Public Sector Governance and Accountability Series: Budgeting and ...

76 Salvatore Schiavo-Campo
Loan Guarantees
The most common explicit contingent liabilities are loan guarantees. The government
can guarantee loans by agencies, enterprises, and other autonomous
agencies under its broad control as well as for private sector corporations in
selected situations, whether from domestic or foreign sources of financing. In
general, loans to nongovernment entities by international financial institutions
require a government guarantee.
Although guarantees have long been recognized as an appropriate government
instrument, they can have a significant impact on fiscal deficits,
sustainability, and vulnerability. This impact became evident from the
experience of many countries in Latin America and Africa in the 1980s,
where borrowers defaulted on most loans. The government naturally had
to assume debt servicing and repayment of those loans, thereby adding a
lasting burden to an already stretched budget.
In general, government guarantees are justified if the borrower lacks the
required creditworthiness (or if limited creditworthiness entails high borrowing
costs), as long as the purposes of such guarantees are consistent with
government objectives, programs, and policies. When imperfect information
gives potential lenders an inadequate picture of a borrower’s creditworthiness,
government guarantees remedy the market distortion and are appropriate
from both an economic and a policy viewpoint. In practice, however, these
guarantees are often granted without an assessment of the capacity of the
beneficiary entity to reimburse the loan or are provided as favors to wellconnected
borrowers, and they are not systematically recorded.
The expenditure equivalent of guarantees is difficult to estimate without
a long series of data on the frequency of loan default. However, the budget
should at least include a list of guarantees that the government intends to grant
and an aggregate monetary ceiling for those guarantees. In several countries,
the government levies a fee when it guarantees loans. This procedure presents
the advantage of creating a mechanism for registration and monitoring, and
it also constitutes to some extent an insurance payment in case of default. If
the guarantee fee is proportionate to the risk of default (and the risk is assessed
correctly), it will, in the aggregate, suffice to cover the eventual cost. Of course,
the implicit subsidy element will then disappear, but the purpose of guarantees
is to offset a lack of creditworthiness, not to subsidize credit.
Effective budgeting calls for tight management of guarantees. Such
management should, first, compel consideration of the implications of each
proposed guarantee and allow the subsidy element in such guarantees to be
calculated. Second, procedural safeguards should minimize the adverse impact
of guarantees on the fiscal position. Third, the financial performance of the