Written evidence submitted by George Kopits,
Chairman, Fiscal Council, Republic of Hungary
INTRODUCTION AND
SUMMARY
1. In response to a request from the Treasury
Committee, herein are my views on the creation of a permanent
Office for Budget Responsibility (OBR) in the United Kingdom.
The views seek to draw on good practices developed by independent
fiscal institutions (IFIs) in general—discussed at a conference
held recently in Budapest (http://www.mkkt.hu/conference-on-independent-fiscal-institutions)—and
on the experience of Hungary's Fiscal Council (FC) in particular.
2. These remarks focus mainly on the three areas
listed in the Committee's request: the remit of the OBR; means
of ensuring independence and accountability; and appropriate resources
for the OBR. The interim Budget Responsibility Committee (BRC)
must be commended for an excellent start over an extremely short
period of time. There is, however, scope for improvement in several
areas, to be carried out by the future permanent OBR. First, the
OBR will have to raise the transparency of its macro-fiscal forecasts
by revealing more detail about the underlying methodology and
calculations, and by exercising full control over the forecasts
and policy costing, instead of relying on the Treasury and other
government agencies for these tasks. Second, from the outset,
it is indispensable for the OBR to assert fully its independence
from the government in a number of ways, outlined below. And third,
the OBR must be endowed with an adequate size staff to carry out
its responsibilities, again, without having to rely on other government
agencies.
REMIT
3. The remit of the OBR has been formulated
against the backdrop of recent trends of public finances in the
UK, characterised by a marked widening in the public sector deficit
and the concomitant rise in public indebtedness. This deterioration
was underpinned by the failure of the previous government of adhering
to its own fiscal policy rules, and of the National Audit Office
to monitoring the transparency of government forecasts and the
compliance with the rules. These developments led to significant
erosion in the credibility of fiscal policymaking.
4. Therefore, the OBR is correctly envisaged
to restore fiscal responsibility. To this end, its core remit
consists of preparing unbiased macro-fiscal forecasts, assessing
the realism of official fiscal targets, and analysing long-term
debt sustainability. The interim OBR has actually fulfilled the
first phase of this remit (leaving a full-fledged debt sustainability
analysis for the permanent OBR) by issuing, at impressive speed,
pre-budget forecasts and budget forecasts over a four-year horizon
anchored onto the June 2010 budget bill.
5. Apart from their high quality, forecasts
should be as transparent as possible as regards the underlying
data, methodology and key assumptions, and should be reported
in clear non-technical language. In addition, to enhance the credibility
of the exercise, the IFI should have control over the calculations
in all stages. Interestingly, since the OBR's forecasting process
and output resembles very closely those applied by Hungary's FC,
the latter may be regarded as a useful comparator for the OBR.
A cursory comparison suggests that the OBR reports provide an
excellent, concise and reader-friendly set of forecasts, which
can be viewed as laying the foundations of a set of good practices
for the future.
6. However, there are two shortcomings (as
compared to the FC forecasts) that will need to be dealt with
by the permanent OBR, so as to strengthen transparency and independence—see
the discussion of independence below. First, the OBR reports do
not seem to provide sufficient detail (in supplementary appendices,
etc) on forecasting methodology (eg, underlying macro-fiscal model
specification, calibration to initial conditions, etc) and on
revenue estimates and expenditure costing. Overall, more information
would be desirable on the present and future estimates of major
categories of PSCR and of AME spending, which together comprise
the nondiscretionary budget. Second, the OBR does not seem to
have control over the calculations; all too often reference is
made to outside sources (mainly Treasury, Revenue and Customs).
These shortcomings are particularly sensitive in view of the very
favorable OBR assessment of the official medium-target, whereby
a cyclically-adjusted current budget in balance or surplus is
likely to be reached by 2014-15.
7. In line with the remit to assess the
risk around forecasts, so as to gauge the realism of official
targets, the OBR has presented a fan chart illustrating the probability
of deviations from forecast. Well-known problems with the fan
chart include: (a) past distribution of underlying macro forecast
errors is highly aggregative and possibly non-recurrent, and (b)
the chart glosses over a host of technical and policy risks that
would need to be incorporated explicitly in the calculations.
The permanent OBR would be well-advised in exploring alternative
approaches to assessing fiscal risk in a more explicit manner
(eg, G Kopits, "How to Help Europe Cope with Fiscal Risk",
Financial Times, 12 November 2004). In any event, besides
a selected statistical approach, it would be very informative
to identify (and quantify if possible) specific areas, measures
or future events that may result in substantial expenditure overshoot
or revenue shortfall—as done, for instance, by Hungary's
FC.
8. In the future, the OBR is expected to
make assessments of long-run public debt sustainability. This
is an important task that will need considerable preparatory work
that could not be undertaken by the interim OBR, given its very
limited time span. Since long-term debt sustainability is dependent
not on the annual budget bill, but on substantive laws determining
tax rules and mandatory expenditures (eg, public pensions), the
OBR will need to assess the budgetary effects of any proposed
amendment to such laws. More generally, the interim BRC is correct
in recommending an annual updates of the debt sustainability analysis.
Both the US Congressional Budget Office (CBO) and the Netherlands'
Central Planning Bureau (CPB) have considerable experience in
this area that is well worth reviewing.
9. As most other IFIs, in general, the OBR
should abstain from making normative judgments or formulating
policy recommendations, as this may be seen as a departure from
nonpartisanship. Budgetary and macroeconomic forecasts tend to
reveal anyway possible allocative distortions of a budgetary or
tax measure.
INDEPENDENCE AND
ACCOUNTABILITY
10. Independence and impartiality are fundamental
attributes of all IFIs. They are critical ingredients for establishing
the institution's reputation and thus for cementing its effectiveness
in anchoring market expectations. In turn, a favorable budgetary
assessment by a credible IFI, such as the CBO or the CPB, built
on a lengthy track record, can bestow credibility on the government's
fiscal policy. By the same token, a negative assessment by such
an institution can undermine the government's credibility.
11. The new UK government has wisely decided
to create the OBR with the overarching goal of restoring responsibility
in the conduct of fiscal policy, but more immediately, presumably
with the (political) purpose of enhancing its own credibility.
But to achieve this goal in the near future, it is essential that
the OBR be endowed with a maximum degree of independence particularly
from the government that created it. Indeed, there cannot even
be a scintilla of doubt in the eyes of the public about the OBR's
independence and impartiality, as negative perceptions may undermine
the OBR's reputation from the outset, requiring a major effort
at changing such perceptions. It is for the reason that the recent
editorials and comments in major newspapers expressing suspicion—regardless
of the facts—about the impartiality of BRC need to be addressed
in the statute enacting the OBR.
12. There are several aspects where an IFI
exhibits independence and impartiality:
(a) contacts with government;
(b) composition of staff;
These should be adopted as well for the OBR.
(a) Contacts between the BRC Chairman and the
Chancellor or the rest of government should be strictly limited
to informing the other party about its position, forecasts or
statements—but only a few days in advance of the release
of a critical document—to avoid unnecessary surprises or
embarrassment for the government. This does not preclude possible
contacts on technical issues, albeit at arm's-length, between
the staffs of the OBR and the Treasury.
(b) No member of the BRC or the OBR staff should
have any links (including through secondment) to the Treasury
or to another government agency.
(c) Forecasts or costing should be prepared in-house
by the OBR staff, with temporary support, if necessary, from paid
consultants unrelated to the government.
(d) OBR headquarters should be physically separate
from the Treasury and should not be located in any existing government
premises.
13. An IFI should be accountable especially
by maintaining an open-door policy toward the legislature and
the public at large, ready to respond at any time to queries addressed
to the institution. Accountability of the OBR can be primarily
sustained if (as in the Hungary) the BRC Chairman is regularly
invited to appear at public hearings of relevant parliamentary
committees. But above all, the OBR must be accessible to the media
that for the most part represent the most critical and eloquent
audience. Despite the possible nuisance and effort involved, the
institution should welcome (rather than ignore or reject) any
entreaties from the press, since the press is the main vehicle
for influencing public opinion and policymaking.
RESOURCES
14. Administrative, professional, technical
and human resources at the disposal of the IFI should be sufficient
(in both quantitative and qualitative terms) to deliver the highest
caliber output, in timely fashion, to the legislative body so
that MPs have access to budget assessments and forecasts, that
is, in time that they can serve as input for the legislative debate
and prior to votes are cast in committee or on the floor of the
legislature. Needless to say, the IFI should have adequate funding
and full access to relevant government data, to fulfill its responsibilities.
15. The OBR should avail itself with such resources,
possibly from the start of operations and continuously. Any concerns
about ups and downs dictated by the legislative agenda or the
budget cycle, and about seasonal or peak-flow periods, or occasional
idle capacity—expressed by the interim BRC—seem unwarranted.
Given the nature of the work, off-peak periods can be useful to
recharge batteries and conduct research on complex and recurrent
methodological issues. Examples of staff size are: US CBO with
about 250, Netherlands' CPB 170 (though mostly involved in non-fiscal
issues), Hungary's FC some 45 employees—comprised of economists,
budget specialists, lawyers, IT specialists, administrative personnel.
16. Concerns about the quality of the staff
are equally unwarranted. For example, in Hungary, open recruitment
by the FC over a three-month period resulted in a substantial
staff, drawn from the private sector (including academic professionals),
the central bank, and government (including the Finance Ministry).
It has been truly surprising the speed at which these young professionals
(aged between early 20s and early 40s) have been ready to produce
solid analytical work. (See http://www.mkkt.hu.) The high motivation
of the staff can be explained by the scope for professional work,
unconstrained by political pressures often associated with government
service. There is every reason to believe that it should be far
easier to recruit a comparable staff in Britain, given the ample
supply of self-respecting professionals attracted by the OBR's
independence and well-focused remit.
17. At the top of the structure, it makes
good sense to preserve the three-person BRC on a permanent basis.
Presumably selected or nominated at the highest level of government,
candidates should be subject to confirmation by Parliament, with
the majority of each party voting in favor of the candidate—possibly
allowing opposition MPs to veto the candidate. To ensure nonpartisanship,
BRC Chairman and members should be elected for a lengthy (spanning
beyond an electoral cycle) and nonrenewable term. The Chairman
should have a distinguished civil service experience, with proven
grasp of macroeconomic and fiscal policy analysis, and a nonpartisan
background. Membership may include academic economists as well.
Hungary has been served well with a similar structure consisting
of the three-person FC, supported by an excellent technical staff.
18. In addition, in the UK legislative context,
the period following submission of the budget bill might be too
short for the OBR to conduct a thorough analysis of the impact
of new fiscal measures, in time for legislative consideration
before the final vote in Parliament. Hence, some allowance should
be made to extend the time allotted between submission and action
on the budget bill; or alternative options, such as providing
advance information to the OBR on key parts of the budget bill
might be considered to relax the tight time resource constraint.
August 2010
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