The good, the bad and then wait for the ugly

In the beginning, it was good. In autumn 2001 Finance Minister Marek Belka inherited the 2002 budget draft from Prime Minister's Jerzy Buzek's government, which planned an import tax two years before European Union membership. He dismissed it as a "trash paper" and came up with a completely new proposal.
So the 2002 budget was based on the so-called "Belka rule" which implied that each year's budget spending could not rise faster than inflation plus 1%. The idea was pretty simple: If we place a tight cap on public spending with economic revival kicking in, revenues will accelerate, and the budget deficit will magically disappear - no pain, no belt tightening required.

But then the bad appeared. "No pain, no gain," my karate sensei used to say. Indeed in next to no time, Parliament revised revenue targets for 2002 and spent the apparent windfall on wage increases for teachers, which will take place this month. Furthermore, in 2002 inflation turned out to be only half the 4% predicted in the 2002 budget bill.
But despite lower inflation, the government displayed no intention of sticking to the Belka rule, and expenditures remained completely unchanged. So in what was supposed to be a year of stabilizing public finances, budget expenditures actually expanded 4.5% in real terms. And if one takes into account high deficits in the Labor Fund and Food Procurement Agency, expenditure growth was even higher across the entire public finance sector. So from the economist's viewpoint, public finances are in deeper crisis today than in 2001. Last year the broad public finance sector deficit stood at 4.5% of GDP. This year it soared to 5.7%, and next year it will be no better, despite anticipated growth recovery.

Virtual revenues
Consider the following: the finance ministry estimates the measure of broad fiscal deficit (Polish economists use the unwieldy phrase "the economic deficit of the public finance sector") to be 4.7% of GDP in 2003. My own estimate is closer to 6% of GDP and reflects the fact that the budget is based on virtual revenues (such as an inflated growth rate, abolition fees, restructuring fees and improved tax collections) totaling zł. 4 billion ($964 million). Plus, the central budget deficit floods other parts of the public finance sector on a truly unprecedented scale.

Borrowing from Peter to pay Paul
Budgetary funds and agencies will run up deficits approaching 1% of GDP. Hospitals will continue to buy equipment and services and pay with IOUs, which sooner or later will end up on Finance Minister Grzegorz Kołodko's desk. In the meantime, he has officially dropped the Belka rule and replaced it with a vague promise that budget expenditures will not grow faster than GDP growth, while spending will rise only 2.2% above inflation in 2003.
Public debt will top 50% of GDP compared with 40% two years ago, and the total stock of hot money invested in Poland will top the level of foreign exchange reserves held by the central bank.
Why should anyone worry? Poland is joining the EU in 2004 and, hopefully, the European Monetary Union a few years later, so financial markets may be willing to accept high fiscal deficits for few years.

Be worried
But we should be worried because in 2004 EU accession budget expenditures will have to go up some 2% of GDP. And because 70% of budget expenditures are rigid, any spending cuts will require politically unpopular reforms, such as reducing social allowances or raising taxes passed by Parliament. And it will be one year before both the general and presidential elections, so the political cycle will not bode well for belt-tightening policies. The finance minister hopes that sharp growth recovery will bring in high budget revenues and reduce the deficit. I am keeping my fingers crossed that his hopes will come true, because if they don't, the ugly will show up.

By Krzysztof Rybiński