FÆU, Alm.del - 2016-17 - Bilag 1: Indberetning nr. 5/2016, fra Rigsombudsmanden

Færøudvalget 2016-17
FÆU Alm.del Bilag 1
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SHORT TERM ECONOMIC OUTLOOK, PRORITIES MADE IN THE WORK OF THE COUNCIL, AND THE

ECONOMY OF THE MUNICIPALITIES

Chapter I of the Report

is an assessment of the short-term economic trends in the Faroes.

The unusual development in the Faroese economy over the last few years and the lack of official

statements of the national economy stated in constant-price GDP have made it difficult to generate

accurate short-term analytical projections. This semi-annual review concludes that GDP growth in

current year prices for 2015 and 2016 is projected somewhat higher than in the last report.

The parts of this report on the short-term economic outlook is organized according to the demand

side (expense side) of the country’s GDP. Overall aggregate demands for goods and services are

based on two driving forces: domestic demand for consumption and investment, and net foreign

demand for exports.

Statistics Faroe Islands and the Economic Council have jointly estimated GDP growth in current

prices for 2014-2017. The most current official account of the national economy is for 2013, and

no changes have been made in the previous projections for 2014-2015. To facilitate the

projections for 2016 and 2017, an economic model has been used, which was developed by the

Faroese National Bank (Landsbankin) and Statistics Faroe Islands, and which is currently

maintained jointly by the Economic Council and Statistics Faroe Islands. The table below shows the

projected growth in GDP in current year prices for the period 2014-2017 and the driving forces

behind this projected growth.

2014

Estimated GDP growth in

current year prices:

Growth derived from:

5,8%

Foreign

demand

2015

6,2%

Just over 60%

domestic demand

2016

8,5%

Just under 60%

domestic demand

2017

4,1%

Domestic

demand

While consumption has been the most stable aspect of domestic demand, investment has been the

most fluctuating. Public sector investment in the Faroes, as part of overall domestic demand, has

traditionally correlated positively with the economic cycles. The same is the case for public

(government) expenditure. This pattern has always been detrimental to economic development

and is, to all appearances, about to be repeated, given that the investment plans for the central

government and the municipalities are quite extensive for 2016 and 2017. There seems to be a

need for a coordinated re-evaluation of public investment plans. Coordinating the national

government and municipal budgets is also needed. This could e.g. be accomplished by widening

the national spending ceiling framework to also include the municipalities.

For some time now, the Faroes has had a greater trade surplus than ever before. One reason for

this is improved terms of trade in foreign trade, derived from an increase in farmed salmon prices

and lower oil prices. Also, greater quantities in pelagic fisheries has influenced the result.

Current economic indicators suggest a marked upswing in the economy with low unemployment,

positive net migration and economic growth. Given these circumstances, the national fiscal

accounts ought to show a large surplus. As noted in the previous report, the use of the revenue

generated from the pre-taxing of pension savings to finance lower taxes disrupts the true picture

of the government’s long-term economic sustainability.

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Chapter II is a report on the priorities in the Economic Council’s operations

FÆU, Alm.del - 2016-17 - Bilag 1: Indberetning nr. 5/2016, fra Rigsombudsmanden

In the previous reports of 2015 and 2016, the Economic Council has focused on

the economic

sustainability challenge

faced by

the public sector in the Faroes

because of changes in the

population’s age distribution in the near future.

The current Economic Council believes this

sustainability challenge

– and issues related to it – is

one of the most urgent economic issues to be analysed during its four-year term, including

numerical analyses of the challenge. In this regard, the Economic Council recommends that

economic policies are prioritised that focus on long-term and mid-term economic development.

The short-term economic perspective is one things, the mid- and long-term another. The Economic

Council is convinced that too much emphasis is put on the short-term perspective and that the

authorities ought to make more specific plans that cover perspectives for the mid-term (e.g. the

next ten years) and the long-term (e.g. the next 25 years).

Economic cycles come and go. Hardly anyone questions that the economy will experience a slump

again but no one knows when. The Economic Council believes that the recent trend in population

size, positive net migration and unemployment are contingent upon the economic cycle. The same

is the case for other key figures.

The Economic Council is convinced that greater emphasis must be

placed on economic growth that is not contingent upon short-term economic cycles. This means

that greater emphasis ought to be placed on the supply side of the economy.

It may be appropriate to distinguish between two types of economic growth:

(1)

Short-term economic growth

that is caused and sustained by swings in economic

cycles. Such economic growth is usually caused by changes on the

demand side

of the

economy, i.e. by the ”shocks” that to a certain extent ”self-fuel” changes in public and private

demand in both consumption and investment, and by changes in net export. Though, in the

Faroes changes in fisheries and fish farming, triggered by the supply side, will affect net

export demand significantly.

(2)

Long-term economic growth

that is caused and sustained by other factors than swings in

economic cycles and is especially determined by changes in work-hour productivity contingent

upon technology (i.e. not determined by economic cycles) and by changes in employment not

contingent upon economic cycles. Such economic growth is therefore caused and sustained by

changes in the productive capacity of

the supply side

of the economy.

These are some important issues in giving greater care to distinguishing between a

short- and

long-term perspective.

It is undoubtedly the case that economic policy initiatives that influence

economic growth and employment in the

short-term perspective

(the demand side of the

economy) are of little advantage to the

long-term perspective

(the supply side of the economy).

And vice versa, economic policy initiatives that create economic growth and employment in the

long-term are of little short-term benefit.

The GDP that Statistics Faroe Islands draws up encompasses only the

actual GDP.

This

actual GDP

includes contributions from swings in economic cycles as well as contributions from growth in

production and employment not contingent upon economic cycles.

The Ministry of Finance has begun to use the EU recommended calculation methods for revealing

the influence of swings in economic cycles on the

actual GDP.

The result is

a calculated size for the

GDP (structural GDP),

which is not influenced by the economic cycles but only contains

contributions from growth in work-hour productivity and employment. Using its calculations of the

GDP not contingent upon economic cycles, i.e.

a structural GDP,

the Ministry of Finance is

expected to be able to calculate

the structural unemployment rate

(unemployment not contingent

upon economic cycles),

the structural employment

(employment not contingent upon economic

cycles), and

the cyclically adjusted budget balance for the public sector

(the balance not

contingent upon economic cycles).

FÆU, Alm.del - 2016-17 - Bilag 1: Indberetning nr. 5/2016, fra Rigsombudsmanden

The calculations of the Ministry of Finance discussed above are, for the time being, at a beginning

stage. The Economic Council recommends that higher priority is placed on producing and

correcting calculations, which primary prerequisite is that the GDP is drawn up in constant prices.

Chapter III is a report on municipalities

The Economic Council has shown that the municipalities’ growth in expenses has far surpassed

that of the central government’s expenses in recent years. The basis of this judgment is data

provided by Búskaparskipan landsins, a department of the Revenue Office of the Faroe Islands.

The situation makes new legislation on municipal economic management necessary for the

purpose of, among other things, preventing fiscal policies that correlate positively with the

economic cycles and ensuring long-term sustainability in the public sector.

The national economy is managed by a spending ceiling framework, which, however, lacks

sufficient regulations on the consequences for not keeping within the limits of the spending ceiling

framework. With the transferral of elder care to the municipalities, large sums were transferred

from the national budget managed within the spending ceiling framework to the municipal budgets

with no spending ceiling framework or fixed spending limits.

Policies that correlate positively with the economic cycles have, as already mentioned, been the

norm and not the exception in the Faroes. In this regard, it has been argued, from the perspective

of the municipalities, that an unstated condition in the Municipal Council Act is that the

municipalities are obligated to not retain the funds received through taxation but to use it for

operations and investments.

This ought to be an occasion for national politicians to change the legal framework to not only

include a municipal spending ceiling framework and maximum and minimum limits in each

municipality’s tax rate, but also to introduce regulations for municipal cash reserves and for the

placement of surpluses of annual municipal financial results.

If such a reform was conducted, including bringing the Municipal Council Act up to date, this would

be a good occasion to make changes in art. 54 in the same act that currently limits the size of a

municipality’s net debt to one annual net tax assessment. This could be limited further to less than

one net tax assessment. Toughening such measures is defensible since this would encourage the

municipalities to keep the budget surplus of “good times” to be used later.

Everything is small-scale in the Faroes; Considering the population size, the country is no larger

than a municipality in the neighbouring countries. Therefore, it is not appropriate to use

municipalities in the neighbouring countries and their areas of jurisdiction as models for Faroese

municipalities.

Another issue is the question of municipal equalization. An overarching goal in the services

municipalities offer their citizens is that they not exceed or fall below set standards, no matter

where in the country or in what municipality a citizen resides. Considering the many small

municipalities and great disparity in the sizes of the municipalities in the Faroes, the Economic

Council does not believe the gain of a municipal equalization system for the whole municipal

economy, as used in other countries, would be worth the effort. The most effective and simple way

toward greater municipal equalization – an equalization that covers the entire municipal economy

– is undoubtedly appropriate municipal mergers, e.g. merging municipalities according to the elder

care zones.