Surprise! Budget Deficits Of Most Nations Are Falling

If world economics is a jungle, nations are out for big game. Over the last few years, they have tracked down and largely tamed the inflation tiger. Now, another beast is attracting their attention: budget deficits.

After two decades of running up debts, many of the world's nations are making headway cutting annual deficits. If this continues, it will help buoy the growth that is already occurring in most corners of the world.

The latest evidence comes from the International Monetary Fund (IMF). "World economic and financial conditions remain generally encouraging ... and the global economic expansion is expected to continue at a satisfactory pace in 1996-97 and over the medium term," it said in its latest world outlook, released yesterday. It forecast world output would grow 3.8 percent this year and 4.1 percent next year.

The expansion is taking place across the board. In the industrialized countries, output is expected to edge up this year and next, the IMF forecasts, thanks in part to the continued robust growth of the US and a beginning recovery in Japan. Developing nations can expect to see continued growth around 6 percent annually, partly because of recovery in Mexico and Argentina and some surprising strength in several African nations.

Even former communist nations are making progress, having reigned in inflation that spiraled out of control as the new democracies introduced market reforms.

There are several reasons for the continued growth, economists say. One of them is that countries are beginning to get serious about controlling deficits. For example:

*For all the hand-wringing about its budget mess, the United States is doing quite well by international standards, economists say. Of the 19 industrialized nations counted by the Organization for Economic Cooperation and Development in 1994, only Norway had a smaller relative deficit than the US (0.7 percent of gross domestic product, the nation's output of goods and services, versus America's 2 percent of GDP). By the end of this year, according to the IMF, the US deficit should be down to 1.3 percent of GDP, the lowest since 1979.

*Between 1992 and 1995, the average industrialized country saw its deficit fall from 3.5 percent of gross domestic product to 2.5 percent. (A nation's deficits are often measured against the size of its economy because, just like a family, the more it earns, the more debt it can afford to hold.)

Some of the biggest laggards, the IMF says, are the nations of the European Union. They are under pressure to get their deficits down to 3 percent of GDP by next year to meet the targets necessary for creating a single European currency. Today, only three European nations meet the criteria. By the end of next year, the IMF estimates, another six will have done so and the rest will have made substantial progress.

*Among developing countries, the picture is more mixed. Asian countries, such as South Korea and Singapore, and Latin American star Chile, have managed to keep growth high - in part by keeping deficits low. China has managed to halve its inflation rate since 1994, but needs to reign in spending and subsidies to state-owned companies if the inflation improvement is to continue. Recent strong growth in other countries, such as India, and Turkey, is threatened by rising deficits, the IMF warns.

*The former communist nations are making headway in the transition to a market economy, the IMF reports. Of 28 so-called transition countries, only six are expected to see their economies contract this year, the IMF forecasts. One of them is Russia, but stronger budget controls have brought down inflation and set the stage for growth next year, according to the report.

Unfortunately for many developing countries, a few years of budget restraint isn't enough to convince investors to move in. Once a country's deficit soars, "it's very, very hard to reestablish credibility," says William Easterly, an economist in the research department of the World Bank. "I think that's part of Mexico's story. They just lost control so badly in the 1980s, it's hard to convince people that you are for real" as deficit control is imposed.

This may explain why investors panicked and plunged Mexico into a financial crisis last year after the government bungled a devaluation of the peso. In sharp contrast is Chile, which has stuck ferociously to strict economic discipline under both a military dictatorship and a democratically elected government. Chile's lesson is not being lost on other Latin American countries: Deficits can be controlled.

"Nations can control budget deficits if there is the political will to do it," says Alberto Alesina, a professor of economics at Harvard University. "If there is not enough political will, there are certain institutions that make it easier." Two key factors: Governments need a budget process controlled by a few top leaders and relatively free of smoke-and-mirrors accounting. According to a recent study of 20 Latin American nations he co-authored, countries with the best budget policies had deficits substantially lower (an average of 2.9 percentage points lower relative to GDP) than other countries with fewer fiscal controls.

It's important to distinguish between spending on consumption and spending on investment, says David Parsley, an economist at Vanderbilt University in Nashville. One problem with the US budget process, he adds, is that politicians from both parties have declared certain areas, such as Social Security, off-limits to budget-cutters.

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