2022 Perspectives for the Public Sector

32 The benefits of a balance sheet approach With a growing need for financial resources, and a shrinking ability to raise debt finance, it is time for Latin American governments to shift from a debt sustainability/debt management approach to a balance sheet optimization approach (which implicitly considers debt sustainability and debt management) to address their need to invest and boost productivity. On any balance sheet there are assets, liabilities and equity. Historically, Latin American sovereigns have primarily relied on the debt side and on tax revenue to fund their expenditures needs. However, sovereign assets have not traditionally been considered when optimizing intertemporal revenues despite their significant value. Countries in Latin America – in common with all emerging markets – have commercially mature assets, such as roads and other concessions, that already produce significant inflows. These assets can be monetized through the execution of financial transactions, such as securitizations, that generate funds for investment in the assets themselves or elsewhere in the economy to boost productivity. The anticipated inflows from the assets can be used to underpin a marketable security, which is then sold to investors, effectively advancing revenues from the assets and without putting additional pressure on fiscal accounts by increasing debt. The nature of securitization and other monetization structures means that they are a valuable alternative to increase long-term productivity, which ultimately will improve GDP growth and generate additional resources in the future to compensate for those monetized in the present. In this regard, the balance sheet approach uses asset monetization as a tool to optimize intertemporal revenues. However, it is important to highlight a necessary condition for this strategy to be viable as it contributes to the strengthening of fiscal accounts, that is for Governments net debt in Latin America and the Caribbean increased from 44.1% of GDP in 2019 to 51.5% in 2020, and is expected to rise to 53.7% in 2021. 2 Net debt as a percentage of GDP is higher in Latin America and the Caribbean than other emerging market regions and rose faster than all but one region between 2019 to 2020. Higher levels of debt are associated with higher refinancing and solvency risks, higher refinancing costs and therefore lower credit ratings. As a result, countries with high debt levels might be at risk of being penalized by markets, creating additional pressures on public finances and market access. If additional debt is unaffordable or unavailable, one solution would be to increase tax revenues, which are relatively low in the region: Latin America and the Caribbean had an average tax- to-GDP ratio of 22.9% in 2019, with all countries in the region (other than Cuba) recording ratios below the OECD average of 33.8%. 3 However, raising additional taxes may not be viable in the current environment, as many economies in the region have been significantly weakened by the impact of the pandemic. Government revenues in Latin America and the Caribbean decreased from 27.2% of GDP in 2019 to 25.8% in 2020, and are expected to hit 25.7% in 2021 4 – increased taxation could stall the economic recovery. An additional challenge is that many Latin American and Caribbean countries have a narrow tax base. The average share of informal employment (which is typically untaxed) across the region was 55.1% in 2019, while tax evasion is rife. 5 Broadening the tax base is a valuable long-term objective. But it requires significant time and effort and cannot solve the financing challenges faced by governments in the short term. Moreover, there is limited political appetite to impose new taxes on voters that have suffered both directly as a result of the pandemic and due to its economic consequences. Recent public opposition to tax reforms indicates the potential political repercussions of reforms and is likely to dissuade governments from pursuing similar initiatives. A Balance Sheet Approach Can Help Tackle Latin America’s Debt Challenges 2 INTERNATIONAL MONETARY FUND, (2021, October). Fiscal Monitor: a Fair Shot (Chapter 1, page 5). https://www.imf.org/en/ Publications/FM/Issues/2021/10/13/fiscal-monitor-october-2021 3 OECD et al. (2021), Revenue Statistics in Latin America and the Caribbean 2021, OECD Publishing, Paris, https://www.oecd- ilibrary.org/taxation/revenue-statistics-in-latin-america-and-the-caribbean-2021_96ce5287-en-es 4 INTERNATIONAL MONETARY FUND, (2021, October). Fiscal Monitor: a Fair Shot (METHODOLOGICAL AND STATISTICAL APPENDIX, page 77). https://www.imf.org/en/Publications/FM/Issues/2021/10/13/fiscal-monitor-october-2021 5 International Labour Organization. (2021, July). Statistics on the informal economy (Version 2021) [Dataset].