4 General Government Finances ­ Deficit and
Debt
4.1 The Strategy of the Government's Budget Policy
The Czech Republic continues to register excessive budgetary deficits, which are an obstacle
on the way to fulfilling the Maastricht criteria. In its new programme declaration, the new
government, formed in May 2005, asserted its strategy for reducing the budget deficits and its
conscientious compliance with the Convergence Programme.
The public finance reform approved in 2003 and implemented in 2004 contained a set of
measures geared to strengthening the income side and to achieving expenditure savings. In
accordance with the adopted Conception of Public Finance Reform, the government continues
to reduce the public finance deficit so that the consolidated public finance deficit does not
exceed 3% of GDP in 2008.
Binding medium-term expenditure frameworks will continue to be an important pillar of the
budget policy . These set the maximum volume of expenditures of the central government for
a three-year period that corresponds to the established fiscal target. The expenditure
frameworks can also help to identify the volume of savings needed to secure the target or to
assess the government's success in reducing expenditures.
4.2 The Medium-Term Objective of Budgetary Policy
The Czech Republic will eliminate the excessive public budget deficit within the timeframe of
the Convergence Programme. In 2008, the public budget deficit should fall safely below 3%
of GDP. This step is the highest priority of all in the area of budgetary policy and government
policy. The programme assumes a gradual reduction in the general government deficit to
3.8% of GDP in 2006, 3.3% in 2007 and 2.7% in 2008.
A tool for implementing the fiscal targets should be compliance with the binding expenditure
frameworks. Successful compliance with these frameworks will promote expenditure-oriented
fiscal consolidation. It will not be in conflict with the built-in stabilisers and will increase the
transparency and credibility of the budget process.
Table 4.1: Deficit by sub-sectors
Year Year Year Year Year
2004 2005 2006 2007 2008
(1) (2) (2) (2)
Net lending (B9) by sub-sectors
General governm ent S.13 -3,0 -4,8 -3,8 -3,3 -2,7
Central governm ent S.1311 -3,0 -4,9 -3,5 -3,0 -2,4
Local governm ent S.1313 -0,1 -0,1 -0,3 -0,3 -0,3
Social security funds S.1314 0,0 0,1 0,0 0,0 0,0
% of GDP ESA code
(1) Estimate
(2) Trend values or period averages
Source: Ministry of Finance
20
4 General Government Finances ­ Deficit and Debt
Eliminating the excessive deficit is only the first step towards a medium-term objective
consistent with the fiscal regulations of the European Union. The fiscal regulations of the
Stability and Growth Pact promote the medium- and long-term focus for public budgets. The
Czech Republic will make every effort to quickly reach such a medium-term public finance
position. In reaching this goal, the 3% criterion of the Stability and Growth Pact will not be at
risk during the cycle from the standard fluctuations of output around its potential level. Year-
on-year cuts of 0.5 percentage points in the public budget deficit are seen to be an adequate
and reasonable trajectory for reaching the medium-term target.
In accordance with the revised Stability and Growth Pact, the Czech Republic can be
categorised as a country with a medium-term public budget deficit target of around 1% of
GDP ­ in view of its above-average economic growth and relatively low level of public debt.
The Czech Republic could attain this operative target by 2012. However, budgetary
development over the long term will depend on the need to prepare for the process of an
ageing population. The trajectory for the medium-term targets could only be disrupted by
substantial structural reforms with direct budgetary costs, as could be the case for the pension
system reform.
4.3 General Government Finances from 2004 to 2006
2004
Last year's Convergence Programme anticipated a deficit of 5.2% of GDP in 2004, however,
according to the latest estimates, the general government deficit was only 3.0% of GDP (CZK
83.5 billion). This development was supported by the legislative change in budgetary rules
that allowed for the first time to carry over an unlimited amount for the under-executed
budgetary allocations of government organisational units by transferring corresponding funds
to their own reserves. This amounted to CZK 29 billion (ca 1.1% of GDP) and the reserves
saved could be used for strengthening expenditures in upcoming years. These unexpected and
sizeable carry-overs made it difficult to estimate the general government deficit. They had
also created the potential for increasing the expenditures and deficit in 2005 above the
government's budgetary plans.
The total tax revenues of the consolidated public budgets in 2004 exceeded the budgeted tax
revenues by CZK 11.7 billion (0.4% of GDP). Higher tax revenues in combination with
overall lower expenditures (as a result of under-executed budgetary allocations from the state
budget headings) and reclassification of state guarantee7
in favour of the CNB from 2004
to1997 accountancy amounting to CZK 22.5 billion (0.8% of GDP) contributed to reducing
the deficit from the planned 5.2% of GDP to 3.0% of GDP. Thanks to these extraordinary
factors, general government finances finished in a substantially better position than in the
original budgetary plans.
2005
The previous Convergence Programme anticipated a deficit of 4.7% of GDP for 2005. The
estimate of the deficit was changed to 5.0% of GDP in the March notifications. In the autumn
notifications, the Ministry of Finance then estimated a deficit of CZK 140.5 billion (4.8% of
7
A Eurostat decision under the notification of the government debt and deficit dated March 2005
21
4 General Government Finances ­ Deficit and Debt
GDP). After adjusting the September government deficit estimate for extraordinary operations
(see Box 4.1), which were included in last year's programme, the government deficit would
be 1.1 percentage points lower, i.e. 3.7% of GDP. Economic growth accompanied by an
increase in tax revenues and slower execution of budgetary expenditures has a positive effect
on the budget deficit, which creates space for better deficit outcome than originally targeted..
Box 4.1: Extraordinary public budget operations in 20058
Recording unrecoverable receivables in Syria amounting to CZK 18.7 billion (0.6% of GDP)
Supplying military technology for the army as a form of payment on the Russian debt increased the general
government deficit by CZK 3.3 billion (0.1% of GDP).
A change in the accounting for recording the lease of Grippen aircraft, when, after the March government
deficit and debt notifications, it was definitely decided to fully record this operation in 2005. As a result, the
deficit had increased by CZK 9.6 billion (0.3% of GDP).
Favourable tax performance is influenced in particular by corporate income taxes and excise
tax revenues (increasing the excise tax rates on tobacco and improving the administration of
excise taxes). Higher-than-budgeted corporate income tax revenues are the result of
accelerated economic growth and positive developments for the profits of large corporations.
A rise in excise tax revenues is connected with an increase in the transport of goods across the
Czech Republic. The anticipated rise in tax collections against planned revenues amounts to
approximately CZK 25.5 billion (0.9% of GDP). The estimate of the 2005 tax revenues was
complicated by the comprehensive changes in the structure of taxation, the impact of which
can be difficult to quantify with adequate precision.
The rise in tax revenues cannot be explained by the economy's cyclical development. During
the past two years, tax revenues have structurally increased, and there are two reasons for this.
The first reason relates to the fact that the estimate of potential GDP growth was significantly
increased. The second reason involves the change in the structure of taxes relating to the
range of measures adopted in the public finance reform (see Convergence Programme,
November 2004) that increased the overall level of tax revenues above the budgetary plan.
In connection with the 2004 carry-overs, there was a risk on the expenditure side that the
expenditure plan for 2005 would be exceeded. The budget headings carried over CZK 24.9
billion to 2005 that could be used for additional expenses. However, the fiscal performance of
the state budget shows that the budget headings will not increase their expenditures above the
approved 2005 budget. The creation of reserve funds in an expected amount of CZK 20.3
billion will then correspond approximately to the carry-overs from 2004, and the impact on
the balance in 2005 will be almost neutral (CZK 4.6 billion, i.e. 0.15% of GDP).
The execution of state budget expenditures for the first three quarters of this year reached
about 68.5%of the full year budget, which corresponds more or less to the level drawn down
last year. A lower volume of drawn resources is registered, in particular, by debt service.
Mixed developments were recorded in the area of social benefits. On the one hand, a lower
volume of benefits was executed for government social support benefits and other social
8
See the conclusions of Eurostat's EDP mission, August 2005.
22
4 General Government Finances ­ Deficit and Debt
benefits. The savings in this area, however, are offset by higher than budget expenditures for
pensions, sickness benefits and social welfare benefits.
2006
The planned public budget deficit for 2006 is 3.8% of GDP. This estimate is based on the
continued dynamic growth of the Czech economy. The very favourable structural
development of tax revenues supports the consolidation of public budgets and helps to reduce
the general government deficit.
In 2006 as well, the Ministry of Finance anticipates a continuation of favourable tax revenue
development. The effect of the higher tax base from 2005 will show up, and the autonomous
development of taxes will substantially exceed the volume of taxes predicted last year during
preparation of the medium-term fiscal framework. In view of the prepared legislative changes
for personal income tax (a rate reduction, extending the tax brackets and replacing the
deductible entries with tax credits), a reduction in direct taxes can be expected. The
compound tax quota should, therefore, decrease after reflecting the active measures.
The structural increase in tax revenues helped to meet the fiscal targets. This development
weakened the need of substantial expenditure savings in an election year. The Czech Republic
will be capable of fulfilling the objective of the Convergence Programme despite the fact that
certain expenditure savings were not implemented. It was not politically feasible to
implement all of the expenditure measures proposed by the Ministry of Finance in the
previous programme (reducing expenditures for social welfare benefits and state social
support, freezing the wages of court officials, judges and members of parliament, and an
overall restriction of budget heading expenditures).9
Exceeding the expenditure framework of the central government is expected in the draft state
budget for 2006 against the expenditure framework approved by the resolution of the
Chamber of Deputies. The expenditure framework of the central government was increased
by CZK 24.3 billion (0.8% of GDP). However, thanks to higher expected tax collection, the
general government deficit that the Czech Republic committed itself to will not be exceeded.
This increase allowed the government to achieve higher valorisation of pensions above the
framework considered in the conception of public finance reform. In the area of state social
support, an increase in benefits is expected in relation to the planned increase in the minimum
subsistence level. The government also plans to increase social benefits paid out to families
with children in response to a recovery in the Czech Republic's birth rate. These measures
will lead to an increase in the share of mandatory social expenditures. More resources are also
expected for active employment policy, employing disabled persons and environmental
protection.
In 2006, downscaling of the number of employees in the central government will continue.
Out of approximately 29,000 positions to be eliminated between 2004 and 2006, 13.2% of this
total amount will occur during 2006. The number of positions will decline by 3,900 positions
9
Convergence Programme of the Czech Republic, autumn 2004, p. 42, table 6.2 ­ Additional Savings Measures
Suggested by the Ministry of Finance
23
4 General Government Finances ­ Deficit and Debt
against 2005 (i.e. by 0.83%).10
With respect to the overall plan for downscaling the number of
positions, a reduction of 16,600 will occur, i.e. about 56% of the planned change.
Table 4.2: General government deficit and debt, by sub-sector
Year Year Year Year Year Year
2001 2002 2003 2004 2005 2006
(1) (1) (2)
Net lending (EDP B9) by sub-sectors
General government S.13 -5,9 -6,8 -12,0 -3,0 -4,8 -3,8
Central government S.1311 -5,6 -6,3 -11,6 -3,0 -4,9 -3,5
Local government S.1313 -0,3 -0,2 -0,3 -0,1 -0,1 -0,3
Social security funds S.1314 0,0 -0,2 -0,1 0,0 0,1 0,0
% of GDP ESA code
(1) Notification (September 2005)
(2) Trend values or period averages
Source: Czech Ministry of Finance
4.4 The Cyclically Adjusted Budget Balance and Fiscal Stance
During the timeframe of the Convergence Programme, the Czech economy will be close to its
potential. The output gap will be slightly positive in 2005 and 2006. A decline in actual GDP
below the potential is already assumed in 2008 as a result of acceleration of the potential GDP
growth rate. According to expectations, potential growth will be driven by total factor
productivity.
The cyclical component of public budgets is very low due to the low absolute value of the
output gap from 2005 to 2008. The level of fiscal restriction can be explained the best by a
change in the cyclically adjusted primary balance that isolates the effect of an expected rise in
interest payments. The decline in the cyclically adjusted primary balance will be on average
0.8 of a percentage point per annum between 2005 and 2008, which can be seen as an
adequate tempo that does not conflict with the government's efforts to sustain robust
economic growth.
10
After offsetting the transfer of the regional school councils. These were transferred during 2005 and
incorporated once again into the central government in 2006.
24
4 General Government Finances ­ Deficit and Debt
Table 4.3: Cyclically adjusted balance (a)
Year Year Year Year Year
2004 2005 2006 2007 2008
(1) (2) (2) (2)
1. Real GDP growth (%) 4,4 4,8 4,4 4,2 4,3
2. Net lending of general government EDP B.9 -3,0 -4,8 -3,8 -3,3 -2,7
3. Interest expenditure (incl. FISIM) EDP D.41 1,3 1,3 1,3 1,3 1,4
4. Potential GDP growth (%) 3,6 4,3 4,3 4,3 4,5
contributions:
- labour 0,0 0,2 0,1 0,1 0,1
- capital 1,1 1,2 1,1 1,1 1,2
- total factor productivity 2,5 2,9 3,1 3,1 3,1
5. Output gap -0,4 0,1 0,1 0,0 -0,2
6. Cyclical budgetary component -0,1 0,0 0,0 0,0 0,0
7. Cyclically-adjusted balance (2 ­ 6) -3,0 -4,8 -3,8 -3,3 -2,7
8. Cyclically-adjusted primary balance (7 ­ 3) -1,7 -3,5 -2,5 -2,0 -1,2
% of GDP ESA code
(a) Member states can complete rows 4 to 8 using their own figures or the Commission's figures.
(1) Estimate
(2) Trend values or period averages
Source: Ministry of Finance
4.5 Government Debt
At the end of 2004, the general government debt reached 36.8% of GDP. The medium-term
fiscal framework assumes only a slight increase in the debt-to-GDP ratio. By the end of 2008,
an increase of one percentage point in the government debt is expected against 2004. Hence,
the general government debt will increase to 37.8% of GDP in 2008. With current nominal
GDP growth, a deficit level that ensures stabilisation of the share of government debt in GDP
should be attained in 2008.11
The debt projection is based on the assumption that the Czech Consolidation Agency (CKA)
will wind up its activities by 2007, and with a reduction in the balance sheet, the volume of its
liabilities will also decline. Another assumption is that the government will no longer provide
additional risk guarantees. Government guarantees and CKA's accumulated loss will be
progressively covered by the state budget. CKA's debt will be reduced from 3.3% to 0% of
GDP, and the volume of imputed state guarantees will decrease from 9.2% to 5.4% of GDP.
In this way, CKA's liabilities and the imputed state guarantees will be gradually transformed
into tradable debt instruments.
11
With a nominal GDP growth rate of ca 7% per annum and a debt level of ca 38% of GDP, a deficit of ca 2.5%
to 3.0% of GDP will stabilise the share of the debt in GDP.
25
4 General Government Finances ­ Deficit and Debt
Table 4.4: Government debt ­ share by sub-sector
Year Year Year Year Year
2004 2005 2006 2007 2008
(1) (2) (2) (2)
Gross debt by sub-sectors
General governm ent S13 36,8 37,4 37,1 37,9 37,8
Central governm ent S1311 34,2 34,6 34,3 35,0 34,8
of which: CKA 3,3 1,6 1,0 0,2 0,0
state guarantees 9,2 8,2 7,5 6,0 5,4
Local governm ent S1313 2,6 2,8 2,8 2,9 2,9
Social security funds S1314 0,0 0,0 0,0 0,0 0,0
% of GDP ESA code
(1) Estimate
(2) Trend value or period averages
Source: Ministry of Finance
The growth dynamics of the government debt will gradually diminish after 2005. Nominal
GDP growth of 6.0% to 7.5% annually will contribute every year to reducing the debt level by
about 2.0 to 2.5 percentage points and thus will offset a substantial part of debt growth due to
ongoing deficits. The deficit's contribution to debt accumulation will be reduced over time
with gradual fiscal consolidation. In 2005, high revenues from privatisation will contribute to
a decline in the debt to 3.5% of GDP. These revenues will not be used entirely to cover the
debt in this year, and a certain amount will be available to finance the deficits in 2006 as well.
For this reason, we anticipate a decline next year in the share of the government's debt in
GDP. In 2007 and 2008, debt dynamics are almost entirely determined by the general
government deficit and nominal GDP growth.
Table 4.5: Government debt and related indicators
Ye ar Ye ar Ye ar Ye ar Ye ar
2004 2005 2006 2007 2008
(1) (2) (2) (2)
Gros s de bt 36,8 37,4 37,1 37,9 37,8
Change in gros s de bt 0,0 0,6 -0,3 0,8 -0,1
Contributions to change in gros s de bt
Prim ary balance 1,8 3,5 2,5 2,0 1,2
Inte re s t e xpe nditure (incl. FISIM ) 1,3 1,3 1,3 1,3 1,5
Nom inal GDP grow th -2,6 -2,0 -2,3 -2,4 -2,6
Stock -flow adjus tm e nt -0,5 -2,3 -1,8 -0,1 -0,2
- Difference b etween cash and accruals -0,2 -0,5 -0,1 0,0 0,0
- Net accumulation of financial assets -0,6 -3,5 0,0 0,0 0,0
of which: Privatisation proceeds -0,6 -3,5 0,0 0,0 0,0
- Valuation effects and other 0,3 1,8 -1,7 -0,1 -0,1
p.m . im plicit inte re s t rate on de bt 3,7 3,7 3,8 3,9 4,1
% of GDP
(1) Estimate
(2) Trend values or period averages
Note: The difference between the cash and accrual approach is approximated by the difference
between the balance using the national methodology, which is based on the cash principle and
more closely correlates to debt development, and the balance using the ESA 95 methodology. Net
accumulation of financial assets only contains the decline in assets as a result of privatisation.
"Overvaluation and other factors" is a residual term.
Source: Ministry of Finance
As for administering government obligations and drafting a medium-term strategy for
financing the central government, the primary focus is on the indebted segments of the
26
4 General Government Finances ­ Deficit and Debt
general government whose financial security is under the direct responsibility of the Ministry
of Finance. The state debt (23.7% of GDP) is the main balance sheet entry of these
government obligations. Moreover, this involves obligations arising from covering CKA's
expected financial needs from 2006 to 2008 (1.2% of GDP) and risky state guarantees (8.2%
of GDP) that, represent for the expenditure side of the state budget a financial risk analogous
to the debt structure.
Starting in 2005, the integrated administration of the given three segments was implemented
in respect to costs and risks and to planning the strategy of financing and issue activities. In
2006, this portfolio integration should also include state financial assets excluding foreign
receivables (6.8% of GDP) allowing for further improvements in the administration of a wider
government financial balance.
Managing refinance risk
In relation to its decision to launch regular issues on the foreign market, the Ministry of
Finance announced in the first half of 2004 a gradual three-year trajectory for a decline in the
share of short-term government debt (with a maturity of one year). The following targets were
set for 2004 to 2006: 25% to 30% for 2004, 22.5% to 27.5% for 2005 and 20% to 25% for
2006. By the end of 2004, a value of 25% was reached, exactly at the lower limit of the
announced band, which helped to speed up the process of reducing the short-term debt. A
target of 24% or less was announced for 2005, and starting at the end of 2006, a target of 20%
or less. By the end of 2005, we anticipate a value of around 22%, i.e. meeting the target for
this year. By the end of 2006, the ministry should reach the final planned and long-term
targeted limit of 20%, which starting from 2007, will become one of the most fundamental
limits of risk management in upcoming years.
Another indicator used during refinance risk management is the average period to maturity for
the government debt. In December 2004, the ministry announced a target of 5.5 to 6.5 years
for the first time in the Strategy for Financing and Management of the State Debt. By the end
of this year, a value of around 5.8 years is expected. The Ministry of Finance will continue in
its policy of extending the maturity of the state debt in the medium-term horizon as well.
Managing interest rate risk
Interest rate risk remains the most important market risk in managing the state debt. In respect
to launching interest rate risk management through financial derivatives, the ministry
introduced in 2002 annual targeting of the modified duration of the state debt. This newly
defined target, including the effect of financial derivatives, was set at 3.8 years  0.4 of a year
for 2005. Against 2004 (with a target of 3.3 to 4.3 years), the midpoint target value of
duration was sustained while narrowing the band by 0.2 of a year. The ministry does not plan
to make any additional increases of a more significant nature in the modified duration during
the medium-term horizon, however, as in this year, it will attempt to stabilise it in a narrower
band.
The current exposure vis--vis a change in interest rates up to one year generated by the
structure of the government debt (after including derivative operations), i.e. interest rate
refixing up to one year, will be stabilised under 30% starting from the end of Q3 2004.
27
4 General Government Finances ­ Deficit and Debt
Table 4.6: Government debt from the standpoint of interest
Year Year Year Year
2002 2003 2004 09/2005
1. Fixed interest rate long-term debt 57,1 64,7 75,2 76,3
1a. Of which: due in 1 year or less 7,2 7,9 3,7 4,5
2. Variable interest rate long-term debt 1,1 2,4 3,5 8,8
3. T-bills 41,4 32,6 21,2 14,8
4. Non interest bearing debt 0,4 0,3 0,1 0,1
1a. Of which: due in 1 year or less 0,3 0,3 0,1 0,1
5. Debt subject to IR re-fixing w ithin 1 year (1a + 2 + 3 + 4a) 50,0 43,2 28,5 28,2
6. Including effect of interest rate sw aps 36,8 36,4 27,0 27,9
in %
Note: The figures in the table include the impact of currency and interest rate derivative operations.
The effect of the portfolio derivatives that are not connected to specific debt instruments is given in
line 6.
Source: Ministry of Finance
The interest rate sensitivity of the debt portfolio, including derivative operations expressed
using modified duration is expected to be in a range of 3.9 to 4 years by the end of 2005 and
is situated within the announced targeted band. It can be inferred from the amount of the
government debt and its structure from the standpoint of interest that increasing interest rates
by one percentage point would increase interest rate payments by about CZK 1.8 billion
(0.1% of GDP) within a one-year period when accounting for the effect of derivative
operations.
Managing currency risk
The exchange rate exposure of the government debt remains at a negligible level of 0.07%
even at the end of the year.12
The Eurobond issues in 2004 and 2005 were hedged against
exchange rate risk by agreement between the Governor of the CNB and the Minister of
Finance. The potential market appreciation impact of the single conversion of the issue
proceeds of EUR 1.5 billion or EUR 1 billion, respectively, to CZK was also eliminated in
this fashion. Higher currency exposure is present in the structure of risky state guarantees (ca
28%).
The risk profile of the state guarantee portfolio
From the standpoint of managing the market risk of the expenditure side of the state budget,
not only the structure of the state debt is relevant, but also the structure of the portfolio of
state guarantees provided for loans for which the state budget covers principal instalments and
interest payments. The Ministry of Finance thus began integrated monitoring of the portfolio
of the state debt and risky state guarantees. As a part of managing the government debt,
regular monitoring of the state guarantee portfolio was introduced in connection with the
strategic goals of the government's debt policy and the ministry's risk management.
12
This involves USD bills of exchange issued for the Czech Republic's participation in the EBRD and around
EUR 12 million for the principal on Eurobonds from 2005, which remained unhedged against currency risk..
28
4 General Government Finances ­ Deficit and Debt
Table 4.7: Risk profile of the government debt, including state guarantees (end
of September 2005)
Volume Foreign
currency
Variable
interest rate
Due in one
year
Average
maturity
Modified
duration
bil CZK % % % years years
State debt 662,6 0,1 4,3 19,4 5,8 3,9
Analyzed state guarantees 95,6 27,9 23,1 27,4 3,9 2,3
Total portfolio 758,2 3,6 6,7 21,4 5,6 3,7
Source: Ministry of Finance
Integrated management of government obligations proved to be effective during the first year
of implementation, and over time, it should also lead to further expansion in the direction of
integrating the structure of government obligations with the portfolio of government financial
assets.
4.6 The Budget Consequences of Important Structural Reforms
The government submitted a package of social legislation to the Chamber of Deputies this
year that, if adopted, should strengthen motivation for labour activities and more efforts
towards changing the social and economic situation. The changes reinforce the already
approved measures in the previous Convergence Programmes (limiting the amount of
sickness benefits and state welfare benefits, permitting a combination of proceeds and
collection of parental contributions, and entitlement to social benefits conditioned by the duty
to accept eight hours of public service work per month).
The newly proposed changes are related to the following areas:
· Minimum subsistence level
· Sickness insurance
· Poverty relief
· Social services
· Social security.
As for the minimum subsistence level and poverty relief, efforts are being made to set the
system of social benefits so that citizens are actually motivated to work. The aim is to
sufficiently and justly protect citizens from poverty, as well as motivate them to actively seek
employment and to even accept lower paid jobs benefiting those who try to increase their
income through their own efforts.
Box 4.2: Planned changes in social security
The newly introduced minimum subsistence level will be a one-component system. The minimum subsistence
amounts needed for securing food and other basic needs will be categorised according to the rank of people in a
household, and for unaided children, according to age. The change in the structure of the minimum subsistence
level will also affect the amount of government welfare benefits. The amounts expressing the costs of living
should be eliminated from minimum subsistence, and housing needs will be resolved in the government welfare
system provided by the newly created housing contribution and in the poverty relief system with a housing
allowance. The reason behind this step is the substantial differences in housing costs.
29
4 General Government Finances ­ Deficit and Debt
In addition, the principle of reduced subsistence minimum will be introduced. This will express the costs of
the minimum living standards necessary for survival. The reduced subsistence minimum level will guarantee a
certain minimum standard of living for poverty-stricken individuals who are not entitled to minimum subsistence
support, and in view of their lack of effort to increase their own income, they will receive assistance only at the
level of reduced subsistence minimum. The goal of these changes in poverty relief assistance is to prevent long-
term dependency on social benefits and to give preferential treatment to recipients of benefits who are active in
resolving their own situation.
With respect to sickness benefits, wages compensation should be paid by the employer during the first two
weeks of work sickness. However, this measure should also be compensated by lowering the premium rate for
the employer by 1.9 percentage points (from 3.3% to 1.4%). A positive effect will be associated in particular
with preventing rising costs as a result of the increasing occurrence of short-term illnesses. This will no longer
affect the sickness insurance system but rather the employer's financial results. With this shift of sickness
payments onto the employer, a reduction of CZK 9.2 billion in the state budget expenditures is expected in 2007
and CZK 10.3 billion in 2008. However, the net impact of changes in the area of sickness insurance (after
adjusting for the decrease in premiums) will be negative, i.e. CZK ­10.7 billion in 2007 and CZK ­10.9 billion
in 2008.
As a part of the social package, there will also be a change in the payment structure of certain benefits. A
fundamental change relates, in particular, to the Social Security Act. With regard to introducing a care
allowance, the increase in pension for dependent individuals and the care allowance for next of kin or another
person will be cancelled. The aim of the care allowance is to aid persons who are dependent on the assistance of
other persons and on essential aid from welfare services in particular, due to their adverse social situation.
Entitlement to this allowance is based on a system of personal assessment of an individual's ability to care for
themselves and their self-sufficiency. The allowance amount is set individually according to the age of the
assessed person and to a person's level of dependency on the assistance of others in adverse social situations.
Moreover, a new definition of the assessment base is proposed for the state's payment into public health
insurance for state-insured individuals (children, pensioners, unemployed, etc.) with the aim of securing its
regular valorisation. Although this increases the state budget deficit, it also strengthens the resources of public
health insurance. So a negative effect would occur if more resources were used to increase healthcare
expenditures.
An adjustment in the premium for social security is anticipated with an amendment to the Act on Sickness
Insurance introducing a maximum assessment base for employees as well as an adjustment in the maximum
assessment base for self-employed persons. A maximum employee assessment base of sixty times the average
wage for paying the premium is proposed in 2007, in 2008 forty eight times the average wage, and starting in
2009 thirty six times the average wage. The assessment base of self-employed persons will also be adjusted in a
similar fashion13
. The overall estimated impact of these changes is CZK ­22.4 billion in 2006 and CZK ­24.2
billion in 2007.
13
The proposed maximum assessment base for self-employed persons for the pension insurance premium and the
contribution to the government employment policy is CZK 486,000 prior to 2007, sixty times the average wage
in 2007, forty eight times the average wage in 2008, and starting from 2009 thirty six times the average wage.
These amounts are reduced by CZK 40,500 prior to 2007, by five times the average wage in 2007, by four
times the average wage in 2008 and by three times the average wage starting in 2009.
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4 General Government Finances ­ Deficit and Debt
Table 4.8: Impact of the proposed social legislation
Year Year
2007 2008
New Act on Sickness Insurance -19,9 -21,2
Adjustments in the assesment base
-2,5 -3,0
Overall impact on social contributions -22,4 -24,2
New Act on Sickness Insurance -9,2 -10,3
Social welfare changes due to new subsistence level 3,6 3,9
New poverty relief benefits 10,0 10,5
Abolishment of social need benefits -6,4 -6,4
Contribution to placement in healthcare facilities 1,2 2,0
Welfare contribution (new Social Services Act) 8,0 8,3
Abolishment of the increase in pension for dependent individuals and the welfare
contribution for next of kin or another person -3,7 -3,8
Newly defined assessment base for the state's contribution to public health insurance 3,1 3,9
Overall impact on social expenditures 6,6 8,1
Impact on revenues
Impact on expenditures
Billion CZK
Source: Ministry of Finance
These measures strengthen the motivation for active participation in the labour market and
prevents abuse of the social system. The higher demands on citizens will be offset by a rise in
expenditures in the social sphere. The overall expenditure impact of all proposed measures in
the social package is negative and amounts to CZK 29 billion in 2007 and CZK 32.3 billion in
2008.
This package is being deliberated at this time by the Chamber of Deputies. Approval of the
package in its current form would have significant budgetary consequences and presents a risk
for meeting the fiscal targets up to 2008. As the government has passed the binding
expenditure ceilings for 2007 and 2008, it will be necessary to offset the budgetary effects of
the proposed changes by savings in other areas.
31