The fiscal deficit has been reduced thanks to inflation - IDESA

Report Nº: 100523/02/2023

The fiscal deficit has been reduced thanks to inflation

The government shows satisfaction with the fiscal deficit reduction and concern for the increasing inflation. This is an incongruence since it is thanks to inflation that the fiscal deficit fell. More worrying is that the opposition party does not come up with any better ideas regarding the use of inflation to adjust the public finances.

The Ministry of Economy highlights as an achievement the reduction of the fiscal deficit and the fulfillment of the IMF goal of closing 2022 with a primary deficit of 2% of the GDP. After a critical situation reached in the middle of 2022, with a widening of the fiscal deficit and a public debt crisis in which the Treasury was unable to renew all its maturities, in the second half of the year the fiscal imbalance was reduced.

Based on this reduction in the fiscal deficit, the Ministry of Economy expected inflation to ease in 2023. In the budget, an annual inflation guideline of 60% was set and in public statements, the expectation was expressed that in April 2023 inflation would be in the order of 3% per month. However, INDEC announced that in January, inflation increased to 6% per month, exceeding the levels of November and December. The economic team is surprised, arguing that this level of inflation is not consistent with the fiscal deficit reduction.   

What is the relationship between inflation and fiscal deficit in the current context? To explore an answer, data from the Ministry of Economy may help. According to this source, in the 2nd half of 2022 with respect to the same period of the previous year, it is observed that:

  • Inflation was 85% per year.
  • Tax revenues grew by 90% year-on-year.
  • Primary public spending (before interest payments) grew by “only” 67% year-on-year.  

These data show that inflation played a key role in reducing the fiscal deficit. With an accelerating inflation tax revenues rose at a similar rate to that of prices, while most public spending was updated below inflation. A very illustrative example –because it is the main component of national public spending– is the loss of real value that pension benefits have suffered as a consequence of inflation. Therefore, it is contradictory to expect inflation to go down when it is being used to reduce the fiscal deficit. If inflation goes down, the real value of public expenditure would not decrease so the fiscal deficit would increase. 

Appealing to inflation as an instrument of fiscal adjustment is nothing new and always ended up with frustrating results. The closest example was the Cambiemos government, which at the end of its term of office also used it for the “zero deficit” goal. Inflation accelerated to 53%, tax revenues grew to 48% and primary public spending grew to 37%. This experience shows that it is of little use to show reductions in the fiscal deficit by stoking inflation so that public revenues inflate and public spending slows down. People are not concerned about the fiscal deficit. They are concerned about inflation. The fiscal deficit has to be lowered to lower inflation, not raise inflation to lower the fiscal deficit.

The most worrying thing is that in the debates on the policies to be applied by the next government, a comprehensive reorganization of the public sector does not appear with clarity and priority. It is assumed that it is impossible to correct the structural organizational deficiencies of the State. Therefore, the only thing left to do is to resign to maintain the status quo. It should be emphasized that fiscal adjustment by way of increasing inflation serves to look good with the IMF (whose officials do not live in Argentina, therefore, they do not care about inflation) but not with the people who expect a new government to lower inflation.

In order to lower inflation, the fiscal deficit must be reduced based on a comprehensive reorganization of the State. This implies unifying taxes, eliminating co-participation so that each province and its municipalities can finance themselves with the taxes they collect in their territory, and eliminating functions overlapping among the three levels of government. With a better organized State, it is feasible to achieve sustainable financial equilibrium and simultaneously improve efficiency in public management. Without a well-organized and efficient State, there is no way to achieve sustained growth with stability. 


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