Public sector net worth
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The change in public sector net worth in any given forecast year is largely driven by the operating balance and property, plant and equipment revaluations.[1]
Research suggests that the main fiscal factor driving bond yields hence appears to be government net worth.[2]
Focusing on net worth as the most comprehensive measure of fiscal position incentivizes the public sector to invest the proceeds of borrowing in productive investments rather than use debt to finance consumption spending.[3] Net worth also provides a tool for assessing whether government policy is fair to future generations from a financial point of view; negative, or declining, net worth indicates that past or present consumption will ultimately need to be funded by future taxation.
Public (Sector) Net Worth is a financial measure of a government's wealth, considering the value of its entire balance sheet. Similar to the private sector's balance sheet measurement, net worth is defined as total assets minus total liabilities.
While net worth is central to financial management in the private sector, based on audited accrual numbers, most governments today overlook their balance sheets. Instead, they measure financial health using simple cash measures, such as the relationship between income and expenditure and the amount of outstanding government debt, often expressed as a percentage of GDP.
This discrepancy in accounting practices means that government financial health is less understood compared to private entities.[4] Only very few countries, like New Zealand, prioritize the balance sheet in government financial decision-making.[5] As a result, governments often lack crucial information that could enhance the management of public services and public finances' safety.
Proponents of Public Net Worth as a key fiscal target argue that governments would benefit from complementing their current fiscal rules with a primary rule based on net worth, which more comprehensively reflects their financial position. They claim that adopting accounting-driven, net worth-based fiscal rules creates opportunities to improve long-term public finances without cutting public services or increasing taxes.[6]
Accrual accounting in the public sector is gaining traction among national and local governments. Industry reports indicate that a third of the world's governments have adopted accrual-based accounting.[7] However, the implementation depth varies, with many governments planning to report on an accrual basis but continuing to budget and appropriate on a cash basis, judging their position based on debt.
An undue focus on cash flows and debt results in poor management of assets, especially non-financial assets, and non-debt liabilities such as public service pensions and insurance obligations.[8] Public Net Worth is increasingly seen as a key fiscal measure to complement other fiscal ratios, especially after the International Monetary Fund (IMF) embraced the idea of the public sector balance sheet in 2018.[9]
Focusing on net worth as the most comprehensive measure of fiscal position incentivizes the public sector to invest borrowing proceeds in productive investments rather than using debt to finance consumption spending. Net worth also provides a tool for assessing whether government policy is fair to future generations from a financial perspective; negative or declining net worth indicates that past or present consumption will ultimately need to be funded by future taxation.
Research suggests that government net worth is a main fiscal factor driving bond yields.[10] IMF research indicates that governments with stronger net worth recover faster from recessions and have lower borrowing costs.[11][12]
