In 2023, public finances were affected by gradual decline in inflation. In the same year, a so-called consolidation package was introduced to help put public finances back on a long-term sustainable trajectory.
Given the current low inflation rate and the consolidation efforts, it appears that public finances will return to balance almost immediately and will be on a long-term sustainable path. However, the correction will take time and the positive steps taken need to be sustained and not lose intensity. Among the imaginary burdens that will make it difficult to implement these positive changes are the decisions taken by fiscal policymakers in response to the temporary negative shocks that have hit (not only) the Czech economy in recent years. The “legacy” of the COVID-19 pandemic is, first and foremost, the abolition of the super gross wage tax, which led to a significant decline in general government revenues even in the post-pandemic period. The wave of inflation of 2021–2023 brought with it, among other things, the further introduction of so-called indexations, which will continue to have a negative impact on structural balance of the general government sector in the following years. Such developments are then reflected in an increase in the general government debt, which entails rising interest payment costs. And interest payments are a mandatory (compulsory) item in general government budgets that weigh on the general government deficit. Breaking out of this imaginary spiral is neither trivial nor a short-term affair given the structural changes made earlier in the general government expenditure and revenue.
The present Report on Compliance with the Rules of Budgetary Responsibility (“the Report on Compliance with the Rules”) provides an assessment of compliance with the fiscal rules for 2023. The preparation of this Report on Compliance with the Rules is one of the main tasks of the Czech Fiscal Council (“CFC”) set out by Act No. 23/2017 Coll., on the Rules of Budgetary Responsibility, as amended (“the Act”). Strict adherence to clearly defined and stable fiscal rules should significantly contribute to the equilibrium and long-term sustainability of public finances.
The first chapter of this Report on Compliance with the Rules briefly presents the performance of the general government in 2023 and the outlook for 2024.The second chapter focuses on one of the three Czech fiscal rules, namely the debt rule, which monitors the general government debt-to-GDP ratio. The Czech public finances are in compliance with this rule, and in 2023 the debt ratio has decreased by 0.1 percentage point compared to the previous year. However, this decrease is largely virtual. The problem of the increase in the debt ratio was “masked” by the high growth of nominal gross domestic product (“GDP”) during the wave of inflation in 2021–2023 and, in addition, by the revisions to the national accounts introduced by the Czech Statistical Office (“CZSO”) in June 2024, which retroactively increased nominal GDP.
The third chapter focuses on another fiscal rule, the so-called expenditure rule, also called the structural balance rule because it monitors compliance with the limit of this balance. The rule was complied with in 2021 and 2022, but only formally and not effectively. In fact, the double amendment of the Act during the COVID-19 pandemic considerably relaxed this rule, allowing the implementation of an expansionary fiscal policy. At the same time, the second amendment to the Act introduced ambiguity into the interpretation of the 2023 limit of the rule, which led to a disagreement between the CFC and the Ministry of Finance of the Czech Republic (“MF CR”) on the applied level of the rule limit. In 2023, the rule – according to the CFC’s interpretation of the then applicable version of the Act – was no longer fulfilled. The breach of the limit reflected, among other things, the “legacy” presented above, which had permeated the structure of general government expenditure and revenue, resulting in long-standing high structural deficits. The interpretation difficulties were only resolved by the amendment of the Act included in the aforementioned consolidation package.
The fourth chapter deals with the last national fiscal rule, which concerns local government units (i.e. regions and municipalities). This rule sets a limit on the debt ratio of regions and municipalities and a return to this limit if it is exceeded. Of the 6,262 units that provided data to the MF CR, 565 exceeded the debt indicator, mainly smaller municipalities. It may seem that this is a marginal issue, but here again – as in last year’s Report on Compliance with the Rules – the systematic problem described in the text of chapter four occurred in the case of a small number of municipalities that did not comply with the requirement to reduce the debt ratio due to the deferral of loan repayments (borrowings) according to the applicable repayment schedule. In the last edition of the Report on Compliance with the Rules, the CFC called for a systematic solution to this problem, but so far – given the recurrence of the same situation – to no avail.
The full text of the Report on Compliance with the Rules is supplemented by four boxes on topical issues. The first box focuses on the change in the general government balance in 2023 as part of the so-called first notifications taking place in spring 2024. The second box presents the new fiscal rules at the level of the European Union, the wording of which was intensively worked on during 2023 and reached so far its final form in 2024. The third box presents the impact of the changes in the budgetary determination of taxes on municipalities and regions that were part of the consolidation package. The last box deals with inefficient financial management at the level of municipalities and regions, which, even in an environment of high inflation, accumulate their surpluses mostly in current accounts with low interest rates. This fourth box thus puts into perspective hasty conclusions about the desirability of keeping surpluses as liquid as possible. Decisions on the allocation of these funds should be taken by local governments in the broader context of the needs of municipalities and regions (e.g. for investment activity).