automatic stabilizers. In a prolonged recession, the impact on the sustainability of public finances would be far more severe. Policy makers have to balance the two opposing risks of high debt and fiscal sustainability. One is the risk of prolonged depression and stagnation if efforts to boost aggregate demand are not large enough. The other is the risk of a loss of confidence in government fiscal solvency and the larger long-term impacts of a rising debt burden. The trade-off between these two risks will depend on country-specific circumstances. Not all countries can afford big fiscal stimulus packages; and, in this respect, projected debt levels and indicators of fiscal vulnerability will be less relevant in making policy choices. However, in countries with more fiscal room, such trade-offs can exist and can be improved if governments credibly clarify their strategy to ensure fiscal solvency. The International Monetary Fund (IMF 2008) suggests that a fiscally sustainable and credible path could be achieved by following some key principles: 1. Fiscal stimulus packages should consist, as much as possible, of temporary measures, or measures that have clear sunset clauses contingent on the economic situation. 2. Governments should have a precommiment to unwinding stimulus measures either at a specific date (such as lowering value-added tax for just two years, as the United Kingdom recently did) or on a contingent basis (such as reversing the value-added tax cut once GDP growth has risen above a certain level). 3. The stimulus package should increase the scope of automatic stabilizers (such as unemployment benefits) which, by their nature, are countercyclical. 4. It should improve procurement and expenditure procedures to ensure that stepped-up public works spending is well directed to raise long-term growth potential. 5. Policies should be cast within medium-term fiscal frameworks, supported by fiscal responsibility laws, fiscal rules, or independent fiscal councils. They should cover a period of four to five years and should ideally include accurate and timely projections of government revenues and expenditures, a government balance sheet reporting data on government assets and liabilities, and a statement of contingent liabilities and other fiscal risks. 6. Policies should strengthen fiscal governance by increasing fiscal transparency to reduce the public’s perception of possible political biases. 196
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