Securing sustainable public finances
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Iceland has made considerable progress in repairing the damage to fiscal sustainability incurred in the wake of the financial crisis but much remains to be done. The demanding fiscal consolidation targets agreed with the IMF under the aegis of the IMF SBA have been met so far and the 2011 budget conforms to the programme. As fiscal consolidation under the programme was front loaded into 2010-11, the prospects of meeting the programme’s remaining targets, which extend to 2013, are good. To keep fiscal policy safely on a sustainable path, fiscal consolidation will need to be sustained well beyond the horizon of the IMF SBA. To this end, the government should gradually increase budget surpluses beyond 2013. Assuming a general government budget surplus of 3% of GDP from 2015 onwards and trend growth in nominal GDP of 4% per year, general government gross debt (excluding civil servant pension liabilities) could be reduced to below 60% of GDP by around 2020. It may, however, be prudent to create greater fiscal room for manoeuvre by sustaining the debt reduction policy for longer. While the government has implemented a variety of reforms to increase the probability that fiscal consolidation plans are actually implemented, it would do well to adopt a medium-term budget balance rule that is compatible with its debt reduction objectives.