If inflation falls, the provinces go back to fiscal deficit - IDESA

Report Nº: 101425/04/2023

If inflation falls, the provinces go back to fiscal deficit

The federal government’s fiscal imbalance contrasts with the provinces’ surpluses. This is so because the provinces used inflation to reduce the real value of expenses. If a drop in inflation is simulated, the provinces return to a deficit. For this reason, it is imperative to have a comprehensive reorganization of the three levels of the State.

The increase in the unofficial dollar and inflation were expected. To attribute them to internal disputes within the ruling party is to deny reality. The forced resignation of the President’s chief advisor and his own decline to run for reelection show political inconsistencies. But the relevant fact is that the fiscal deficit in the 1st quarter went from AR$200,000 last year to AR$700,000 million in 2023. In the face of such a fiscal imbalance, the deepening of the crisis is inevitable.

This context imposes on the next government the priority of lowering inflation. To do so, many things must be done. The most important is to balance public finances. This challenge seems to be centered at the national level since the provinces show a financial surplus, i.e., their revenues exceed their total expenditures. The fact that the provinces have been accumulating savings –most of which are destined to finance the national treasury– leads to focus attention on the national level.  

The question to be asked is whether provincial public finances are indeed solvent. To shed some light, it may be useful to see some data from the Ministry of Economy on provincial public accounts. According to this source, between 2017 and 2022, it is observed that:

  • The aggregate financial result of all provinces in 2017 was a deficit equivalent to -5% of their total revenues.
  • In 2022 they show a surplus equivalent to 1% of their revenues.
  • If the salaries of provincial employees are adjusted, since 2017, as inflation the result would have been a deficit of -5% of their revenues.  

These data show that the public spending loss of real value, thanks to inflation, is the most decisive factor in explaining the provincial public finances improvement. In the face of accelerating inflation, nominal provincial revenue growth was much faster than that of expenditures. Particularly decisive is that provincial public employees’ salaries grew below inflation. If in the future inflation falls, salaries and other expenses will tend to recover what was lost during the inflationary period and the provinces will enter into a deficit.

Provincial public finances suffer similar or worse insolvency problems than years ago, only hidden behind the veil of inflation. Once the veil falls, provincial fiscal imbalances will be exposed. Moreover, the salaries’ loss of real value in the provinces has surely deepened management deficits, since lower salaries are used to legitimize vices such as absenteeism, labor conflicts, and low productivity. This is another reason why a fiscal adjustment plan on national public accounts is doomed to failure. Assuming that it succeeds in lowering inflation, it immediately demolishes the support of provincial public accounts.

The way to put an end to the chronic financial and management deficits is through a comprehensive reorganization of the State encompassing the three levels of government. In the area of taxation, it is necessary to unify taxes that the three levels of government collect in an overlapping manner (VAT, Gross Income, Municipal Taxes, in the case of sales; Personal Property, Real Estate, and Motor Vehicles, in the case of patrimony). This would allow moving forward, at the same time, with the elimination of co-participation for its replacement of the distribution of tax sources (the Nation is financed with taxes on foreign trade and income; the provinces with sales and property taxes generated in their territories). This will demand the elimination of national programs that encroach on provincial functions and the conversion of the national Ministries of Health, Education, Social Development, Environment, and Housing into national agencies for measuring provincial results.

One of the main factors contributing to the failure of convertibility was the fiscal disorder of the provinces. Their persistent fiscal deficits led to excessive indebtedness to the banking system and chaotic quasi-currency issuance. In order to avoid stumbling over the same stone again, it is necessary to break with the simplistic assumption that adjustments in the national State alone are enough to get out of the economic decline. 


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