal policy) with the hope of stimulating the economy and preventing any major short-term disruptions. On the other hand, they raise taxes (a contractionary fiscal policy) to finance higher spending but such policy has the potential to hurt economic growth which is vital for sustaining increased revenues, particularly when the tax base is consumption/ spending.      Â
As history has shown, governments are more often than not reluctant to cut taxes, particularly in recessionary periods, because of the fear of losing much needed revenue. Increasing taxes under such conditions would be counter-intuitive. Simultaneously, cuts in non-discretionary spending are resisted because of the social consequences that can follow.
It seems clear to me, then, that the most feasible approach to fiscal policy is a strategy that enforces strict expenditure management combined with low to moderate taxes to generate either a surplus on the current account or a small deficit.
That strategy will afford governments some flexibility on both sides of the fiscal coin in responding to any adversity.
• Brian M. Francis PhD is a lecturer in the Department of Economics at the University of the West Indies, Cave Hill Campus.
