One of the key tasks of the Czech Fiscal Council (CFC) under Act No. 23/2017 Coll., on the Rules of Budgetary Responsibility, as amended (the Act), is the regular annual preparation of the Report on the Long-Term Sustainability of Public Finances (the Long-Term Sustainability Report) and its submission to the Chamber of Deputies of the Parliament of the Czech Republic.
As in previous Long-Term Sustainability Reports, this year’s CFC assesses the situation of Czech public finances from a medium- and long-term perspective. In the first case, the key indicator is the current structural balance, while in the second case it is the projected path of public debt over a 50-year horizon, which shows the extent of long-term fiscal imbalances.
Fortunately, the Czech public finances have already moved away from the high deficits in the 5–6% of GDP range typical of the years associated with the COVID-19 pandemic (2020–2021), but they have still not taken a clear trajectory towards sustainable and macroeconomically sound levels defined by the original text of the Act.
Public finances are therefore at an imaginary crossroads. Right now, this year and in the years to come, it is being decided what their structural adjustment will be in the post-covid era, and how robust a support (or, conversely, how massive a burden) they will represent for the Czech Republic’s macroeconomic development in the future. Therefore, even in this Long-Term Sustainability Report, the CFC considers developments in the area of public budgets to remain a crucial issue for the country’s economic future.
If last year the Long-Term Sustainability Report spoke of significant imbalances in public budgets and the need to consolidate public finances, this year we are in a slightly different situation, as the first serious attempts to change the unfavourable trends are emerging (the so-called consolidation package and proposals to adjust the pension system). At the time of writing this Long-Term Sustainability Report, it is not yet certain in what final form all these proposals will be adopted, but the CFC has already appreciated their submission and the serious efforts to push them through politically during 2023 and supports the proposals in their entirety (despite possible objections to individual sub-measures). This is all the more true given that they have emerged at a time of a receding energy crisis and the ongoing Ukraine crisis. Both have required a number of additional fiscal measures on the expenditure side of public budgets (compensation for high energy prices, aid to refugees from Ukraine) as well as, on the revenue side (windfall tax). In this context, the CFC appreciates the efforts to compensate for the one-off expenditure related to both crises also by securing temporary additional revenue and not only by increasing the deficit. On the other hand, some of the steps taken in previous years with reference to the covid crisis, although unrelated to it, continue to significantly worsen the structural balance of public budgets and its outlook. The main example is the drastic reduction in personal income tax approved at the end of 2020, which, among other things, has contributed to the inflationary pressures that the Czech economy has faced in the last year.
One of the current problems of Czech public finances is the trend of expanding the mechanism of automatic indexation and valorisation of important expenditure blocks. In 2022 and 2023, it has been confirmed that in periods of high price growth, these automatic indexations have significantly negative effects on public budgets. The Czech Republic entered the COVID-19 pandemic with automatic valorisation in the area of the largest expenditure item of public budgets, i.e. pensions. However, by 2024, the Czech Republic will enter with automatic indexation already enacted in four of the largest expenditure items of the fiscal system (apart from pensions, these will be education financed by municipalities and regions, i.e., from pre-schools through to vocational colleges, health care, and defence). Even the planned indexation adjustments in the area of pensions in particular do not compensate for these indexations in other public budget items (see Chapter 3).
The CFC attributes this and the inhibiting of public budget revenues in recent years, which the CFC has addressed in previous Long-Term Sustainability Reports, to the fact that the basic measure of the current imbalance of public finances, the structural deficit, does not show a tendency to improve significantly. Unfortunately, even the parameters of the state budget for 2024 presented so far do not point to a significant change in this trend. There is a certain ‘entrenchment’ or ‘blockage’ of the structural deficit at a level exceeding 2% of GDP regardless of consolidation. Or rather, part of the consolidation effort is absorbed by the need to compensate for the performance of the same government that is painfully consolidating at the same time. From the CFC’s point of view, it will therefore require considerable effort and extraordinary budgetary discipline if the government is to truly deliver on its ambition to reduce the public deficit permanently below 3% of GDP, as committed in its programme statement.
For this reason too, the CFC accepted the proposal to amend the Act, which sets out the trajectory of the reduction of the structural balance for the coming years in quantitatively clear terms (see subsection 1.1, Chart 1.1.1), although this trajectory is no longer in line with the CFC’s understanding of the logic of the Act, as communicated in last year’s Long-Term Sustainability Report, and as incorporated into the original text of the Act.
A clear expression of the will to address the structural balance problem has at least had the effect of halting the deterioration of this indicator after a long time and a hint of better values in the future. Of course, the Long-Term Sustainability Report focuses on important long-term trends in the pension system, which, together with demographic developments, will fundamentally determine the state of public finances in the coming decades. The projections in the so-called baseline scenario do not yield significantly different results than those presented in last year’s Long-Term Sustainability Report. However, as shown in Chapter 3 and especially in the scenarios in Chapter 5, the proposed changes to the pension system do imply a significant increase in the sustainability of public finances over the horizon targeted by the Long-term Sustainability Report. But only if they are not only implemented but also sustained in the future.
The CFC will continue to pay close attention to all these and other planned changes in public budget systems and their implications, to analyse them critically and to explain them as much as possible in public communication, which it considers to be one of the core parts of its statutory mandate.