November 1999 BUDGET SURPLUSES

Experiences of Other 

Nations and 

Implications for the 

United States

GAO/AIMD-00-23

Page 1 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Letter 7

Executive Summary 8

Chapter 1

Introduction

23

Chapter 2

Countries Developed 

Strategies for Surplus

34

Chapter 3

Countries Have Taken 

Actions to Address 

Long-Term Pressures

52

Chapter 4

The Role of Budget 

Processes and 

Measures of Fiscal 

Position During 

Periods of Surplus

61

Chapter 5

Implications

71
Page 2 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Appendixes Appendix I: Commonwealth of Australia 80

Appendix II: Canada 99

Appendix III: New Zealand 130

Appendix IV: Norway 150

Appendix V: Sweden 164

Appendix VI: United Kingdom 182

Appendix VII: GAO Contacts and Staff Acknowledgements 207

Tables Table 1: Characteristics of the Six Case Study Countries and 

the United States, 1997 30

Table 2: Projected Growth in Annual Public Pension 

Expenditures as a Percentage of GDP, 1995-2030 54

Table 3: Fiscal Outlook for Fiscal Year 1998-99 125

Figures Figure 1: From Deficits to Surpluses: U.S. Unified Budget 

Balance as a Percentage of GDP, 1990 to 2009 10

Figure 2: GDP per Capita Assuming Non-Social Security 

Surpluses are Eliminated Versus Unified Budget Balance 18

Figure 3: Composition of Spending as a Share of GDP, 

Assuming On-budget Balance 19

Figure 4: Shifts in General Government Financial Balances 28

Figure 5: 1998 General Government Gross and Net Debt as 

a Percent of GDP 29

Figure 6: Change in Average Annual GDP Growth During 

Economic Slowdown of Late 1980s and/or Early 1990s 35

Figure 7: 1998 General Government Financial Balance 38

Figure 8: Long-term Projections for Pension Expenditures 

and Petroleum Revenues as a Percentage of GDP in Norway 40

Figure 9: Ratio of Population Aged 65 and Over to Population 

Aged 15-64, 2000 and 2030 53

Figure 10: Improvement in General Government Net Debt as 

a Percentage of GDP During the 1990s 59

Figure 11: GDP per Capita Assuming Non-Social Security 

Surpluses are Eliminated vs. Unified Budget Balance 75

Figure 12: Composition of Spending as a Share of GDP, Assuming 

On-budget Balance 76

Figure 13: Commonwealth of Australia Underlying Budget 

Balance, 1982-83 to 1997-98 81
Page 3 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 14: GDP Growth in Australia, 1983 to 1998 84

Figure 15: Receipts and Outlays in Australia, 1982-83 to 1996-97 89

Figure 16: Net Public Sector Debt in Australia, Fiscal Years 

1980-81 Through 1998-99 91

Figure 17: Federal Budgetary Surpluses/Deficits in Canada, 

1980-81 to 1998-99 100

Figure 18: Real GDP Growth in Canada, 1981 to 1998 104

Figure 19: Federal and Provincial-Territorial Net Debt in Canada, 

1980-81 to 1998-99 111

Figure 20: Major Federal Transfers to Other Levels of Government 

in Canada, 1980-81 to 1998-99 114

Figure 21: The Canada Health and Social Transfer 115

Figure 22: Deficit Targets Compared to Actual Results in Canada, 

1994-95 to 1997-98 117

Figure 23: Federal Government Revenues and Expenditures in 

Canada, 1993-94 to 1998-99 120

Figure 24: Summary of Spending and Tax Actions in the 1997-98, 

1998-99, and 1999-2000 Canadian Federal Budgets 122

Figure 25: Budgetary Balance in New Zealand, 1974-75 to 1997-98 131

Figure 26: GDP Growth in New Zealand, 1983 to 1998 135

Figure 27: Comparison Between Adjusted Cash and Operating 

Balances in New Zealand, 1994-95 to 1997-98 138

Figure 28: Net Public Sector Debt in New Zealand, 1980 to 1998 143

Figure 29: General Government Financial Balance as a Percent 

of GDP in Norway, 1970 to 1998 151

Figure 30: Real GDP Growth in Norway, 1981 to 1998 154

Figure 31: Long-term Projections for Pension Expenditures and 

Petroleum Revenues as a Percentage of GDP in Norway, 1973 

to 2050 161

Figure 32: General Government Financial Balance in Sweden, 

1981 to 1998 165

Figure 33: Real GDP Growth in Sweden, 1982 to 1998 169

Figure 34: Expenditures and Revenues as a Percentage of GDP 

in Sweden, 1970 to 1998 172

Figure 35: General Government Gross Financial Liabilities in 

Sweden, 1981 to 1998 177

Figure 36: Surpluses/Deficits in the United Kingdom, 1980-81 to 

1998-99 183

Figure 37: GDP Growth in the United Kingdom, 1980 to 1998 186

Figure 38: Receipts and Expenditures in the United Kingdom, 

1980-81 to 1995-96 191
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Figure 39: Projected Surpluses/Deficits and Actual Results in 

the United Kingdom, 1986-87 to 1993-94 193

Figure 40: Actual and Structural Surpluses/Deficits in the United 

Kingdom, 1986-87 to 1998-99 198

Figure 41: Projections of Real GDP Compared to Actual Results 

in the United Kingdom, 1988 to 1994 199
Page 5 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Abbreviations

AME annually-managed expenditure

CAP Canada Assistance Plan

CHST Canada Health and Social Transfer

CPP Canada Pension Plan

DEL departmental expenditure limits

EI Employment Insurance

EPF Established Programs Financing

EU European Union

FRA Fiscal Responsibility Act

GDP gross domestic product

GIS Guaranteed Income Supplement

GST goods and services tax

MMP mixed member proportional

NAO National Audit Office

OAG Office of the Auditor General

OAS Old Age Security

OECD Organization for Economic Cooperation and Development

PAYGO pay-as-you-go

PSBR public sector borrowing requirement

PSNB public sector net borrowing

PSNCR public sector net cash requirement

RAB resource accounting and budgeting

TFF Territorial Formula Financing

U.K. United Kingdom

VAT value added tax
Page 6 GAO/AIMD-00-23 Budget Surpluses in Other Nations
Page 7 GAO/AIMD-00-23 Budget Surpluses in Other Nations

g 

Washington, D.C. 20548

B-281269 Letr

November 2, 1999

The Honorable Pete V. Domenici

Chairman

The Honorable Frank R. Lautenberg

Ranking Minority Member

Committee on the Budget

United States Senate

As you requested, this report reviews the experience of six nations with budget surpluses−Australia, 

Canada, New Zealand, Norway, Sweden, and the United Kingdom. You asked us to determine how 

these nations achieved budget surpluses, used surpluses to address long-term budgetary pressures, 

and adapted their budget processes once surpluses were achieved.

Like the United States, these nations achieved budget surpluses largely as the result of improving 

economies and sustained deficit reduction efforts. As they entered a period of surplus, these nations 

debated how surpluses should be used and developed unique strategies for using surpluses to address 

national priorities. The experiences of these nations suggest that it is possible to sustain support for 

continued fiscal discipline during a period of surpluses while also addressing selected pent-up 

demands. 

We are sending copies of this report to the Honorable John R. Kasich, Chairman, and the Honorable 

John M. Spratt, Jr., Ranking Minority Member, House Budget Committee and other interested parties. 

We will make copies available to others upon request.

This report was prepared under the direction of Paul L. Posner, Director, Budget Issues, who may be 

reached at (202) 512-9573 if there are any questions. 

David M. Walker

Comptroller General

of the United States
Page 8 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Purpose In fiscal year 1998, the United States achieved a unified budget surplus for 

the first time in nearly 30 years. Budget surpluses represent both the 

success of past deficit reduction efforts and an opportunity to address 

pressing needs. With the arrival of surpluses there has been much debate 

about whether surpluses should be maintained and how they should be 

used. While balancing the budget has been the clear and generally accepted 

fiscal goal for many years in the United States, there is not yet agreement 

on the appropriate fiscal policy during a period of budget surpluses.

To help inform the current budget debate, GAO was asked to look at other 

countries with recent experience with budget surpluses. During the 1980s 

and 1990s, several advanced democracies achieved budget surpluses. 

Senate Budget Committee Ranking Member Lautenberg, subsequently 

joined by Chairman Domenici, asked that GAO examine the experiences of 

six nations that have achieved budget surpluses−Australia, Canada, New 

Zealand, Norway, Sweden, and the United Kingdom. Specifically, GAO was 

asked to determine (1) how they achieved budget surpluses and what their 

fiscal policies were during periods of surplus, (2) how they addressed longterm budgetary pressures, and (3) how they adapted their budget process 

during a period of surplus. GAO was also asked to identify lessons these 

nations learned from their experiences with budget surpluses that might be 

applicable to the United States. 

Background Balancing the budget is a fiscal goal that often commands broad support−at 

least in the abstract−from policymakers and the public alike. The idea of a 

government spending no more than it takes in has a near universal appeal 

across the political spectrum. In contrast, a government running a budget 

surplus−spending less than it takes in−is a goal with less intuitive appeal, 

and a policy that often lacks a natural constituency. 
Page 9 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Following years of sustained deficit reduction efforts and as a result of 

strong economic growth, the United States achieved a budget surplus in 

1998 following a prolonged period of deficits.1

 During that past 15 years, 

there has been a general consensus on the need to reduce budget deficits. 

Surpluses are now projected to continue for at least the next 10 years.2

 (See 

figure 1.) With the arrival of budget surpluses, a new political debate has 

emerged: Should surpluses be saved or spent? If they are spent, what 

should they be spent on? How should they be allocated among debt 

reduction, spending, and tax cuts? Can surpluses be used to address longterm fiscal pressures? Should the U.S. budget process be modified during a 

period of surpluses? 

1

U.S. surplus figures are presented on a unified basis which includes both the on- and offbudget portions of the budget. The off-budget sector reflects the annual fiscal activities of 

the Social Security trust funds and the Postal Service.

2

Assumes that surpluses are not spent and that budget caps are adhered to through 2002, 

after which time they are assumed to grow with inflation. 
Page 10 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 1: From Deficits to Surpluses: U.S. Unified Budget Balance as a Percentage of GDP, 1990 to 2009

Note: Figures for 1999 and beyond are estimates.

Source: Fiscal Year 2000 Budget of the United States: Historical Tables, Office of Management and 

Budget and The Economic and Budget Outlook: An Update, July 1, 1999, Congressional Budget 

Office.

The answers to these questions can have important consequences for the 

future economic and fiscal health of the United States. On the one hand, 

surpluses inspire proposals to allocate funds for current consumption on 

both the spending and revenue sides of the budget. On the other hand, the 

more of the budget surplus that is saved, the greater the long-term fiscal 

and economic benefits. From a budgetary standpoint, surpluses reduce 
Page 11 GAO/AIMD-00-23 Budget Surpluses in Other Nations

debt and lead to a reduction in interest costs, freeing up budgetary 

resources to be spent on other priorities. 

Running surpluses can also help to increase economic growth in the long 

term. A budget surplus increases national saving and leads to an increase in 

the amount of funds available to be invested elsewhere in the economy. 

Lower government borrowing also puts downward pressure on interest 

rates, as there is less demand for available funds. Together, lower interest 

rates and higher saving and investment increase the capacity for economic 

growth over the long term. 

Another benefit of reducing debt is the enhanced ability to meet future 

needs. The United States faces a significant challenge associated with an 

aging population that will result in significant spending pressures for public 

pension and health programs. Reducing debt today can strengthen our 

nation’s capacity to finance the future burgeoning costs of health and 

retirement programs.

Results in Brief Like the United States, other countries achieved budget surpluses largely 

as a result of improving economies and sustained deficit reduction efforts. 

As they entered a period of surplus, they also debated how surpluses 

should be used. The countries GAO studied have generally reached 

consensus on how they plan to use surpluses, and they have developed 

unique strategies that address national priorities. As part of their strategies, 

they have developed explicit goals to guide fiscal policy and have justified 

their goals with compelling rationales that often pointed out the potential 

fiscal and economic benefits of continued fiscal discipline. The case study 

countries generally chose to continue with a fiscally cautious approach, 

with three countries−New Zealand, Norway, and Sweden−aiming for 

sustained surpluses. New Zealand and Sweden have focused on the need to 

reduce debt as a justification for sustained surpluses, while Norway has 

focused on the need to save for long-term budget and economic pressures. 

To maintain support for their policies, these three countries have also 

devoted some portion of their surpluses to tax cuts and/or spending 

increases, addressing critical needs while still aiming for an overall general 

surplus. 

Each of the case study countries has taken actions to address long-term 

budgetary and economic concerns. For Norway in particular, long-term 

budget and economic pressures were a major factor leading the 

government to decide that surpluses were needed to ensure the long-term 
Page 12 GAO/AIMD-00-23 Budget Surpluses in Other Nations

sustainability of its fiscal policies. For other countries, programmatic 

reforms aimed at addressing long-term pressures enacted prior to the 

arrival of surpluses resulted in increased fiscal flexibility during a period of 

surplus. Over the last two decades, four of the case study countries−

Australia, Canada, Sweden, and the United Kingdom−have reformed their 

pension systems, improving their long-term sustainability. As a result, as 

these countries entered a period of surplus, their debate focused on other 

needs, such as reducing debt or addressing areas affected by past budget 

cuts. New Zealand, by focusing on using surpluses to reduce debt, has also 

taken action to improve its long-term economic and fiscal health. 

Budget process reforms have played a key role in both framing the debate 

about surpluses and helping maintain fiscal discipline during periods of 

surplus. Each case study country changed its budget process during the 

1990s in an attempt to better control spending and/or to guide fiscal policy 

decisionmaking. As countries entered a period of budget surpluses, these 

reforms played a critical role in guiding fiscal policy and maintaining fiscal 

restraint. As part of their new strategies, some countries chose to focus on 

measures of fiscal position other than year-end balance to justify continued 

fiscal discipline in times of surplus. For example, New Zealand focuses on 

its debt to GDP ratio, and Norway uses a structural measure that adjusts 

for the economy’s impact on the budget. 

Despite the many differences between the case study countries and the 

United States, the experiences of these nations can provide helpful ideas to 

be considered in our debate on whether to sustain surpluses and/or how to 

use them. GAO’s study suggests that it is possible to sustain support for 

continued fiscal discipline during a period of surpluses while also 

addressing pent-up demands. However, a fiscal goal anchored by a 

rationale that is compelling enough to make continued restraint acceptable 

is critical. For each country in our study, the goal and the supporting 

rationale grew out of its unique economic experience and situation. Many 

in the United States have made the case for sustaining at least some portion 

of surpluses to help deal with our longer-term budgetary pressures, as 

reflected in the current debate over how to save the portion of the surplus 

derived from the Social Security program. GAO’s long-term model 

simulations illustrate the need for continued fiscal restraint: saving some of 

the surplus is necessary along with structural reform of public retirement 

and health programs.

The United States is faced with the challenge of making the transition from 

a budget regime focused on eliminating the deficit to one that deals with 
Page 13 GAO/AIMD-00-23 Budget Surpluses in Other Nations

allocating the surplus between long-term pressures and short-term 

demands. While eliminating a deficit is arguably self-defining and 

straightforward, other nations’ experiences suggest that sustaining even a 

portion of our surpluses calls for a different framework featuring explicit 

fiscal policy goals and targets to both inform the allocation of surpluses 

and to promote public acceptance of the choices. Such a framework would 

include an agreement on appropriate long-term fiscal goals to guide the 

more specific debate over the relative merits of different priorities−how 

much of the surplus to devote to reducing debt, increasing domestic 

discretionary or defense spending, securing existing unfunded entitlement 

promises, and cutting taxes.

As essential as fiscal targets may be for sustaining surpluses, they are not 

self-evident. Unlike budget balance where a single number may be an 

appropriate goal, decisions about sustaining a surplus may call for more 

complex measures. There is no single number like “0” in the surplus world. 

The debate has already begun over what might replace “0” deficit as an 

appropriate fiscal policy measure for the United States−and what process 

might be appropriate to achieve it. The experiences of other nations 

suggest that sustaining a surplus over time to address our own long-term 

needs calls for a framework which:

• provides transparency through the articulation and defense of fiscal 

policy goals;

• provides accountability for making progress toward those goals; and

• balances the need to meet selected pent-up demands with the need to 

address long-term budget pressures.

GAO Analysis

A Period of Budget 

Surpluses Led to New Fiscal 

Strategies

As countries have transitioned from an era of deficit reduction to a period 

of surplus they have developed unique strategies for how to use their 

surpluses. The countries in GAO’s study found it important to set clear 

fiscal goals and to articulate compelling rationales explaining the potential 

long-term benefits of their policies in order to maintain public support for 

continued fiscal discipline. 

In general, the countries decided to continue with a fiscally cautious 

approach. Three countries−New Zealand, Norway, and Sweden−set a goal 
Page 14 GAO/AIMD-00-23 Budget Surpluses in Other Nations

for continued annual budget surpluses. The other three−Australia, Canada, 

and the United Kingdom−set budget balance as their main fiscal goal, but 

as part of a cautious fiscal strategy that has resulted in them achieving 

small surpluses. Leaders in these countries pointed to the potential longterm economic and fiscal benefits as a compelling rationale to justify their 

policies, and there has generally been broad support for continued fiscal 

discipline during a period of surplus. However, the countries have generally 

made room for additional spending initiatives and/or tax cuts, in some 

cases to address perceived needs following a period of deficit reduction. 

Remarkably, several nations have instituted spending cuts to sustain 

surpluses during this period.

Addressing Long-term 

Pressures 

Like the United States, most countries in our study face significant 

challenges arising from an aging population. While demographic trends 

differ among the countries, all are projecting an increase in the ratio of 

retirees to workers. If current spending patterns continue, increased 

spending on public pensions and health care threatens to crowd out 

spending on other important public goods and services. 

Over the past two decades, the case study countries generally have taken 

actions that address long-term fiscal pressures expected to arise from an 

aging population. Surpluses have helped nations enhance future fiscal and 

economic capacity by reducing debt burdens. By reducing its debt burden, 

each country has taken a step toward improving its long-term fiscal and 

economic health and enhancing future budget flexibility. Budget surpluses 

increase national saving, which can lead to increased investment and 

productivity, thereby increasing potential future economic output and 

living standards. Budget surpluses also reduce the government’s interest 

costs, freeing resources to be spent on other priorities. Furthermore, lower 

levels of debt can improve a nation’s capacity to borrow and meet future 

budgetary needs.

Norway is explicitly attempting to use its budget surpluses to address longterm fiscal and economic concerns. The combined effects of an aging 

population and declining oil revenues are projected to result in an 

unsustainable fiscal path and eventual economic decline. To address this 

problem, Norwegian decisionmakers reached a broad consensus on the 

need to save projected surpluses and established a Petroleum Fund where 

budget surpluses are deposited and invested to pay for future budget 

needs. 
Page 15 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Four other countries−Australia, Canada, Sweden, and the United Kingdom−

enacted major pension reforms during the past two decades, which have 

reduced long-term budgetary pressures and put their pension systems on a 

more sustainable path. Australia and the United Kingdom carried out 

pension reforms in the 1980s and 1990s; and as they have entered a period 

of surpluses, long-term budgetary pressures due to increasing pension 

costs have not emerged as a major focus of political debates. Canada and 

Sweden have traditionally accounted for their pension systems separately 

from the government budget, and their pension fund assets have been 

invested outside the government. As a result, pension fund surpluses have 

not been included in their surplus debates. Each country was able to 

reform its pension system during the 1990s, placing its pension system on a 

more sustainable path. The United States has not yet engaged in 

fundmental reforms of our public pension and health systems. Such 

reforms are necessary to assure the sustainability of these important 

national programs and to relieve the related longer term budget pressures.

Budget Process Both Guides 

and Supports Fiscal 

Strategy for Surplus

The framework for fiscal decisionmaking, which includes both the budget 

process and the way fiscal position is measured, can play a critical role in 

the ability of a government to maintain fiscal discipline. In an effort to aid 

deficit reduction efforts, each country made important changes to its 

budget process during the 1990s, which were continued and adapted to a 

period of surplus. As these countries moved into a period of budget 

surpluses, their budget processes have continued to play an important role 

in maintaining fiscal discipline and/or in setting fiscal policy. 

In Norway and Sweden, expenditure limits have continued to play a critical 

role as they attempt to run sustained surpluses. Bolstered by explicit 

spending limits, the renewed budget framework has enabled each country 

to maintain better control over spending during the current period of 

surplus. As Canada has entered a period of small surpluses, the government 

generally does not spend projected surpluses until they are about to 

materialize. The size of Canada’s available surpluses appears low because 

the government’s projections extend for only 2 years and are based on 

conservative economic forecasts. To the extent that the economy performs 

better than forecast, funds become available for new policy initiatives 

during the fiscal year. 

The measure of fiscal position is important because it can be used to define 

a goal and to measure “success.” Zero deficit is generally accepted as one 

such measure and a signal of the fiscal health of a country. However, during 
Page 16 GAO/AIMD-00-23 Budget Surpluses in Other Nations

periods of surplus, other measures are necessary to sustain some degree of 

fiscal restraint. In New Zealand, the statutory requirement that the 

government establish a “prudent” debt level as a fiscal goal has been 

critical to its ability to sustain fiscal discipline during a period of surpluses. 

Specifically, in 1994 the government established a debt goal of between 

20 and 30 percent of GDP, and set as its fiscal policy to run surpluses until 

that goal was achieved. In 1996, when it became apparent that the 

30 percent debt target would be achieved, the government enacted a tax 

cut and reset its debt target to 20 percent of GDP. Norway focuses on a 

structural measure of fiscal position, which removes the effects of the 

economy and petroleum activities, when setting fiscal policy. The 

government uses this measure to justify continued fiscal restraint during 

periods of strong economic growth and large budget surpluses. Finally, 

Canada and Sweden account for their public pension funds separately from 

the general fund, and as a result, their surplus debates have focused on 

other issues. 

Implications for the United 

States

Like the nations in GAO’s study, the United States has turned years of 

deficits into a surplus; but unlike most of these nations, U.S. policymakers 

have not yet reached agreement on goals and targets to allocate the use of 

our surpluses. Over the last 15 years, fiscal policy in the United States has 

focused on the need to reduce−and eventually eliminate−the deficit. 

Furthermore, pent-up demands for federal policy actions accumulated 

during years of deficits. Although the United States is still operating under 

the rules established to achieve budget balance, the advent of a surplus has 

led to increased pressure for spending increases and/or tax cuts. The 

legitimacy of the restraints adopted to rescue the nation from deficits is 

increasingly questioned as surpluses build up. The unified budget reached 

balance earlier than expected, and the Congress and the President now 

face the difficult situation of having to comply with tight spending caps 

designed to eliminate deficits at the same time that the budget is in surplus. 

The experiences of other nations suggest that it is possible to sustain 

support for continued fiscal discipline during a period of surpluses while 

also addressing pent-up demands. A fiscal goal anchored by a rationale that 

is compelling enough to make continued restraint acceptable is critical. 

Many in the United States have made the case for sustaining at least the 

portion of surpluses resulting from annual Social Security surpluses to help 

deal with our longer-term pressures. 
Page 17 GAO/AIMD-00-23 Budget Surpluses in Other Nations

GAO’s long-term model simulations illustrate the need for continued 

restraint: saving some of the surplus is necessary along with structural 

reform of retirement and health programs. GAO’s simulations show that 

saving a good portion of the projected surpluses would strengthen the 

nation’s capacity to finance the burgeoning costs of health and retirement 

programs prompted by the aging of our population. For instance, GAO has 

estimated that national income would be nearly $20,000 higher per person 

in real terms by 2050 if the Social Security portion of the budget surplus is 

saved−that is, eliminate the non-Social Security surplus−compared to a 

unified budget balance position.3

 (See figure 2.) Moreover, there is 

widespread recognition in the United States of the need to address longterm budget drivers−Social Security and Medicare−because even if 

surpluses are “saved” and used to pay down debt, growth in these programs 

threatens to crowd out discretionary spending. (See figure 3.)

3

Assumes that permanent unspecified policy actions (that is, spending increases and/or tax 

cuts) are taken through 2009 that eliminate the on-budget−non-Social Security−surpluses. 

Thereafter, these unspecified actions are projected through the end of the simulation period. 

On-budget deficits emerge in 2010, followed by unified deficits in 2019. 
Page 18 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 2: GDP per Capita Assuming Non-Social Security Surpluses are Eliminated Versus Unified Budget Balance

Note: The “eliminate non-Social Security surpluses” path assumes that permanent unspecified policy 

actions (that is, spending increases and/or tax cuts) are taken through 2009 that eliminate the onbudget surpluses. Thereafter, these unspecified actions are projected through the end of the 

simulation period. On-budget deficits emerge in 2010, followed by unified deficits in 2019. The 

“eliminate unified surpluses” path assumes that surpluses are not retained, but that the unified budget 

remains in balance through 2008. 

Source: GAO analysis.
Page 19 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 3: Composition of Spending as a Share of GDP, Assuming On-budget Balance

Note: Revenue as a share of GDP falls from its actual 1998 level to CBO’s 2008 implied level and is 

held constant at this level for the remainder of the simulation period.

*In 2030, all other spending includes offsetting interest receipts.

Source: GAO Analysis.

Therefore, a challenge for the United States is to find a way to make the 

transition from a budget regime focused on eliminating the unified deficit 

to one that deals with allocating the surplus between long-term pressures 

and short-term demands. Agreement on appropriate long-term fiscal goals 

is important to both inform the allocation of surplus and promote public 

acceptance of the choices. For the United States, overall fiscal targets 

could guide the more specific debate over the relative merits of different 

priorities−how much of the surplus to devote to reducing debt, increasing 

domestic discretionary or defense spending, securing existing unfunded 

entitlement promises, and cutting taxes. These choices could be 

considered within a broader context that considers tradeoffs between 

current consumption and saving for the future. 
Page 20 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The design and use of fiscal targets requires care. U.S. experience shows 

that a target cannot replace agreement on the steps necessary to achieve it. 

In order for any fiscal policy goal to govern actions, it must be grounded in 

a discussion of national needs and the tradeoffs associated with reaching 

such a goal. In addition, selecting the appropriate measures in a time of 

surplus is complicated−indeed a surplus period may call for more complex 

measures. In our nation’s setting, targets could provide a renewed focus for 

fiscal policy geared to monitoring and enhancing long-term U.S. economic 

and fiscal capacity to shoulder the increased obligations associated with 

the retirement of the baby boom generation. Although it is not easy, the 

countries in GAO’s study sought to design a framework strong enough to 

guide action but flexible enough to survive when economic conditions or 

other factors change. In our setting, the current debate over saving the 

Social Security surplus may ultimately yield an agreement on both fiscal 

targets as well as a process for sustaining support for these targets over 

time. 

Conclusions Can the experiences of these nations be translated to the U.S. 

environment? What do their experiences say about the next steps in the 

U.S. debate? First, the failure to define an explicit fiscal path for the future 

has serious downside risks. As GAO has discussed in this and other reports, 

“doing nothing” is not really an option−long-term pressures will overwhelm 

the budget absent reform of public pension and health programs. While the 

debate has begun on how to save a portion of the surplus, until the fiscal 

path for a period of budget surpluses is fully and clearly articulated there is 

a risk of losing the opportunity to enhance our long-term economic 

well-being. A number of the case study countries had already dealt with 

reform of their pension or old-age support programs; this made their task 

easier. This has not been done yet in the United States and so policymakers 

must factor the pressures associated with such programs into any new 

fiscal framework.

As the United States considers how to use surpluses to address our own 

long-term needs, the other nations’ experiences suggest a framework 

which:

• provides transparency through the articulation and defense of fiscal 

policy goals;

• provides accountability for making progress toward those goals; and

• balances the need to meet selected pent-up demands with the need to 

address long-term pressures.
Page 21 GAO/AIMD-00-23 Budget Surpluses in Other Nations

As the United States moves from deficit to surplus, it will be important for 

policymakers to reach agreement on a clearly defined and transparent 

fiscal policy framework that makes sense in light of both the current 

pressures and the long-term projections. In order for this framework to 

succeed in setting a broad set of principles to guide fiscal policy 

decisionmaking, the rationale for it must be explained and defended. 

Within this new framework, clear fiscal policy goals should be articulated. 

As with the other countries in GAO’s study, these goals should not be rigid 

fixed targets to be achieved on an annual basis. Rather, they should consist 

of broader goals defining a future fiscal policy path for the nation. The 

goals can provide an accountability framework strong enough to guide 

annual budget targets but flexible enough to survive when economic 

conditions and other factors change. Without this balancing of needs, the 

strains on the enforcement regime become too great and the discipline to 

follow a glide path to achieving national goals may be weakened. In other 

countries these goals included reducing the burden of national debt, 

maintaining international investor confidence, and increasing the national 

saving rate. Although the prospect of a loss in international investor 

confidence is not as threatening to the United States as it might be for other 

nations, goals and measures relevant to our own long-term fiscal outlook 

need to be explored. Such goals would go beyond “0” budget balance to 

focus on such issues as debt burden, questions of intergenerational equity, 

and contributions of fiscal policy to net national saving. The use of 

structural measures of fiscal position might help keep fiscal policy focused 

on the underlying fiscal position of the federal government, excluding 

temporary cyclical economic trends.

The surplus presents an opportunity to address the long-term budget 

pressures presented by Social Security and Medicare. If we let the 

achievement of a budget surplus lull us into complacency about the budget, 

then in the middle of the 21st century, we could face daunting demographic 

challenges without having built the economic capacity or program/policy 

reforms to handle them. A new fiscal framework for a period of budget 

surpluses would be of great value to policymakers and to the U.S. public as 

the nation embarks on a period of budget surpluses. Such a framework 

could go a long way towards ensuring that future debate on what to do with 

surpluses is focussed on issues that are most critical to advancing the 

future economic well-being of the nation. 

Developing consensus on a new fiscal goal and putting in place a 

framework to support such a goal is not easy. Other nations’ experiences 
Page 22 GAO/AIMD-00-23 Budget Surpluses in Other Nations

illustrate, however, that reaching consensus on using surpluses is possible. 

However, GAO would note that our nation has made measurable sacrifices 

of current needs for future goals when those goals were defined in 

compelling enough terms. A surplus offers the United States a unique 

opportunity to revisit the framework under which budgetary decisions are 

made and to address selected critical short- and long-term needs.
Page 23 GAO/AIMD-00-23 Budget Surpluses in Other Nations

During the 1980s and 1990s, several advanced democracies achieved 

budget surpluses. Several of these countries have been able to sustain 

surpluses over a period of several years and have set a fiscal policy goal 

calling for sustained surpluses. They have been able to justify sustained 

surpluses despite obvious difficulties associated with continued fiscal 

restraint. A discussion of how and why these countries were able to justify 

continued fiscal discipline can provide insights to U.S. policymakers as 

they continue to debate fiscal policy during the current period of projected 

budget surpluses. 

Senate Budget Committee Ranking Member Lautenberg, subsequently 

joined by Chairman Domenici, asked that we examine the experiences of 

six nations that have achieved budget surpluses in the 1980s and 1990s−

Australia, Canada, New Zealand, Norway, Sweden, and the United 

Kingdom−and to identify lessons these nations learned from their 

experiences with budget surpluses that might be applicable to the United 

States. 

The Politics of Running 

a Budget Surplus 

Balancing the budget is a fiscal goal that often commands broad support−at 

least in the abstract−from policymakers and the public alike. The idea of a 

government spending no more than it takes in has a near universal appeal 

across the political spectrum. In contrast, a government running a budget 

surplus−spending less than it takes in−is a goal with less intuitive appeal, 

and a policy that often lacks a natural constituency. During periods of 

surplus, a government hears many calls for new spending or tax cuts. This 

may reflect in part a reaction to a period of restraint and the often difficult 

steps taken to eliminate deficits. In the face of these calls to respond to 

deferred demands, it can be difficult for politicians to justify running a 

surplus. 

The politics of surplus are very different from the politics of deficits. 

During a deficit reduction period the goal is clear and political decisions 

tend to focus on the mix and severity of spending cuts and tax increases 

needed to bring the budget into balance. While there may be disagreement 

over the detailed actions to be taken and how long it should take to achieve 

balance, there is generally agreement on the goal of balance. During a 

surplus period, the political debate focuses on whether surpluses are 

needed at all. If consensus is reached on the need for surpluses, then 

agreement can be reached on how long they are needed and how large they 

should be. The answers to these questions are not obvious as there is no 

single goal with the intuitive appeal of a balanced budget or zero deficit. 
Page 24 GAO/AIMD-00-23 Budget Surpluses in Other Nations

While most economists agree that there are economic and fiscal benefits of 

running a surplus, these benefits are longer term and must compete with 

current needs. The potential economic benefits of running a surplus 

include lower real interest rates, a larger pool of domestic savings to 

finance productive investment, and, ultimately, improved prospects for 

higher economic growth and living standards in the future. Running 

surpluses can also lead to budgetary benefits, including lower interest 

payments and increased future budgetary flexibility. Consequently, it may 

be politically difficult to justify sustained surpluses because the benefits 

will occur in the future and/or there is not always a strong political 

constituency to support these goals. Furthermore, these benefits must be 

weighed against calls for spending increases or tax cuts, which are usually 

supported by organized political advocates and can have more immediate 

political benefits. 

Support for retaining a surplus can be further weakened by the fact that 

many countries achieve surpluses after several years of painful deficit 

reduction efforts. Popular programs may have already been cut and/or 

taxes raised to achieve surplus. Electorates willing to accept relatively tight 

fiscal discipline to achieve balance may be unwilling to continue to do so 

when there is “excess” money at the end of the year. This “fiscal fatigue” 

can greatly increase the pressure to “spend” the surplus. Consequently, 

governments that adopt a surplus goal often allow a portion of surpluses to 

be used for spending increases or tax cuts. 
Page 25 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The Benefits of 

Running a Budget 

Surplus

Countries with budget surpluses can expect to receive both fiscal and 

economic benefits. From a budgetary standpoint, the fact that surpluses 

reduce debt means that the associated interest cost falls, freeing up 

resources to be spent on other priorities.1

 A high interest burden tends to 

lead to even higher deficits and debt, which, in turn, contribute to rising 

interest costs−creating a “vicious cycle” of increasing deficits and debt. 

Replacing deficits with surpluses reduces debt and begins a “virtuous 

cycle” where lower levels of debt lead to lower interest payments−possibly 

at lower interest rates.2

 These lower interest payments in turn lead to larger 

potential surpluses and/or increased budget flexibility. 

Running surpluses can also help to increase economic growth in the long 

term. A budget surplus increases national saving, and leads to an increase 

in the amount of funds available to be invested elsewhere in the economy. 

Lower government borrowing also puts downward pressure on interest 

rates, as there is less demand for available funds. Together, lower interest 

rates and higher saving and investment increase the capacity for economic 

growth over the long term. Increased national saving results in increased 

private investment and raises productivity, thereby increasing future 

economic output and living standards. 

Another benefit of reducing debt is the enhanced ability to meet future 

needs. Many countries face the challenge of an aging population that brings 

with it significant spending pressures for pension and health programs. As 

their populations age, countries face a declining number of workers 

relative to retirees at the same time people will live longer in retirement. If 

these countries enter the period of the baby boom retirement with large 

debt loads, the relatively smaller working generation would face a twin 

challenge of supporting the pension and health care needs of retirees and 

paying the interest expenses on a large debt. Reducing debt today can 

increase a nation’s fiscal capacity to afford future budget pressures. Thus, 

budget surpluses can have an important effect on intergenerational equity 

by helping countries prepare for future challenges.

1

There is not always a one-to-one relationship between the size of a budget surplus and the 

amount of debt reduction due to accounting differences between the two measures. Debt is 

a cash measure of the government’s borrowing needs. Measures of budget surpluses 

sometimes include non-cash items, such as the subsidy amount of government loans instead 

of the cash value of those loans.

2

Just as deficits put upward pressure on interest rates, a period of budget surpluses should 

relieve this pressure. Lower interest rates then reduce interest costs.
Page 26 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Also, surpluses can have a positive impact on investor confidence because 

of the long-term fiscal and economic benefits that could result and because 

surpluses can be perceived as an indicator of good fiscal management. 

Increased investor confidence can lead to lower interest rates and reduce 

the cost of borrowing. 

Finally, using surpluses to reduce debt burden allows a country to be better 

equipped to handle future economic shocks. If debt is at a manageable 

level, countries have a greater ability to increase borrowing during 

recessions. If debt is at a high level, there is the risk that additional 

borrowing will be at higher interest rates as investors demand a premium 

to cover the risk of nonpayment. 

Why the Experiences 

of Other Countries Are 

Relevant to the United 

States

The United States is currently entering a period of projected budget 

surpluses for the first time in many years.3

 Since the arrival of surpluses in 

1998, there has been much debate about whether surpluses should be 

maintained and how they should be used. To better inform our current 

debate, it is instructive to look at other countries with recent experience 

with budget surpluses. How did they reach consensus on the use of 

surpluses? What strategies did they employ to carry out their fiscal policy 

during a period of surplus? Have they taken steps to address their 

long-term budgetary pressures? How have they used their budget process 

to maintain fiscal discipline during a surplus period? The answers to these 

questions offer important insights as the national debate continues.

We chose six case study countries−Australia, Canada, New Zealand, 

Norway, Sweden, and the United Kingdom−because they have all recently 

experienced budget surpluses. Admittedly, the six case study countries 

differ from the United States in many ways. They are all smaller and more 

dependent on foreign trade. The role of the central government varies from 

country to country. Two countries−Australia and Canada−have a federal 

system similar to ours, while the other four countries have unitary systems, 

with the central government playing a key role in financing local sector 

activities. When all levels of government are combined, the case study 

countries generally have a larger public sector than the United States. 

3

Prior to 1998, the United States has achieved budget surpluses in 8 years since the Great 

Depression. The most recent surplus occurred in 1969, and the longest period of surpluses 

lasted 3 years from 1947 to 1949.
Page 27 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Another key difference is that all six case study countries have 

parliamentary systems of government. Some might express skepticism 

about the transferability of experiences between different systems of 

government. Parliamentary systems are thought to facilitate controversial 

political action by consolidating power in the hands of the governing party. 

In contrast, the U.S. system’s separation of powers is thought by some to 

present leaders with greater obstacles to political agreement. Yet imposing 

sacrifice, even during a period of surplus, is a difficult task for any 

democratically elected government. Furthermore, coalition or minority 

governments can form in some case study countries resulting in 

confrontation and controversy between the coalition partners. Coalition or 

minority governments routinely must seek the support of other political 

parties in order to enact legislation, and as result can act in a similar 

fashion to our system of separate legislative and executive branches. 

Each of these differences can have an impact on the relative need for 

surpluses and the ability to achieve and sustain them. However, despite our 

differences, the experiences of these countries provide many important 

lessons for us to consider as we continue with our current budget debate. 

Like us, they achieved budget surpluses largely due to sustained deficit 

reduction efforts and a period of strong economic growth. They are all 

democracies with modern economies. Most face many of the same longterm challenges associated with an aging population as we do. 

Fiscal History and 

Condition of the Case 

Study Countries 

As of 1998, each of the case study countries has a budget surplus. Norway 

and New Zealand have had surpluses since 1994, the longest periods of 

sustained surpluses among the case study countries. The other four 

countries achieved budget surpluses in either 1997 or 1998. Four of the six 

case study countries achieved budget surpluses in the late eighties and then 

returned to deficits in the early nineties. (See figure 4.)
Page 28 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 4: Shifts in General Government Financial Balances

Note: Data for 1998 are estimates. General government financial balance accounts for all levels of 

government. 

Source: OECD Economic Outlook 65, June 1999.

Debt burden varies from country to country. As of the end of 1998, general 

government gross debt as a percent of gross domestic product (GDP) 

ranged from a high of nearly 90 percent in Canada to less than 35 percent in 

Australia and Norway. General government gross debt includes the debt of 

the central government and all sub-levels of government, such as states and 

provinces, counties, and cities. However, it is also instructive to look at net 

debt, which accounts for government owned financial assets, such as 

loans, stocks, and bonds, because it provides a better picture of the 
Page 29 GAO/AIMD-00-23 Budget Surpluses in Other Nations

government’s net financial impact on the economy. As of 1998, general 

government net debt ranged from a high of about 60 percent of GDP in 

Canada to a low of about negative 47 percent in Norway−meaning that 

Norway owns more than enough financial assets to completely pay off its 

debt. See figure 5 for each country’s most recent general government gross 

and net debt figures. 

Figure 5: 1998 General Government Gross and Net Debt as a Percent of GDP

Note: Data for Norway, Sweden, the United Kingdom, and Australia are estimates. Net debt includes 

government financial assets, such as loans, stocks, and bonds. Norway’s net debt is negative because 

it owns more financial assets than it has debt outstanding.

Sources: OECD Economic Outlook 65, June 1999, and New Zealand Treasury.
Page 30 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Economic and Fiscal 

Characteristics of the 

Case Study Countries

The case study countries are smaller, more reliant on trade, and have a 

larger public sector than the United States. (See table 1.) The United 

Kingdom has the largest population of the case study countries while New 

Zealand has the smallest, with a population about 1/16 the size of the 

United States. The economies of the case study countries are also smaller, 

with the United Kingdom the largest at about 16 percent of the United 

States economy and New Zealand the smallest at less than 1 percent of the 

United States economy. The economies of the case study countries are 

more dependent on trade than the United States with exports as a 

percentage of GDP ranging from almost two times to more than four times 

that of the United States. 

Table 1: Characteristics of the Six Case Study Countries and the United States, 1997

Note: Outlay figures are for all levels of government.

Sources: OECD Economic Outlook 65, June 1999 and various countries’ OECD economic surveys, 

1999.

Public sector spending for all levels of government as a percentage of GDP 

is smaller in the United States than in any of the case study countries 

except Australia, which has about the same level of public spending. This 

generally reflects a larger role for the governments of the case study 

countries. For example, the case study countries provide universal health 

care coverage for their citizens and many provide more generous social 

benefits. 

A large public sector can affect fiscal position and fiscal policy in 

significant ways. Generally, a larger public sector results in wider swings in 

fiscal position corresponding to swings in the economy. Programs that are 

Population

(in thousands) GDP

(billions $US)

Exports

(% GDP)

Public Sector

Outlays

(% GDP)

Australia 18,532 392.9 15.6 33.5

Canada 30,287 607.7 35.5 42.3

New Zealand 3,761 65.0 21.8 38.9

Norway 4,393 153.4 31.6 43.6

Sweden 8,848 227.8 36.4 62.3

United Kingdom 58,105 1,282.9 22.1 41.0

United States 266,792 7,824.0 8.8 33.6
Page 31 GAO/AIMD-00-23 Budget Surpluses in Other Nations

economically sensitive−such as unemployment benefits and income taxes−

add to the size of deficits during downturns and surpluses during periods of 

strong growth. These economically sensitive programs act automatically to 

stabilize the economy by increasing aggregate demand during weak periods 

and decreasing demand during periods of strength. The larger these 

so-called “automatic stabilizers” are relative to the economy, the larger the 

swing in fiscal position can be. For example, Sweden with public sector 

outlays accounting for about two-thirds of the economy, went from a deficit 

of over 12 percent of GDP in 1994 to a surplus of nearly 2 percent of GDP in 

1998. 

Definition of a Budget 

Surplus

In its simplest definition, a surplus is an excess of revenue over spending in 

a given period. However, definitions of revenue and spending vary among 

countries, and to compare across countries we used OECD data wherever 

possible. OECD data are presented on a general government basis, which 

includes the aggregate fiscal balances of all levels of government in that 

nation. In analyzing the experiences of the individual nations we focused 

on the measure of fiscal position used by the central government, which 

formed the basis for policy debates. The definition of budget balance varies 

significantly from country to country, and can have an impact on the nature 

of the budget debate during a period of surplus. For example, Canada 

excludes surpluses in its public pension system from its primary measure 

of fiscal position. More detailed information on the measure of fiscal 

position used by each of the six countries is provided in appendixes I 

through VI, and chapter 4 contains a discussion of how the different 

measures can have an impact on the budget debate. 

Objective, Scope, and 

Methodology

Senators Domenici and Lautenberg asked us to review the experiences of 

six countries that had achieved budget surpluses. Specifically, they asked 

us to

• determine how these countries achieved a budget surplus and 

developed fiscal policies in periods of surpluses,

• determine how other countries have addressed long-term budgetary 

pressures and adapted their budget process during a period of surplus, 

and

• identify lessons these nations learned from their experiences with 

budget surpluses that might be applicable to the United States.
Page 32 GAO/AIMD-00-23 Budget Surpluses in Other Nations

To accomplish these objectives, we reviewed OECD data on the case study 

countries’ fiscal position, and in each country we interviewed officials and 

analysts familiar with their government’s actions. We also interviewed and 

obtained documentation from government officials to better understand 

how countries developed fiscal strategies during periods of budget 

surpluses. We interviewed and obtained data and information from public 

policy critics, academicians, journalists, and members of political 

opposition parties to obtain their views. We reviewed a wide array of 

reports and economic analysis on fiscal and economic policy in general and 

on the specific case study countries. Experts from each case study country 

reviewed the appendix on their country, and experts in comparative public 

policy reviewed our analysis and findings. The reviewers generally agreed 

with our work, and we have incorporated their comments where 

appropriate.

In this report, we present significant fiscal policy actions taken by the six 

countries, either in terms of size, political importance, or economic impact. 

While the report does not fully detail all of the economic policies of the 

case study countries, we outline elements of the economic situation and 

policies which best helps explain how the countries chose their particular 

fiscal path. 

Our work was conducted in the six case study countries and Washington, 

D.C., from March 1998 through October 1999 in accordance with generally 

accepted government auditing standards.
Page 33 GAO/AIMD-00-23 Budget Surpluses in Other Nations
Page 34 GAO/AIMD-00-23 Budget Surpluses in Other Nations

In the case study countries, the early 1990s were characterized by slow 

economic growth and large budget deficits. In response, policymakers 

enacted structural reforms and deficit reduction packages designed to 

improve economic and fiscal performance. As each case study country 

approached budget surplus in the 1990s, its government was faced with a 

decision about how to approach fiscal policy. The previous period of slow 

economic growth and large budget deficits continued to play a critical role 

in shaping how the case study countries approached surpluses, and they 

generally chose to continue on fiscally cautious paths. 

As countries have transitioned from an era of deficit reduction to a period 

of surplus, they have developed unique strategies for how to use their 

surpluses. Case study countries have found it important to set clear fiscal 

goals and to articulate compelling rationales explaining the potential 

benefits of their policies in order to maintain public support for continued 

fiscal discipline. These countries have generally recognized the importance 

of competing priorities and have devoted some portion of their surpluses to 

tax cuts and/or spending increases rather than attempting to reserve the 

entire surplus for debt reduction. Some nations have been able to sustain 

surpluses for several years and have taken the difficult step of enacting 

cuts to maintain surpluses. The budget process has played a critical role 

guiding fiscal policy and/or supporting continued fiscal discipline. 

Factors That Shaped 

the Surplus Debate 

During the 1990s

The political debate surrounding a budget surplus was influenced greatly 

by the economic slowdowns and budget deficits of the late 1980s and early 

1990s. Each country we studied experienced a significant economic 

slowdown during this period, generally coinciding with a broader 

worldwide economic slowdown. (See figure 6.) In several countries the 

slowdown became severe. Sweden, for example, experienced 

3 consecutive years of negative growth beginning in 1991. In other 

countries, including New Zealand and Norway, there were prolonged 

periods of below-average growth.
Page 35 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 6: Change in Average Annual GDP Growth During Economic Slowdown of Late 1980s and/or Early 1990s

Source: OECD Quarterly National Accounts, Number 3, 1998, and OECD National Accounts, Main 

Aggregates Volume I, 1960-1996.

In several case study countries, a loss of investor confidence in fiscal and 

economic health added to the economic downturn, and fiscal and monetary 

policies were tightened in reaction to investors pulling money out of the 

country. Policymakers were limited in their ability to respond to an 

economic slowdown because they were forced to take procyclical actions 

to win back investor confidence. For example, both Norway and Sweden 
Page 36 GAO/AIMD-00-23 Budget Surpluses in Other Nations

were pursuing a policy of fixed exchange rates when a drop in investor 

confidence resulted in downward pressure on currency valuations. To 

support the value of the currency, each country raised interest rates, which 

had the effect of further slowing the economy. New Zealand and Sweden 

received credit downgrades due to concerns over their economic and fiscal 

health. Interest rates rose as a result, increasing the cost of borrowing and 

causing the economies to slow further. Also, several countries took actions 

to reduce budget deficits during the economic downturn, which slowed the 

economies further. These events made decisionmakers keenly aware of the 

need to sustain foreign investor confidence in their economic and fiscal 

policies.

The economic slowdowns of the late 1980s and early 1990s were a major 

factor leading to the reemergence of large budget deficits in the case study 

countries. In four countries, deficits followed a period of budget surpluses. 

For these countries, spending increases and/or tax cuts made during a 

period of surplus also contributed to the reemergence of deficits. The 

reemergence of large budget deficits was seen as a step backward 

following years of progress reducing budget deficits. 

In reaction to slow economic growth, large budget deficits, and a drop in 

investor confidence, leaders in the case study countries took actions to 

restore fiscal and economic health. In general, the pervasive philosophy 

was that in order to sustain economic growth, inflation rates had to be kept 

low and stable and efforts taken to reduce budget deficits. To show their 

commitment to reducing inflation rates, five case study countries set 

explicit inflation targets and increased the independence of the central 

bank to respond to inflationary pressures. Each country also renewed 

deficit reduction efforts and implemented budget process changes to 

reinforce their commitment. 

Several countries enacted large deficit reduction packages in response to 

the large deficits that had built up. For example, in 1994, Sweden enacted a 

deficit reduction package amounting to 7 percent of GDP over 4 years. 

Similarly, in 1994, the Canadian government introduced a package reducing 

the deficit by over 3 percent of GDP over 4 years, while the New Zealand 

government reduced its budget deficit by more than 4 percent of GDP from 

1991 through 1993. In the other countries, the deficit reduction packages 

were relatively smaller and more gradual.

Leaders in each country enacted difficult spending cuts and/or tax 

increases in their efforts to bring the budgets back into balance. The New 
Page 37 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Zealand government cut fiscal year 1991-92 net spending by 10 percent 

from the level projected in October 1990 and delayed implementation of a 

campaign promise to eliminate an unpopular surcharge on public pensions. 

Australia reduced expenditures in health, education, and employment 

services. Canada cut the federal workforce by 15 percent and cut back aid 

to provinces significantly, which had the effect of reducing spending on 

health care. Likewise, Sweden enacted a deficit reduction package that 

included reductions in subsidies for medical and dental care, indexation of 

certain taxes, and increased contribution rates for the unemployment 

benefit system. 

A strengthening economy combined with deficit reduction efforts 

contributed to a significant improvement in fiscal position in each of the 

case study countries. By 1998, all of the case study countries had achieved 

a budget surplus. (See figure 7 for the fiscal position as of 1998 for each 

country.)
Page 38 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 7: 1998 General Government Financial Balance

Source: OECD Economic Outlook 65, June 1999.

Countries Developed 

Fiscal Strategies for a 

Period of Surplus

As noted in chapter 1, balancing the budget is a fiscal goal that often 

commands broad support from both policymakers and the public alike. In 

contrast, a government running a budget surplus−spending less than it 

takes in−is a goal with less intuitive appeal, and a policy that often lacks a 

natural constituency. As case study countries entered a period of budget 

surpluses, decisionmakers had to decide what their fiscal policy goals 

would be. The previous period of slow economic growth and poor fiscal 

condition continued to influence fiscal policy. 

As each country entered its current period of surplus, it has developed 

unique strategies to help ensure continued fiscal progress. Leaders in these 

countries have developed fiscal goals to help guide budgetary decisions 
Page 39 GAO/AIMD-00-23 Budget Surpluses in Other Nations

during a period of surplus. In general, the case study countries decided to 

continue with a fiscally cautious approach. Three countries−New Zealand, 

Norway, and Sweden−set a goal for continued budget surpluses. The three 

others−Australia, Canada, and the United Kingdom−each set balance as its 

main fiscal goal, but as part of a cautious strategy that has resulted in them 

achieving small surpluses. 

Leaders in these countries have pointed to the potential economic and 

fiscal benefits as a compelling rationale to justify their policy, and there has 

generally been broad support for continued fiscal discipline during a period 

of surplus. Often, countries retained features of their budget process 

designed to aid deficit reduction efforts. The case study countries have 

generally made room for additional spending initiatives and/or tax cuts, 

sometimes to address perceived needs following a period of deficit 

reduction. Remarkably, several nations have instituted expenditure cuts to 

sustain surpluses during this period.

Three Countries Aim for 

Budget Surpluses

New Zealand, Norway, and Sweden have each set sustained surpluses as 

their primary fiscal policy goal. Following a period of economic and fiscal 

crisis, broad consensus was reached on the need for sustained surpluses. 

Leaders in these countries chose to pursue surpluses to address long-term 

fiscal and economic concerns, reduce debt, and/or sustain investor 

confidence in their fiscal management. 

Norway Aims for Surpluses to 

Address Long-term Fiscal and 

Economic Concerns

Norway has established a goal of sustained surpluses in order to build up 

savings to address long-term fiscal and economic concerns resulting 

primarily from an aging population and declining petroleum revenues. 

(See figure 8.) Norway projects both a near doubling of retirement benefits 

from about 7 percent of GDP currently to about 15 percent of GDP by 2030 

and a parallel decline in oil revenues from about 8 percent of GDP to less 

than 1 percent over the same period. Also, Norway is concerned that 

economic growth could decline in the long run if a strong petroleum 

industry crowds out investment in other industries. The combined effects 

of an aging population and declining oil revenues are projected to result in 

an unsustainable fiscal path and eventual economic decline. This long-term 

problem has been clearly communicated to policymakers and the public 

and has developed as a primary rationale for their current fiscal policy of 

sustained surpluses.
Page 40 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 8: Long-term Projections for Pension Expenditures and Petroleum Revenues 

as a Percentage of GDP in Norway

Source: Statistics Norway and Norwegian Ministry of Finance.

In the mid-1990s, Norwegian decisionmakers reached a broad consensus 

on the need to save projected surpluses to pay for future budget needs and 

to help increase long-term economic growth. Surpluses were projected to 

result from increased oil revenues and a strengthening economy. To ensure 

that surpluses were saved, the government created the Government 

Petroleum Fund, in which surpluses were to be deposited to help pay for 

future pension costs.1

 The fund’s assets are invested in foreign stocks and 

bonds to help reduce inflation and upward pressure on the exchange rate. 

Low inflation and a stable exchange rate help to keep Norway’s exports 

competitive with other countries. If Norway allowed excess petroleum 

revenues to remain in the domestic economy, it could result in higher levels 

of inflation and an appreciation in the value of its currency. As a result, 

non-oil industries would become less competitive over time as the price of 

their goods and services would rise relative to foreign competitors. This is 

a major concern to policymakers because Norway projects that petroleum 

output will decline early in the 21st century, and Norway will have to rely 

1

The government decided not to use surpluses to pay off debt. It wished to keep a domestic 

debt market active in case it needed to increase borrowing, and by paying off debt it would 

keep petroleum money in the domestic economy, possibly adding to inflationary pressures.
Page 41 GAO/AIMD-00-23 Budget Surpluses in Other Nations

more on its non-oil industries to generate economic growth. If those 

industries lose their competitiveness now, it could have a negative impact 

on long-term economic growth when the petroleum industry declines. 

Consequently, policymakers in Norway have come to view surpluses as 

critical to the long-term fiscal and economic health of the country. The 

Government Petroleum Fund has become a symbol of the importance of 

saving for future needs. 

The ability of the government to maintain fiscal discipline during a period 

of surplus has come under increasing pressure. Fiscal policy stance 

remained tight through 1997, with the cyclically adjusted deficit, excluding 

oil, declining from over 7 percent of GDP to less than 3 percent−a major 

fiscal tightening by international standards.2

 Following the 1997 elections, a 

weak minority coalition took over the government, and proposed to use a 

portion of the surpluses to increase spending on pensions and family 

allowances in its first budget. A sharp decline in oil revenues in 1998 led to 

a sharp decline in the budget surplus, including oil revenues, from about 

7 percent of GDP to about 4 percent of GDP. Financial markets became 

concerned over the relatively easy stance of fiscal policy, resulting in strong 

downward pressure on Norway’s currency. Furthermore, a tight labor 

market has led to increased inflationary pressures. The government 

remains committed to maintaining surpluses, but it may be difficult for a 

weak minority coalition government to maintain fiscal discipline in light of 

the pressures that have emerged since 1997. 

New Zealand and Sweden Aim 

for Surpluses to Reduce Debt 

Burden and Maintain Investor 

Confidence

Both New Zealand and Sweden have set sustained surpluses as their 

primary fiscal goal in order to reduce debt burden, which increased greatly 

during the previous deficit period. New Zealand’s general government gross 

debt reached a peak of nearly 65 percent of GDP in 1992, while Sweden’s 

debt climbed to over 80 percent of GDP in 1994. Surplus goals were also 

adopted to regain investor confidence after a loss of confidence in the early 

1990s led to a credit downgrade and/or currency devaluation.

2

Norway’s budget is in deficit if the effects of oil revenues’ economic growth are excluded. 
Page 42 GAO/AIMD-00-23 Budget Surpluses in Other Nations

As each country neared a budget surplus, decisionmakers decided to set 

sustained surpluses as their main fiscal objective. In New Zealand, this goal 

took the form of an explicit goal to reduce debt burden by running 

surpluses. In 1994, New Zealand enacted the Fiscal Responsibility Act 

(FRA) which put in place a framework to guide fiscal decision-making. 

FRA was enacted in part to address concerns that a recently enacted 

electoral reform could weaken political resolve to sustain fiscal discipline.3

FRA requires the government to set a prudent debt level, and to attempt to 

run budget surpluses until the goal is achieved. A debt target provides an 

additional measure of fiscal health and provides justification for continued 

surpluses. 

FRA has played a critical role in New Zealand’s ability to sustain fiscal 

discipline during its current period of budget surplus. Initially, in 1994, the 

government set a goal to reduce net debt to between 20 and 30 percent of 

GDP from over 40 percent. The government committed the entire budget 

surplus to debt reduction, but promised to cut taxes once the debt target 

was achieved. In 1996, when it became apparent that the 30 percent debt 

target would be achieved, the government enacted a tax cut and reset its 

debt target to 20 percent of GDP.

FRA has continued to play a critical role following the first election under 

the new electoral system. Following the 1996 election, a coalition 

government formed for the first time in many years. The minority partner in 

the coalition government was a strong advocate of new social spending, 

while the larger National party, which had held the previous majority 

government, was a major advocate of continued debt reduction and tax 

cuts. Nonetheless, under their coalition agreement the new government set 

continued surpluses and debt reduction as its overall fiscal policy. As a 

compromise, they agreed to delay planned tax cuts 1 year and implement a 

spending package while still allowing for continued surpluses. In 1998, the 

minority partner left the coalition government and the National party 

continued as a minority government. The government has retained the 

previously agreed to debt target to justify continued fiscal discipline. In the 

fall of 1998, when budget forecasts showed that the budget would go into a 

3

In 1996, New Zealand’s electoral system was changed from a first-past-the-post system, in 

which the candidate with the most votes won the seat, to a mixed member proportional 

(MMP) system, in which seats were awarded to political parties in rough proportion to their 

share of the popular vote. MMP was put in place to address concerns that smaller political 

parties were not adequately represented in Parliament. As a result, the likelihood for 

coalition and/or minority governments increased greatly. 
Page 43 GAO/AIMD-00-23 Budget Surpluses in Other Nations

deficit, largely as a result of the Asian economic crisis, the government 

enacted a package of spending cuts and scaled back the previously 

promised spending increases to sustain surplus. Consequently, the 

government is projecting rough balance in the operating budget for fiscal 

year 1999-2000 and operating surpluses starting in fiscal year 2000-2001.

Similarly, the Swedish government has also set a goal of sustained 

surpluses to reduce debt and to maintain investor confidence. Of the case 

study countries, Sweden experienced the most severe economic downturn 

and the largest budget deficit during the 1990s. In reaction, the government 

ended its fixed exchange rate policy, enacted a large deficit reduction 

package, and reformed the budget process to better support fiscal 

discipline, putting in place multi-year expenditure limits for the first time. 

In 1997, when it became apparent that the budget was nearing balance, the 

government set a goal for surpluses of 2 percent of GDP in order to help 

retain investor confidence in its policies and to ensure continued progress 

toward debt reduction. 
Page 44 GAO/AIMD-00-23 Budget Surpluses in Other Nations

By setting an explicit goal and keeping to expenditure limits, the Swedish 

government has been able to maintain fiscal discipline during the early 

stages of its current surplus period. Specifically, the government 

established expenditure limits for 1998 that would allow it to gradually 

achieve its surplus goal. However, due to continued strong economic 

growth and other technical factors, Sweden achieved its surpluses earlier 

than expected.4

 As larger than expected surpluses are projected, the 

government has reiterated its commitment to the previously agreed to 

expenditure limits. At the same time, the government has been able to 

increase spending somewhat because of the way the expenditure ceilings 

work. Under Sweden’s new budget process all open-ended appropriations, 

mostly to entitlement programs, were abolished, making all expenditures 

subject to annual reviews. To provide a buffer against forecasting errors in 

these programs, the government built a “budget margin” into the 

expenditure limits. Thus, to the extent economic and budget forecasts turn 

out to be accurate or better than expected, the government can increase 

spending up to the amounts allowed under the expenditure ceilings.5

 Since 

the expenditure ceilings have been in place, the economy has 

outperformed the forecasts, freeing up additional room for spending. 

In 1999, actual spending was projected to breach the expenditure caps. The 

government reiterated its commitment to the expenditure caps and 

proposed cutting spending by about 1 percent to stay within the caps, 

including cuts to labor market programs, agriculture, and health care. Due 

to concerns over its international competitiveness−Sweden has among the 

highest overall tax levels among OECD countries−the government has also 

proposed a package of tax cuts aimed mostly at low and medium income 

workers. 

Three Countries Aim for 

Balance Upon Achieving a 

Budget Surplus

Upon achieving surplus, Australia, Canada, and the United Kingdom each 

set a fiscal policy goal of balance. However, each country has developed a 

cautious fiscal strategy, which has resulted in them achieving small 

surpluses in the near term. The budget process has continued to play a key 

4

For example, in 1998, the government incorporated the National Pension Fund’s real estate 

holdings, which resulted in an upward adjustment of the financial balance due to 

government accounting rules.

5

If budget or economic forecasts turn out to be overly optimistic, then the government 

would presumably be forced to take action to stay within expenditure limits by cutting 

spending. There is some additional flexibility to borrow against future year expenditures.
Page 45 GAO/AIMD-00-23 Budget Surpluses in Other Nations

role in each country’s ability to limit spending and tax actions following the 

arrival of surpluses. In general, their spending and tax actions have been 

taken to address perceived needs arising from their previous deficit 

reduction periods. 

Australia Aims to Maintain 

National Saving

Australian policymakers have focused on the need to increase national 

saving and long-term economic growth to guide their fiscal policy 

decisions. The government was particularly concerned that continued 

deficits could act to reduce national saving, which had fallen in the early 

1990s by more than 5 percentage points below the average of the prior 

three decades. This is of major concern to policymakers because Australia 

has had to rely on foreign sources of capital to finance private investment. 

Concerns arose about Australia’s prospects for long-term economic growth 

if it had to depend on foreign sources to make up the saving-investment 

gap. As the fall in national saving closely tracked increased public sector 

borrowing, policymakers committed to fiscal policies aimed at restoring 

national saving by reducing government borrowing. With the government 

running balanced budgets instead of deficits, more resources would be 

available for private sector investment. 

Consequently, the current government in Australia has set a fiscal goal of 

balanced budgets over the economic cycle to ensure that, overtime, the 

Commonwealth general government sector “makes no call” on national 

saving, and therefore does not detract from national saving.6

 For example, 

one of the justifications for establishing mandatory private pensions was to 

increase national saving.7

 Currently, the government is aiming for budget 

surpluses for the medium term to coincide with a strong economy.

Since 1996, the “Charter of Budget Honesty” (the Charter) has played a 

critical role in framing Australia’s fiscal policy stance. The Charter set out 

principles for the conduct of sound fiscal policy and put in place 

6

The government took “balance over the cycle” to mean that it would run surpluses during 

periods of economic growth to increase budgetary flexibility and allow the government to 

better respond to future economic shocks.

7

In 1992, the Commonwealth government passed the Superannuation Guarantee Act making 

it mandatory for employers to offer retirement benefits, in the form of employer-funded 

pension programs, to their employees. Under the Act, employers make contributions to 

individual pension accounts of the employees’ choosing. By 1996, approximately 

89 percent of public and private sector employees were covered by superannuation, with 

the remaining 11 percent of the work force falling below the income threshold where 

superannuation started to apply.
Page 46 GAO/AIMD-00-23 Budget Surpluses in Other Nations

institutional arrangements designed to improve discipline, transparency, 

and accountability in the formulation of fiscal policy. Specifically, the 

Charter established the following five principles for sound fiscal 

management: (1) to maintain prudent levels of debt, (2) to ensure that fiscal 

policy contributes to national saving and moderates economic fluctuations, 

(3) to pursue a policy of stable and predictable tax burdens, (4) to maintain 

the integrity of the tax system, and (5) to ensure that policy decisions 

consider impacts on future generations. The framework of the Charter 

allows flexibility for the government to define its medium-term fiscal 

strategy and short-term fiscal goals in such a way as to fulfill these 

principles.

In fiscal year 1997-98, Australia achieved a small budget surplus, and, with 

the fiscal year 1999-2000 budget, the government forecasts surpluses for 

the next 4 years.8

 The government’s medium-term fiscal strategy, developed 

as required by the Charter, is to balance the budget over the cycle, which 

means a short-term goal of running surpluses during the projected period 

of expansion. Also, the government currently has a goal to eliminate net 

debt by fiscal year 2002-03 from its 1998-99 level of about 11 percent of 

GDP.

Within this goal of surpluses for the short term, the government has made 

room for new selected spending increases and selective tax cuts. The fiscal 

year 1998-99 budget proposed spending initiatives totaling nearly 

A$10 billion through fiscal year 2001-02, with a large portion dedicated to 

health care. The government has also decided to use a portion of its 

projected surpluses to help finance a major tax reform, which was passed 

in 1999. The tax reform package included the introduction of a national 

goods and services tax (GST) along with a reduction in income tax rates for 

individuals. A GST has been proposed several times in Australia’s recent 

history but has failed to pass due to concerns over its regressiveness. 

However, the government was able to pass the GST in 1999 due, at least in 

part, to the availability of budget surpluses that could be used to pay for 

income tax rate cuts used to offset the impact of the GST. 

8

Beginning in 1996 the Australian measurement of the surplus/deficit changed from a cash 

basis to an “underlying” balance basis, which excludes the net effects of advances, such as 

loans, and equity transactions, such as sales and purchases of capital assets, from the 

calculation of surplus/deficit. If a cash measurement is used, Australia achieved a small 

surplus in fiscal year 1996-97.
Page 47 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Canada Aims for “Balance or 

Better”

Upon achieving a surplus, Canada set as its fiscal goal to achieve “balance 

or better” and has kept its “prudent” budget practices in place to better 

ensure that it meets its goal. These “prudent” budget practices were put in 

place in support of the government’s effort to eliminate deficits and include 

a shortened forecast period of 2 years, the use of conservative economic 

estimates, and a contingency fund to be used for unforeseen events or debt 

reduction. The effect of these practices has been that Canada has met or 

exceeded its fiscal goals. During a surplus period, the effect has been to 

limit the ability of the government to spend surpluses until they materialize. 

Thus, Canada has adopted a cautious allocation strategy, waiting until 

additional resources are nearly certain before introducing small-scale tax 

cuts and spending increases.

The Finance Department uses assumptions for interest rates, and 

sometimes economic growth, that are intentionally more conservative than 

private sector forecasts. This cautious forecasting policy has been in place 

since 1994 and was based on a recommendation from a panel of 

economists convened in late 1993 to advise the government on fiscal and 

economic issues. The panel’s recommendation was underscored by a 

private sector analysis that found that the government’s economic 

assumptions in the 1980s and early 1990s tended to be overly optimistic. 

Under the current government’s cautious approach, the Finance 

Department’s economic assumptions have often been more pessimistic 

than actual outcomes.

The contingency reserve is an annual amount that is built into projected 

spending, but is not allocated to any specific program. It is an accounting 

mechanism used to supplement the government’s cautious forecasting 

policy, rather than an actual cash fund. Under the current government, this 

reserve is not available to fund new initiatives. Instead, it serves solely as a 

buffer against unanticipated developments, such as an adverse change in 

the economy. If the government’s budget projections are on target (or 

overly pessimistic), the reserve acts to reduce the deficit or increase the 

surplus. For example, in fiscal year 1998-99, the government projected a 

balanced budget. This balanced budget estimate assumed that the 

CAN$3 billion contingency reserve would need to be spent to compensate 

for shortfalls in the projections. If the budget forecast is exactly on target, 

the government will actually realize a CAN$3 billion surplus that will be 

used to reduce debt. For example, in fiscal year 1998-99, the actual fiscal 

result was close to the target, and Canada realized a surplus of 

CAN$2.9 billion, which it used to reduce debt.
Page 48 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The final element in the government’s cautious approach is a short forecast 

horizon; it publishes detailed projections for only 2 years. Prior to the 

current government, the Finance Ministry used a 5-year budgeting time 

frame for setting fiscal policy and repeatedly failed to meet its deficit 

targets. In contrast, since fiscal year 1994-95, the current government has 

consistently bettered its 2-year fiscal targets. While using a short forecast 

period is not necessarily a more prudent approach to budgeting, the 

government explains that its short horizon is a response to the inherent 

sensitivity of longer-term forecasts to future economic developments. 

Another important reason for the shorter forecasts is that during a period 

of deficit reduction, they focus attention on making cuts today rather than 

delaying action until tomorrow. During a time of surplus, shorter forecasts 

can reduce the temptation to spend projected surpluses. On the other hand, 

a short-term budgeting time frame does not disclose the full long-term 

impact of policy decisions.

As it has entered a period of budget surpluses, the government has 

continued to rely on a cautious approach. Excluding the contingency 

reserve, the Finance Ministry does not publicly project budget surpluses. 

The government’s current fiscal goal is, at a minimum, a balanced budget−a 

strategy that it refers to as “balance or better.” However, the contingency 

reserve implies that the actual target is a surplus of at least CAN$3 billion, 

about 0.3 percent of GDP. The government has acknowledged it anticipates 

budget surpluses by introducing the “Debt Repayment Plan.” The plan is an 

explicit statement that the government’s cautious approach could result in 

budget surpluses and that the contingency reserve would be used to reduce 

debt. The 1999 Budget Plan states that “the level of debt in relation to the 

ability to service the debt (the debt-to-GDP ratio) is still too high [at about 

65 percent of GDP]−both by historical Canadian and international 

standards. . . . Reducing the debt-to-GDP ratio must remain a key objective 

of the government’s fiscal policy.”9

While the government is committed to using a modest amount of budget 

surpluses for debt reduction through the contingency reserve, it also uses 

surplus revenues for new spending and tax cut initiatives. This strategy of 

dividing surpluses between debt reduction, tax cuts, and new spending was 

articulated during the government’s 1997 reelection campaign. At that time, 

the government stated that it would devote 50 percent of budget surpluses 

9

The Budget Plan 1999, Government of Canada, Department of Finance, February 16, 1999, 

p. 52.
Page 49 GAO/AIMD-00-23 Budget Surpluses in Other Nations

to new spending and the other 50 percent to a combination of tax cuts and 

debt reduction. Analysts we interviewed stated that this allocation 

framework applies to surpluses over the full parliamentary term and will 

not necessarily be followed on a year-by-year basis. 

In both the fiscal year 1998-99 and 1999-2000 budgets, the government 

introduced a number of new selected spending and tax initiatives. The 

Finance Ministry estimates that these initiatives will cost the government 

about CAN$50 billion cumulatively from fiscal year 1997-98 to 2001-02. On 

the spending side, these initiatives have focused on health care and 

education. The tax changes include an increase in the amount of income 

that low-income earners can receive on a tax-free basis, the elimination of a 

3 percent surtax, an increase in the Child Tax Benefit, and a reduction in 

employment insurance rates for both employers and employees. 

In launching new policy initiatives, the government has adopted a 

philosophy that generally avoids committing resources before they 

materialize. Typically, the government does not introduce new spending or 

tax cuts until late in the fiscal year when a surplus becomes apparent. The 

fiscal year 1999-2000 budget explained this approach and its rationale as 

follows: 

“Central to [the government’s] planning approach is the notion that spending initiatives and 

tax cuts will be introduced only when the government is reasonably certain that it has the 

necessary resources to do so. This protects against the risk of having to make hasty, and 

potentially damaging, corrections to the budget plan, such as announcing tax relief one year 

and then having to raise taxes the following year.”

In line with this cautious approach, the government has generally shied 

away from both large-scale spending commitments and major tax cuts. In 

addition, the government has enacted nonpermanent spending initiatives, 

showing its preference for limiting future commitments. An example is the 

Canada Millennium Scholarship Fund. The full cost of the fund−a 

nonrecurring CAN$2.5 billion−was booked in fiscal year 1997-98, though 

scholarships will not be awarded until 2000.10 The government has also 

made many nonpermanent investments for health care, research, and 

education, addressing some of the areas cut back the most during the 

previous period of deficit reduction. This cautious strategy for allocating 

10It should be noted that the Office of the Auditor General argued that this transaction 

should have been booked in the year it occurred, and as a result the federal surplus figure 

for 1997-98 was understated by CAN$2.5 billion.
Page 50 GAO/AIMD-00-23 Budget Surpluses in Other Nations

extra resources is supported by the Finance Ministry’s use of conservative 

economic assumptions, which tend to understate the resources available 

for spending. 

United Kingdom Aims to 

Increase Investment Spending

The current government has developed a new framework for fiscal policy 

that reflects “lessons learned” from the United Kingdom’s past experiences. 

The fiscal strategy emphasizes a greater focus on the structural budget, a 

more explicit distinction between current and capital spending, and firm 

multi-year spending ceilings that will not be subject to annual review. The 

current Labor government’s fiscal strategy is guided by two rules: (1) the 

“golden rule,” under which borrowing will not be used to finance current 

spending (that is, total spending excluding investment), and (2) the 

“sustainable investment rule,” which promises to keep net public debt as a 

share of GDP at a “stable and prudent” level (which the government 

currently defines as below 40 percent). Both rules are to be applied over 

the economic cycle, allowing for fiscal fluctuations based on current 

economic conditions. 

Under the “golden rule,” the government is aiming for operating balance, 

allowing for deficit financing of capital investment. The government 

defines investment as “physical investment and grants in support of capital 

spending by the private sector.”11 Investment spending was significantly 

restrained under the previous deficit reduction efforts, and, as a result, the 

current government has made boosting public investment a major priority, 

proposing to nearly double it as a share of the economy−to 1.5 percent of 

GDP−over the course of the current Parliament. While investment spending 

is a priority, the “sustainable investment rule” is intended to ensure that 

financing such spending does not result in an imprudent rise in debt. 

A sharper focus on the economic cycle is a general feature of the current 

government’s policy that explicitly reflects the “lessons learned” from the 

past. A recent Treasury report explains the importance of taking the cycle 

into account: 

11Fiscal Policy: current and capital spending, HM Treasury (United Kingdom), p. 7, 

footnote 2.
Page 51 GAO/AIMD-00-23 Budget Surpluses in Other Nations

“Experience has shown that serious mistakes can occur if purely cyclical improvements in 

the public finances are treated as if they represented structural improvements, or if a 

structural deterioration is thought to be merely a cyclical effect. The Government therefore 

pays particular attention to cyclically-adjusted indicators of the public sector accounts.”12

As a result of the government’s rules, its fiscal policy allows for small 

deficits to be used to finance investment spending, provided that overall 

debt burden is kept at a stable and prudent level. Despite this allowance for 

small deficits, the Treasury estimates that the budget registered a surplus 

of 0.1 percent of GDP for public sector net borrowing in fiscal year 1998-99. 

Using the government’s “current budget” measure, which excludes 

investment, the fiscal year 1999-2000 budget estimated that there would be 

a surplus of 4.1 percent of GDP for fiscal year 1998-99 and projected 

surpluses on the current budget every fiscal year until 2003-04.

12Stability and Investment for the Long Term: The Economic and Fiscal Strategy Report 

1998, HM Treasury (United Kingdom), June 1998, p. 45.
Page 52 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Over the past two decades, the case study countries have taken actions that 

address long-term fiscal pressures expected to arise from aging 

populations. In Norway’s case, long-term pressures were a major factor 

leading the government to decide that surpluses were needed to ensure the 

long-term sustainability of its policies. For other countries, programmatic 

reforms aimed at addressing long-term pressures enacted prior to the 

arrival of surpluses resulted in increased fiscal flexibility during a period of 

surplus. Over the last two decades, four countries--Australia, Canada, 

Sweden, and the United Kingdom--enacted major pension reforms that 

have reduced long-term budgetary pressures and put their pension systems 

on a more sustainable path. Consequently, as these countries have entered 

a period of surpluses, long-term budgetary pressures due to increasing 

pension costs have not emerged as a major focus of political debates. 

By achieving budget surpluses and reducing debt, these countries have 

taken a step toward improving their long-term fiscal and economic health 

and enhancing future budget flexibility. Budget surpluses increase national 

saving, which can lead to increased investment and productivity, thereby 

increasing potential future economic output and living standards. By 

reducing debt, budget surpluses also reduce the government’s interest 

costs, freeing resources to be spent on other priorities. Furthermore, lower 

levels of debt can improve a nation’s capacity to borrow and meet future 

budgetary needs. 

Most Countries Face 

Increasing Costs Due 

to an Aging Population

Like the United States, most countries in our study face impending 

challenges arising from an aging population. While demographic trends 

differ among the countries, all are projecting an increase in the ratio of 

retirees to working age population. If current spending patterns continue, 

increased spending on pensions and health care threatens to crowd out 

spending on other important public goods and services. 

Each of the case study countries is projecting an increase in the aging 

population relative to the working age population. (See figure 9.) In about 

10 years, the baby boom generation will start to retire, and the number of 

retirees will rise faster than in the past. Increased life expectancy will also 

contribute to the aging pressure, as the number of years spent in retirement 

increases. The number of people in the working population will also shrink 

as a percentage of the population, placing increased pressure on the fiscal 

system. In Canada for example, the ratio of people aged 65 and over to 

those in the working age population is expected to more than double 

between 2000 and 2030.
Page 53 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 9: Ratio of Population Aged 65 and Over to Population Aged 15-64, 2000 and 2030

Source: Data from World Population Projections 1994, The World Bank, Bos et al.

The aging population is expected to give rise to growing demand for 

pension and health care services. The demand for public pensions alone 

can be a substantial strain on the budgets, caused by annual public pension 

costs that, absent any policy changes, are expected in some countries to 

double as a percentage of GDP by 2030. (See table 2.) For example, annual 

public pension costs in Norway are projected to increase from about 

7 percent in 1996 to about 15 percent in 2030. Similarly, the demand for 

health care is expected to increase substantially, not only from an aging 

population but also from improved technology and the resulting greater 

expectations placed on the health system. Several countries have taken 
Page 54 GAO/AIMD-00-23 Budget Surpluses in Other Nations

steps to address these pressures, either by setting aside budget surpluses 

as Norway has done or by enacting pension reforms. 

Table 2: Projected Growth in Annual Public Pension Expenditures as a Percentage of GDP, 1995-2030

Note: In Australia, the public pension system is supplemented by a mandatory private pension scheme 

funded from employer contributions. In Sweden, in 1998 the Parliament passed legislation to 

comprehensively reform the pension system from a pay-as-you-go, defined-benefit system to a pay-asyou-go, defined contribution system with mandatory individual accounts. Pension expenditure data for 

Sweden does not reflect the reform.

Sources: Data from case study countries; David Stanton and Peter Whiteford, Pension Systems and 

Policy in the APEC Economies, 1998; Bosworth and Burtless, Aging Societies: The Global Dimension, 

1998; Social Security Administration, Retirement Income Security in the United Kingdom, 1998; 1999 

Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Disability 

Insurance Trust Funds.

1995 2030 Description of public pension system

Australia 3.2 4.1 Flat-rate, means-tested benefits financed from general fund revenue. Also includes 

service pension for veterans.

Canada 4.4 7.5 Near-universal, non-contributory benefits financed from general fund revenues and a 

compulsory earnings-related public pension.

New Zealand 5.0 9.0 Flat-rate benefits financed from general fund revenues.

Norway 7.0 15.0 Flat-rate, universal benefits and additional benefits based on annual earnings and years 

at work financed by payroll taxes and general fund revenues. Includes disability pensions.

Sweden 11.8 15.0 Flat-rate, minimum benefits for all residents meeting residency or work requirements and 

a supplementary pension based on income. Also includes government housing 

supplements and a system of partial pension for those between 61 and 64 years of age.

United Kingdom 4.2 4.7 Flat-rate, basic benefits supplemented by an earnings-related pension. Employees are 

provided tax incentives to move from the public earnings-related pension plan into private 

plans. Also includes means-tested assistance for low-income retirees.

United States 4.8 5.9 The Old-Age, Survivors and Disability Insurance Program provides monthly payments 

based on annual earnings to beneficiaries. The program is financed from payroll taxes.
Page 55 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Countries Have Taken 

Action to Address 

Future Demographic 

Pressures

Case study countries have taken actions in recognition of the fiscal and 

economic pressures arising from aging populations. As discussed in 

chapter 2, Norway has developed a policy goal to save its current budget 

surpluses to address long-term pressures. In 1991, Norway established the 

Government Petroleum Fund, in which budget surpluses are invested in 

stocks and bonds to be used in the future to pay for a projected increase in 

pension spending.1

 Other countries have taken actions to reform their 

pension systems prior to the arrival of budget surpluses, allowing them to 

focus on other uses for their surplus. 

Norway Has Set Aside 

Surpluses to Address Longterm Issues

Norway faces the situation of an aging population, a shrinking proportion 

of working age population to retirees, and a projected sharp decline in oil 

revenues in the future. As noted in chapter 2, pension expenditures as a 

share of GDP are projected to more than double by 2050, while petroleum 

revenues as a share of GDP are projected to fall drastically over the same 

period. Today, revenues from petroleum activities account for a significant 

share of government revenues at about 16 percent of total revenue. Norway 

has responded to this future pressure by establishing the Government 

Petroleum Fund, in which budget surpluses, which are generated from 

petroleum revenues, are invested outside the government to pay for future 

pension costs. The fund constitutes a real asset that can be drawn upon as 

pension costs increase in the future. 

The Government Petroleum Fund is also designed to boost Norway’s longterm economic growth potential. The fund is invested in foreign stocks and 

bonds. By purchasing foreign assets, the fund automatically reduces 

Norway’s large current account surpluses and reduces upward pressure on 

Norway’s exchange rate, thereby enhancing the cost competitiveness of 

non-oil industries with other countries. The government recognizes that in 

the long run, as petroleum output declines, having competitive non-oil 

industries will become increasingly important to maintaining economic 

growth. 

The fund could also aid long-term growth because it provides a buffer 

against severe downturns. While the rationale for saving more of the 

1

The Norwegian government receives a significant amount of revenue annually from its 

petroleum sector. To “save” these excess revenues and prevent them from overheating the 

economy, Norway established the Government Petroleum Fund in 1991.
Page 56 GAO/AIMD-00-23 Budget Surpluses in Other Nations

surplus has been the long-term pressure caused by an aging population, 

fund assets are not explicitly reserved for future pension costs. 

Consequently, fund assets may be used to cover government deficits when 

necessary, eliminating the need for additional borrowing. In fact, a portion 

of the fund has been used to cover non-oil budget deficits. 

Australia and the United 

Kingdom Reformed Pension 

Systems in the 1980s

Australia and the United Kingdom enacted major pension reforms starting 

in the 1980s and continuing through the 1990s. Each country enacted a 

tiered pension system, with a significant portion of the pension benefits 

accruing in private plans and the government providing basic pension 

benefits that are either limited or have substantially eroded in value. As 

more workers build up pension benefits in private plans, the government’s 

pension obligations are projected to decrease.

While the budgetary effects are similar, Australia and the United Kingdom 

undertook their reforms for different reasons. The United Kingdom 

undertook reform as part of its deficit reduction efforts and to ensure the 

sustainability of its pension funds. The United Kingdom’s government 

significantly scaled back its commitment to future retirees by changing the 

way the basic pension was indexed and by encouraging the movement of 

workers into individual pensions or employer-provided pensions.2

 Australia 

reformed its pension system as part of a wider effort to reduce real wage 

increases and thus avert short-term inflationary pressures, to improve the 

living standards of retirees, and to increase national saving. In 1986, the 

Australian government created a guaranteed private pension scheme for 

employees involved in collective bargaining where employers contribute a 

portion of the employees’ wage into individual accounts invested in the 

market. In 1992, this scheme was expanded to require mandatory employer 

contributions to employee retirement benefits.

While these countries had different rationales for reforming their pension 

systems, both approached the challenge of reducing the budgetary 

pressure of an aging population by switching a portion of the costs away 

from the public sector. While spending on retirement systems will increase 

in both countries in the next half-century, retirement spending is projected 

to take up a relatively small share of GDP. This may explain why, upon 

2

Under the revised pension indexation formula, increases were tied solely to prices rather 

than the greater of price or wage increases, as was done previously.
Page 57 GAO/AIMD-00-23 Budget Surpluses in Other Nations

entering a period of surpluses, these countries have focused on other 

issues. 

Canada and Sweden Reform 

Public Pensions to Ensure 

Sustainability 

Sweden and Canada both account for their pension systems separately 

from the rest of their budgets. Both countries have generally run annual 

surpluses in their plans and have used the proceeds to build up reserves.3

Consequently, discussions regarding the need to address future shortfalls in 

their pension systems have occurred separately from debates about deficits 

or surpluses.

During the mid-1990s, both countries modified their pension systems to 

improve their sustainability. These reforms occurred largely as a result of 

projections showing that they would run out of money early next century. 

Canada’s reform calls for some benefit reductions coinciding with a gradual 

buildup of reserves through increased payroll taxes and higher returns on 

investments by allowing for a portion of fund assets to be invested in 

stocks and bonds for the first time. Sweden changed its benefit formula to 

automatically adjust for changing demographics and economic 

performance and set up individual accounts in which individuals can 

choose how to invest their fund balances. 

In Canada, these pension fund surpluses will continue to be excluded from 

the budget surplus/deficit measure. In Sweden, due to a change in its fiscal 

measure in 1995, pension fund surpluses are now counted as part of the 

government’s measure of surplus. However, pension fund surpluses will 

continue to be accounted for separately from central government revenues, 

and as a result, annual budget deliberations focus primarily on the 

non-pension fund portion of the budget.

Reduced Debt Levels 

Can Help Countries 

Better Deal With Longterm Pressures

By eliminating budget deficits and reducing debt, case study countries have 

increased their ability to respond to future fiscal pressures. Lower levels of 

debt can increase national saving, leading to increased investment and 

productivity, and ultimately increasing potential economic growth. Each 

case study country lowered its debt burden during the 1990s. If these 

countries continue to reduce debt, as is the stated goal for several 

3

Canada has traditionally invested its surpluses in provincial, territorial, and federal 

government securities. Its current reform allows for investment in stocks and bonds. In 

Sweden, surpluses are invested in a combination of stocks and bonds.
Page 58 GAO/AIMD-00-23 Budget Surpluses in Other Nations

countries, they can expect increased budgetary flexibility to address fiscal 

pressures in the future. Leaders in several countries have decided to pursue 

lower levels of debt to increase their ability to respond to future fiscal 

pressures and to improve long-term economic prospects. 

As a result of improving budgets and the achievement of surpluses, case 

study countries have reduced their debt levels during the 1990s. (See figure 

10.) New Zealand achieved the greatest improvement in debt burden during 

the 1990s, cutting its debt burden by more than half between 1992 and 1998. 

Norway also achieved great success, improving its debt burden by about 

17 percent of GDP between 1994 and 1998.
Page 59 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 10: Improvement in General Government Net Debt as a Percentage of GDP During the 1990s

Note: 1998 data for Canada, Norway, Sweden, and the United Kingdom are OECD estimates. Debt 

figures for New Zealand are for central government only.

Sources: OECD Economic Outlook 65, June 1999, and the New Zealand Treasury.

During the 1990s, policymakers have developed fiscal policies with an eye 

to the potential long-term benefits associated with lower levels of debt. As 

mentioned in chapter 2, several case study countries have pursued 

surpluses in an attempt to address long-term pressures, increase budgetary 

flexibility, and improve long-term economic growth. Canada, New Zealand, 

and Sweden are all attempting to reduce debt levels in order to enhance 

future budgetary flexibility. Norway is saving its budget surpluses to 

address long-term budgetary pressures. Australia views budget surpluses 

as a means of increasing national saving leading to higher long-term 

economic growth. The United Kingdom is attempting to increase 
Page 60 GAO/AIMD-00-23 Budget Surpluses in Other Nations

investment spending to enhance long-term economic growth. As these 

countries transition to a period of projected surpluses, having a long-term 

outlook has played a critical role in the justification of continued fiscal 

discipline.
Page 61 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The framework for fiscal decision-making, which includes both the budget 

process and the way fiscal position is measured, can play a critical role in 

shaping fiscal policy and maintaining fiscal restraint. The budget 

framework can play an especially important role during a period of budget 

surplus when the goal of fiscal policy is not always clear and maintaining 

fiscal discipline can be difficult. The measure of fiscal position can be used 

to define a goal and to measure “success.” Zero deficit is generally accepted 

as one such measure and a signal of the fiscal health of a country. However, 

during periods of surplus, other measures may play a more prominent role 

because they shed light on long-term fiscal health and/or the fiscal position 

independent of the economy’s impact.

All of the countries in our study changed their budget process during the 

1990s. In some cases, budget process changes were enacted to support 

deficit reduction efforts, while in other cases, they were enacted to help 

guide fiscal policy decisions. In Norway and Sweden, these changes 

focused on setting top-down spending and revenue targets before policy 

initiatives were considered, making it more difficult to increase spending 

and/or cut taxes. Australia, New Zealand, and the United Kingdom focused 

on increasing transparency by requiring the government to clearly state its 

fiscal goals. Canada’s changes centered on using conservative budget 

estimates to better ensure that it would be able to meet its fiscal goals. As 

these countries moved into a period of budget surpluses, their budget 

processes have continued to play an important role in maintaining fiscal 

discipline and/or in setting fiscal policy. 

The measures that case study countries use to assess fiscal position 

influence and inform decisionmaking not only during periods of deficit, but 

also during periods of surplus. These countries do not always focus on a 

cash balance figure when formulating fiscal policy. For example, some 

countries focus on debt burden or the structural budget position, which 

factors out the economy’s impact on the budget. In periods of surplus, 

these measures can provide a justification for continued fiscal discipline, 

whereas focusing solely on a cash balance may not. Some other countries 

do not include annual surpluses from public pension funds in their primary 

measure of fiscal position, removing these funds from any debate about 

how to use surpluses.
Page 62 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Budget Process 

Changes Play a Critical 

Role During Period of 

Surplus

All the case study countries changed their budget processes during the 

1990s. In some cases, budget process changes were enacted to support 

deficit reduction efforts, while in other cases, they were enacted to help 

guide fiscal policy decisions. These reforms varied in design, but all strove 

to make it more difficult to increase spending and/or to cut taxes. In 

general, the reforms took an approach where (1) overall expenditure limits 

were agreed upon before budget details were worked out, (2) transparency 

increased because governments were required to clearly define their fiscal 

goals, and (3) conservative budget estimates were used to better ensure 

that fiscal goals would be met. Decisionmakers and budget experts in each 

country cited budget process reforms as a critical component of their 

ability to maintain fiscal discipline and/or to set fiscal policy goals. As the 

case study countries have transitioned from deficit reduction to surpluses, 

leaders in these countries have continued to use budget processes to 

support fiscal constraint. 

Expenditure Limits Used to 

Control Spending

Expenditure limits as part of a top-down approach to budgeting have 

played a key role in attempts to control spending, both during periods of 

deficit and surplus. Under this approach, decisionmakers agree on overall 

spending limits prior to making specific decisions on policy initiatives. 

After reaching an agreement on spending and/or revenue levels, any new 

policy initiative must fit within these limits. 

Expenditure ceilings represented a significant change for two countries in 

particular. Prior to budget process reforms in the 1990s, Norway and 

Sweden had not previously set expenditure ceilings. In fact, the general 

trend in each country had been for Parliament to increase spending above 

the government’s budget proposals, and this was perceived to be a problem 

in each country.

The Norwegian Parliament reformed its budget process in 1997 to show its 

continued support for fiscal discipline and in reaction to past spending 

increases. For the first time, the Parliament adopted a top-down approach 

to budgeting, setting aggregate revenue and expenditure ceilings. Under the 

old procedure there was no agreement on an overall expenditure and 

revenue limit at the beginning of the budget process, and the final budget 

represented the aggregate of individual spending decisions. As a result, the 

previous budget process often led to Parliament increasing spending above 

the government’s proposed levels. Under the new budget process, 

Parliament agrees on an overall fixed budget ceiling and ceilings for 
Page 63 GAO/AIMD-00-23 Budget Surpluses in Other Nations

23 spending and 2 income areas at the beginning of the budget process. All 

spending and revenue proposals must fit within these ceilings.

Sweden enacted a comprehensive budget process reform in the mid-1990s 

in reaction to several studies which found its budget process to be among 

the weakest in Europe in its ability to control spending and react to large 

budget deficits. Under this reform, Parliament is required to pass an 

aggregate expenditure ceiling, and expenditure ceilings covering both 

discretionary and mandatory programs for a 3-year period. Once enacted, 

the expenditure ceilings are fixed and generally cannot be changed. 

Parliament passes a new aggregate expenditure limit every year for the 

third year only.

Sweden’s budget process reform has had a significant impact on fiscal 

policy during the current period of projected surpluses. As Sweden entered 

the current period of projected surpluses, the government has remained 

committed to the previously agreed-to expenditure ceilings. As a result of 

its commitment, the government has proposed spending cuts totaling 

nearly 17 billion kronor in fiscal years 1999 and 2000 to remain under the 

expenditure ceilings. This is much different than in the past when Sweden 

found it difficult to maintain fiscal discipline. Also, the expenditure ceilings 

have changed the focus of Sweden’s debate. Because the government 

remains committed to the expenditure ceilings, the surplus debate has so 

far focused mainly on the need to reduce debt or cut taxes. As a result the 

current government has proposed a broad-based income tax cut as part of 

its fiscal year 2000 budget proposal. 

Countries Increased Budget 

Transparency by Setting 

Clear Fiscal Goals 

Several governments in the case study countries have also attempted to 

increase the transparency of their budget processes by requiring clearly 

defined fiscal goals. These reforms require governments to set fiscal goals 

not only on the bottom-line fiscal position, but also for other important 

fiscal and economic indicators such as debt burden, national saving, and 

investment spending. 

New Zealand was the first country to change its focus when it passed the 

Fiscal Responsibility Act (FRA) in 1994. Under FRA, New Zealand’s 

decisionmakers must consider the impact of fiscal policy on such variables 

as debt burden and national wealth. Likewise, Australia passed the Charter 

of Budget Honesty Act in 1998, which requires decisionmakers to assess 

the budget’s impact on national saving and debt burden. In 1998, the United 

Kingdom passed into law a requirement laying out the parameters within 
Page 64 GAO/AIMD-00-23 Budget Surpluses in Other Nations

which fiscal policy must be set. Based on this statute, the current 

government has developed a Code for Fiscal Stability, in which the 

government’s fiscal policy stance calls for balanced budgets, on average, 

while allowing for borrowing only for investment.

New Zealand’s Fiscal 

Responsibility Act

New Zealand’s Fiscal Responsibility Act (FRA) introduced a new 

framework for fiscal decisionmaking. FRA was designed to lead to better 

fiscal outcomes by making policymakers consider not only the short-term 

impacts of decisions, but also the medium- and long-term effects. The act 

required that policymakers clearly define their fiscal goals and established 

a set of reporting requirements designed to increase the frequency and 

transparency of the government’s fiscal reporting.

In New Zealand, the requirement that the government establish a “prudent” 

debt level as a fiscal goal has been critical to their ability to sustain fiscal 

discipline during a period of surpluses. FRA requires the government to 

establish a prudent debt goal and to run budget surpluses until the goal is 

met. This has had a significant impact on fiscal policy in New Zealand since 

the law was passed. In 1994, the government established a debt goal of 

between 20 and 30 percent of GDP, and set as its fiscal policy to run 

surpluses until that goal was achieved. In 1996, once the 30 percent target 

was achieved, the government established an even lower goal of 20 percent 

and passed a tax cut package. Subsequently, the government reduced its 

debt target to 15 percent. In the spring, summer, and fall of 1998 budget 

forecasts showed that the budget would return to deficit largely as a result 

of the Asian economic crisis. The government’s reaction was to pass 

spending cuts to maintain surpluses and to continue to make progress 

toward its debt goal. 

To increase public scrutiny and hold the government accountable for its 

performance, FRA established extensive reporting requirements. In 

addition to various reports, the government has to disclose all decisions 

that may have a material effect on the future fiscal and economic outlook. 

Through these extensive reporting requirements, the act attempts to ensure 

that departures from responsible fiscal management principles will be 

temporary because they will be reported to the public. Consequently, the 

government will be required to explain why it has not met its fiscal goals. 

Australia’s Charter of Budget 

Honesty 

The Charter of Budget Honesty, which formally was passed into law in 

1998, has been the framework guiding fiscal decisionmaking since the 

current government in Australia came to power in 1996. The Charter was 
Page 65 GAO/AIMD-00-23 Budget Surpluses in Other Nations

developed over concerns that the true fiscal position was not always 

disclosed adequately. 

The Charter set out principles for the conduct of sound fiscal policy and 

put in place reporting requirements designed to improve discipline, 

transparency, and accountability in the formulation of fiscal policy. The 

Charter’s five principles for sound fiscal management are to (1) maintain 

prudent levels of debt, (2) ensure that fiscal policy contributes to national 

saving and moderates economic fluctuations, (3) pursue a policy of stable 

and predictable tax burdens, (4) maintain integrity of the tax systems, and 

(5) ensure that policy decisions consider the impacts on future generations. 

The Charter, however, allows flexibility for the government to define its 

strategy and goals in such a way as to fulfill these principles.

To ensure improved transparency and accountability, the Charter requires 

extensive reporting on policies that would affect the fiscal position. Prior 

to or at the same time the budget is released, the government is required to 

issue fiscal strategy statements. An Economic and Fiscal Outlook is to be 

published twice each year to provide updated information so that an 

assessment of performance can be made. The Charter also requires that the 

government provide cost estimates of proposals made during the election 

campaign and that it publish ten days after an election is called a 

pre-election report to provide updated information on economic and fiscal 

conditions. 

The Charter has been in place for only a short time, but it has helped to 

guide fiscal policy decisions during the current period of projected surplus. 

For example, the Charter requires the government to assess the impact of 

its fiscal policy decisions on debt level and national saving. In particular, 

policymakers are concerned about Australia’s low rate of national saving. 

Consequently, the current government has established a fiscal policy goal 

calling for balance over the cycle−implying that it will retain surpluses 

during periods of strong economic growth. Under this policy, the 

government’s actions would not reduce national saving because the 

government would not borrow, on average. As a result of this policy, the 

current government has projected that debt will be eliminated by fiscal 

year 2002-03, due largely to continued surpluses and proceeds from 

privatization.

The United Kingdom’s Code for 

Fiscal Stability

In 1998, the United Kingdom passed into law a requirement that the 

government issue a “Code for Fiscal Stability.” The law’s purpose is to 

increase transparency and enhance accountability by requiring the 
Page 66 GAO/AIMD-00-23 Budget Surpluses in Other Nations

government to present a fiscal strategy. The statute itself is general, 

allowing the government wide discretion in developing a fiscal strategy. 

The statute establishes five principles to guide fiscal policy: transparency, 

stability, responsibility, fairness, and efficiency. The statute also requires 

the issuance of several reports detailing the government’s fiscal plans.

The current government’s fiscal code is guided by two rules: (1) the “golden 

rule,” under which borrowing will not be used to finance current spending 

(that is, total spending excluding investment), and (2) the “sustainable 

investment rule,” which promises to keep net public debt as a share of GDP 

at a “stable and prudent” level (which the government currently defines as 

below 40 percent). The “golden rule” is intended to ensure “prudent” 

control of public finances while allowing for deficit financing of capital 

investment. The government has made boosting public investment a major 

priority, proposing to double it as a share of the economy. While investment 

spending is a priority, the “sustainable investment rule” is intended to 

ensure that financing such spending does not result in an imprudent rise in 

debt. 

Both rules are to be applied over the economic cycle, allowing for fiscal 

fluctuations based on current economic conditions. Taking both fiscal rules 

into account, the government’s overall fiscal policy allows for running 

small budget deficits. Consequently, when it achieved a surplus in fiscal 

year 1998-99, the government’s focus was not to sustain surpluses but to 

allow increased investment spending and small deficits in future years.

Canada Uses Conservative 

Budget Estimates to Better 

Ensure That It Meets Its Fiscal 

Goals

In 1994, a newly elected government put in place a series of “prudent” 

budgeting practices aimed at better ensuring that it could meet its fiscal 

targets. The new government felt that it had to address Canada’s history of 

making 5-year budget projections that were never met. To better ensure 

that it could meet its projections, the new government put in place three 

main budget practices: (1) shortening budget projections from 5 years to 

2, (2) using private sector forecasts and lowering them by a “prudence 

factor,” and (3) establishing an annual contingency fund to be used for 

unanticipated developments and/or debt reduction.

By shortening the budget cycle from 5 years to 2, the new government felt 

that it could better ensure that it would meet its fiscal goals. In the past, the 

government’s 5-year projections had proved to be overly optimistic, with 

the government repeatedly failing to meet its deficit targets. By using 

forecasts that are more conservative than private sector forecasts, the new 

government felt that it would eliminate criticism that it was basing its fiscal 
Page 67 GAO/AIMD-00-23 Budget Surpluses in Other Nations

projections on overly optimistic economic assumptions. The government 

took the further step of lowering these private sector forecasts by a 

“prudence factor,” such as raising long-term interest rate projections by 

1⁄2 of one percent. Finally, the government put in place a contingency 

reserve that contains CAN$3 billion annually, about 2 percent of total 

spending, to be used for emergencies and/or debt reduction. By putting in 

place a contingency reserve, the government felt that it would be able to 

pay for unforeseen events, better ensuring that it would meet its fiscal 

goals. 

As Canada enters a period of small surpluses, the effect of its budgeting 

practices is that it generally does not spend surpluses until they are about 

to materialize. The size of surpluses available to be spent appear small 

because the government’s budget forecasts are for only 2 years and are 

based on economic forecasts that are more conservative than private 

sector consensus estimates. To the extent that the economy performs 

better than expected, then funds become available for new policy 

initiatives during the fiscal year. This was the case in 1998 when surpluses 

developed during the year. Toward the end of the fiscal year, the 

government enacted several initiatives that used up those surpluses. The 

contingency fund, in practice, has ensured that some moderate debt 

reduction also occurs during a period of surplus. Under the current 

government, the contingency reserve is not available to fund new 

initiatives, thereby ensuring that some debt reduction takes place if budget 

forecasts are on target.

The Role of Measures 

of Fiscal Position 

During Periods of 

Surplus

The measures that case study countries use to assess fiscal position 

influence and inform decisionmaking not only during periods of deficit but 

also during periods of surplus. These countries do not always focus on a 

year-end cash balance figure when formulating fiscal policy. For example, 

some countries focus on debt burden, the structural budget position which 

factors out the economy’s impact on the budget, or operating balance 

which is an accrual-based measure. In periods of surplus, these measures 

can provide a justification for continued fiscal discipline, whereas focusing 

solely on a cash-based measure may not. Finally, some other countries do 

not include annual surpluses from public pension funds in their primary 

measure of fiscal position, removing them from any debate about how to 

use surpluses.
Page 68 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The Use of Debt Burden as 

an Indicator of Fiscal Health

Several case study countries use debt as an additional indicator of fiscal 

health and strive to reduce debt as a share of the economy. As they have 

entered a period of surplus, goals for reduced debt have provided 

justification for continued attempts to maintain fiscal discipline. New 

Zealand, Australia, and Sweden in particular have focused on reducing debt 

burden as a fiscal policy goal and as a justification for attempting to run 

continued surpluses. 

Accounting for the 

Economy’s Effects on the 

Budget

Several case study countries have set fiscal goals that take into account the 

economy’s impact on the budget. For example, Norway’s government 

routinely uses a structural measure of fiscal position when formulating 

fiscal policy. Norway’s structural measure, which excludes the cyclical 

effects of the economy, petroleum revenues, and interest expenditures, is 

the key measure used to set fiscal policy. Norway’s government uses this 

measure to assess if its overall fiscal policy is contributing to or detracting 

from economic growth. The government then attempts to use fiscal policy 

to stabilize the economy by increasing spending or cutting taxes during 

slowdowns to increase growth or doing the opposite during periods of 

inflationary growth. 

Other governments have also set fiscal goals that take into account the 

economy’s effects on fiscal position but have chosen not to employ 

structural measures of fiscal position when setting fiscal policy. For 

example, Australia’s current fiscal policy calls for balance, on average, over 

the economic cycle. However, Australia’s government does not forecast its 

structural budget position. It concedes in its budgets that it is very difficult 

to project structural position, so it does not make such projections. 

Likewise, Sweden aims for surpluses of 2 percent of GDP, on average over 

the economic cycle. However, Sweden currently does not use a structural 

measure of fiscal position when setting fiscal policy. 

Accrual-based Budgeting New Zealand has adopted an accrual budgeting framework, which uses an 

accrual-based measure−the operating balance−as a primary measure of 

deficit/surplus. In general, a cash-based system recognizes a cost when the 

cash outlay occurs, while an accrual-based system recognizes a cost in the 

period the resource is consumed. Consequently, the key difference 

between New Zealand’s operating balance and the traditional cash balance 

relates to the period in which revenues and expenses are recorded. This 

difference can vary in magnitude and direction. For example, under the 
Page 69 GAO/AIMD-00-23 Budget Surpluses in Other Nations

previous cash system, leave liability would be recognized when a staff 

member left a government organization and was paid for the cost of the 

leave balance. Under the accrual system, the government records an 

expense as the leave is earned, and recognizes a year-end liability for leave 

earned but not taken. Financing capital projects affects the budget measure 

in the opposite way. Under a cash measure, capital projects were recorded 

when cash was disbursed. Under accrual-based measurement, capital items 

are recorded in the budget over the expected life of the project, thus 

reducing the initial budgetary impact. Consequently, the net effect of using 

an accrual-based measure instead of a cash-based measure depends on the 

specific government activities undertaken in any given year.

In addition to the operating balance, decisionmakers focus on the balance 

sheet−assets, liabilities, and net worth−when making fiscal decisions 

because they feel it provides an indication of the long-term sustainability of 

government programs. According to officials we met with, the balance 

sheet has had an impact on fiscal decisionmaking by making policymakers 

more aware of some long-term liabilities that were not addressed 

previously. For example, the recognition of a large unfunded liability in the 

accident insurance program was cited as a key factor in the decision to 

increase insurance premiums to fully fund the program. While these 

decisions may not have had a large immediate impact on the current fiscal 

balance, they contributed to programmatic changes, which have improved 

New Zealand’s long-term fiscal health. However, it is important to note that 

New Zealand does not include the commitments of its social security 

system in its accrual-based measures.1

Excluding Pension Fund 

Surpluses From Budget 

Debates

Two case study countries do not include the annual balances of their public 

pension funds in the central government’s measure of fiscal position. Both 

Canada and Sweden account for their public pension funds separately from 

the general fund. The funds’ assets are invested in stocks and bonds and 

are not available to the general fund. As a result, pension fund surpluses are 

not part of budget debates in Canada or Sweden. Debates regarding the 

need to increase pension fund assets to meet future obligations have 

generally occurred apart from budget debates. Both countries enacted 

pension reforms during the 1990s aimed at increasing the sustainability of 

1

The social security commitment is not considered to be a liability under New Zealand’s 

accounting standards. 
Page 70 GAO/AIMD-00-23 Budget Surpluses in Other Nations

the system as it became clear that their funds would run out of money early 

in the next century.
Page 71 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Budget surpluses reflect both the success of past deficit reduction efforts 

and an opportunity to address pressing needs. As a country transitions 

from a period of deficit reduction into a period of surpluses, it is a good 

time to revisit fiscal goals to determine how best to use surpluses. While 

balancing the budget has been the clear and generally accepted fiscal goal 

for many years in the United States, the appropriate fiscal policy for an 

extended period of budget surpluses does not seem so obvious. As 

discussed in chapter 1, a balanced budget is a fiscal goal that often 

commands broad support, while running a budget surplus is a goal with 

less intuitive appeal. While economists generally agree that there are 

benefits to running a surplus−lower real interest rates, increased national 

saving, and lower levels of debt−these benefits must compete with other 

pressing needs. It may seem difficult to justify sustained surpluses since 

the benefits are diffuse and occur in the future whereas new spending 

and/or tax cuts have more immediate and politically compelling effects. 

Accordingly, there may not always be a political constituency to support 

sustained surpluses.

The experiences of other countries suggest it is important to develop a 

strategy for fiscal policy specifically tailored to a period of surplus in order 

to guide budgetary decisions. Several countries are seeking to sustain fiscal 

progress during a period of budget surpluses and have developed fiscal 

strategies that (1) have specific goals and targets that are justified by 

compelling rationales, (2) responds to long-term budget pressures, (3) is 

flexible enough to address pent-up demands, and (4) is supported by a 

strong budget process. In this chapter, we highlight some of the most 

promising practices and approaches of the case study countries and 

suggest how these could assist deliberations in the United States.

Other Countries Have 

Developed a Surplus 

Strategy

Surpluses offered the case study countries an opportunity to address fiscal 

and economic pressures. Surpluses can be used to address any number of 

national priorities with long-range benefits, such as reducing debt or 

reforming rapidly growing entitlement programs. However, these longrange goals must compete with calls for increased spending and/or tax cuts 

to address more immediate demands, which can be especially strong 

following a period of deficit reduction. 

The experiences of the nations in our study suggest that it is possible to 

develop a strategy to use surpluses to address national priorities. The case 

study countries developed fiscal strategies for a period of surplus that 

addressed their own unique and compelling concerns. Fiscal caution was 
Page 72 GAO/AIMD-00-23 Budget Surpluses in Other Nations

the watchword in most of these nations, with three countries setting the 

goal of sustained surplus. Others have set a goal for balance, but with the 

caveat that surpluses be used to address some specific need, such as 

increased investment spending in the United Kingdom. 

Continued fiscal restraint was reflected in specific fiscal goals that guided 

the use of surpluses and helped crystallize political agreement. Such goals, 

however, had to be justified to publics that had already experienced several 

years of deficit reduction−a challenge that was met by pointing to the broad 

and compelling national economic and fiscal challenges that needed to be 

addressed. The fiscal goals articulated by the nations in our study were, 

accordingly, justified as ways to improve their long-term fiscal and 

economic outlook, reduce debt burdens, maintain investor confidence, and 

increase the national saving rate. 

While these countries have taken steps to use surpluses to address longterm national priorities, they have also allowed for a portion of their 

surpluses to be used for more immediate needs. As part of their strategy to 

maintain continued support for surpluses, the case study countries also 

enacted spending increases or tax cuts, which were sometimes used as a 

reward for continued fiscal progress. For example, New Zealand promised 

tax cuts once debt was reduced to 30 percent of GDP. The government 

devoted the entire surplus to debt reduction until it reached this target and 

then cut taxes as promised.

A period of surpluses also illustrates the advantages of addressing budget 

“drivers,” such as public pension programs, that threaten long-term budget 

sustainability. For example, to ensure that surpluses were saved to pay for 

future pension commitments, Norway established a Petroleum Fund in 

which budget surpluses are invested to be used in the future. The case 

study countries that had taken actions to address budget “drivers” years 

before the arrival of surplus have been able to use surpluses to address 

other national priorities. For example, Australia and the United Kingdom 

reformed their pension systems during the 1980s, placing them on a 

sustainable long-term path, and Canada and Sweden have taken more 

recent actions to reform their pension systems. As each of these countries 

entered a period of surplus their budget debate has focused on other 

national priorities. The United States has not yet engaged in fundamental 

reforms of our public pension and health systems. Such reforms are 

necessary to assure the sustainability of these important nationl programs 

and to relieve the related longer term budget pressures.
Page 73 GAO/AIMD-00-23 Budget Surpluses in Other Nations

In the case study countries, the budget process has played a critical role in 

framing budgetary decisions and maintaining fiscal discipline during a 

period of surplus. For example, three countries−New Zealand, Australia, 

and the United Kingdom−recently enacted fiscal codes that have played a 

critical role in shaping fiscal policy decisions during a period of surplus. 

These codes require policymakers to consider the overall impact of fiscal 

policy on such factors as debt burden, national saving, the long-term fiscal 

outlook, and investment spending as part of their budget deliberation 

policies. In the case of New Zealand, focusing on such broad indicators has 

allowed it to develop a compelling rationale supporting a period of 

sustained surplus. 

Spending targets and other budget constraints have played a critical role in 

supporting the surplus policies of Canada, Norway, and Sweden. In 

Norway, the Parliament imposed overall spending caps−something they 

had not used before−to control spending, which had tended to increase 

during previous periods of surplus. In Sweden, the government has decided 

to maintain expenditure limits−including limits for mandatory spending on 

social safety net and health programs−to show its commitment to 

maintaining surpluses even though surpluses have materialized sooner 

than forecast. Finally, Canada has decided to continue using cautious 

budget assumptions and a short-term forecast horizon to ensure that 

surpluses materialize before they can be spent.

Implications for the 

United States

Like the nations in our study, the United States has turned years of deficits 

into a surplus, but unlike most of these nations, we have not yet reached 

agreement on goals and targets to allocate the use of our surpluses. Over 

the last 15 years, fiscal policy in the United States has focused on the need 

to reduce−and eventually eliminate−the deficit. Fiscal constraint reinforced 

by budget process rules and strong economic growth have been the 

primary reasons for our budgetary improvement.1

 In 1997, the Congress 

enacted a comprehensive extension and revision of expenditure caps with 

1

The United States has achieved balance using the budgetary control regime established by 

the Budget Enforcement Act of 1990 (BEA). Under BEA the budget is divided into two parts: 

(1) discretionary spending, defined as spending that stems from annual appropriations acts, 

and (2) direct spending, or spending that flows directly from authorizing legislation; often 

referred to as mandatory spending. Discretionary spending is subject to annual dollar limits, 

or spending caps. Mandatory spending and receipts legislation are subject to a pay-as-yougo (PAYGO) requirement that legislation enacted during a session of Congress be deficit 

neutral (i.e., that any mandatory spending increase or tax cut be offset).
Page 74 GAO/AIMD-00-23 Budget Surpluses in Other Nations

the goal of balancing the budget in 2002. However, the unified budget 

reached balance earlier than planned, and the Congress and the President 

now face the difficult situation of having to comply with tight spending 

caps at the same time that the budget is in surplus. 

As with the nations in our study, the years of deficits have led to the 

accumulation of pent-up demands for federal policy actions. Although the 

United States is still operating under the rules established to achieve 

budget balance, the advent of a surplus has led to increased pressure for 

spending increases and/or tax cuts. The legitimacy of the restraints 

adopted to rescue the nation from deficits is increasingly questioned as 

surpluses build up.

The experiences of other nations suggest that it is possible to sustain 

support for continued fiscal discipline during a period of surpluses while 

also addressing pent-up demands. A fiscal goal anchored by a rationale that 

is compelling enough to make continued restraint acceptable is critical. For 

each country in our study the goal and the supporting rationale grew out of 

a unique economic experience and situation. Many in the United States 

have made the case for sustaining at least some portion of surpluses to help 

deal with our longer-term pressures. GAO’s long-term model simulations 

illustrate the need for continued restraint: saving some of the surplus is 

necessary along with structural reform of retirement and health programs. 

Our simulations show that saving a good portion of the projected surpluses 

would strengthen the nation’s capacity to finance the burgeoning costs of 

health and retirement programs prompted by the aging of our population. 

For instance, we have estimated that national income would be nearly 

$20,000 higher per person in real terms by 2050 if the Social Security 

portion of the budget surplus is saved−that is, eliminate the non-Social 

Security surplus2

−compared to a unified budget balance position. (See 

figure 11.) Moreover, in the United States there is widespread recognition 

of the need to address long-term budget drivers−Social Security and 

Medicare−because even if surpluses are “saved” and used to pay down 

debt, growth in these programs threatens to crowd out other discretionary 

spending. (See figure 12.)

2

Assumes that permanent unspecified policy actions (i.e., spending increases and/or tax 

cuts) are taken through 2009 that eliminate the on-budget−non-Social Security−surpluses. 

Thereafter, these unspecified actions are projected through the end of the simulation period. 

On-budget deficits emerge in 2010, followed by unified deficits in 2019. 
Page 75 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 11: GDP per Capita Assuming Non-Social Security Surpluses are Eliminated vs. Unified Budget Balance

Note: The “eliminate non-Social Security surpluses” path assumes that permanent unspecified policy 

actions (i.e., spending increases and/or tax cuts) are taken through 2009 that eliminate the on-budget 

surpluses. Thereafter, these unspecified actions are projected through the end of the simulation 

period. On-budget deficits emerge in 2010, followed by unified deficits in 2019. The “eliminate unified 

surpluses” path assumes that surpluses are not retained, but that the unified budget remains in 

balance through 2007. 

Source: GAO analysis.
Page 76 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 12: Composition of Spending as a Share of GDP, Assuming On-budget Balance

Note: Revenue as a share of GDP falls from its actual 1998 level to CBO’s 2008 implied level and is 

held constant at this level for the remainder of the simulation period.

*In 2030, all other spending includes offsetting interest receipts.

Source: GAO Analysis.

Moreover, there is widespread recognition in the United States of the need 

to address long-term budget drivers−Social Security and Medicare−because 

even if surpluses are “saved” and used to pay down debt, the U.S.’ fiscal 

path is still unsustainable over the long run. Unless policy changes are 

made, we could again find ourselves in a “vicious cycle” of increasing 

deficits and debt. Growth in Social Security and Medicare spending 

threatens to crowd out discretionary spending in the long run, assuming a 

constant tax burden. However, our budget process does not incorporate a 

long-term perspective, and therefore, it is not designed to address the 

increasing pressures in Social Security and Medicare that result from an 

aging population and will eventually turn budget surpluses into deficits. 
Page 77 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Therefore, a challenge for the United States is to find a way to make the 

transition from a budget regime focused on eliminating the unified deficit 

to one that deals with allocating the surplus between long-term pressures 

and short-term demands. Other nations’ experiences suggest that the 

framework for sustaining a portion of the surplus may be different than the 

framework for reaching budget balance. Agreement on appropriate 

long-term fiscal goals is important to both inform the allocation of surplus 

and to promote public acceptance of the choices. Overall fiscal targets 

could guide the more specific debate over the relative merits of different 

priorities−how much of the surplus to devote to reducing debt, increasing 

domestic discretionary or defense spending, securing existing unfunded 

entitlement promises, and cutting taxes. These choices could be 

considered within a broader context that considers tradeoffs between 

current consumption and saving for the future. 

The design and use of fiscal targets requires care, however. U.S. experience 

shows that a target cannot replace agreement on the steps necessary to 

achieve it. In order for any fiscal policy goal to govern actions, it must be 

grounded in a discussion of national needs and the tradeoffs associated 

with reaching such a goal. In addition, selecting the appropriate measures 

in a time of surplus is complicated−indeed a surplus period may call for 

more complex measures. There is no single number like “0” in the surplus 

world. The debate has already begun over what might replace “0” deficit as 

an appropriate fiscal policy measure for the United States−and what 

process might be appropriate to achieve it. Several nations, for instance, 

have selected debt to GDP targets, with a goal of reducing debt burden over 

time by saving a portion of the surpluses. In our nation’s setting, such 

targets could provide a renewed focus for fiscal policy geared to 

monitoring and enhancing our long-term economic and fiscal capacity to 

shoulder the retirement of the baby boom generation. Although it is not 

easy, the countries in our study sought to design a framework strong 

enough to guide action but flexible enough to survive when economic 

conditions or other factors change. In our setting, the current debate over 

saving the Social Security surplus may ultimately yield an agreement on 

both fiscal targets as well as a process for sustaining support for these 

targets over time. 

Conclusions Can the experiences of these nations be translated to the U.S. 

environment? What do their experiences say about the next steps in the 

U.S. debate? First, the failure to define an explicit fiscal path for the future 

has serious downside risks. As we have discussed in this and other reports, 
Page 78 GAO/AIMD-00-23 Budget Surpluses in Other Nations

“doing nothing” is not really an option−long-term pressures associated with 

public pension and health programs will overwhelm the budget. While the 

debate has begun on how to save a portion of the surplus, until the fiscal 

path for a period of budget surpluses is fully and clearly articulated there is 

a risk of losing the opportunity to enhance our long-term economic 

well-being. A number of the case study countries had already dealt with 

reform of their pension or old-age support programs; this made their task 

easier. This has not been done yet in the United States and so policymakers 

must factor the pressures associated with such programs into any new 

fiscal framework.

As the United States considers how to use surpluses to address our own 

long-term needs, the other nations’ experiences suggest a framework 

which:

• provides transparency through the articulation and defense of fiscal 

policy goals;

• provides accountability for making progress toward those goals; and

• balances the need to meet selected pent-up demands with the need to 

address long-term budget pressures.

As the United States moves from deficit to surplus, it will be important for 

policymakers to reach agreement on a clearly defined and transparent 

fiscal policy framework that makes sense in light of both the current 

pressures and the long-term projections. In order for this framework to 

succeed in setting a broad set of principles to guide fiscal policy 

decisionmaking, the rationale for it must be explained and defended. 

Within this new framework, clear fiscal policy goals should be articulated. 

As with the other countries in our study, these goals should not be rigid 

fixed targets to be achieved on an annual basis. Rather, they should consist 

of broader goals defining a future fiscal policy path for the nation. The 

goals can provide an accountability framework strong enough to guide 

annual budget targets but flexible enough to survive when economic 

conditions and other factors change. Without this balancing of needs, the 

strains on the enforcement regime become too great and the discipline to 

follow a glide path to achieving national goals may be weakened. In other 

countries these goals included reducing the burden of national debt, 

maintaining international investor confidence, and increasing the national 

saving rate. Although the prospect of a loss in international investor 

confidence is not as threatening to the United States as it might be for other 

nations, goals and measures relevant to our own long-term fiscal outlook 
Page 79 GAO/AIMD-00-23 Budget Surpluses in Other Nations

need to be explored. Such goals would go beyond “0” budget balance to 

focus on such issues as debt burden, questions of intergenerational equity, 

and contributions of fiscal policy to net national saving. The use of 

structural measures of fiscal position might help keep fiscal policy 

focussed on the underlying fiscal position of the federal government, 

excluding temporary cyclical economic trends.

The surplus presents an opportunity to address the long-term budget 

pressures presented by Social Security and Medicare. If we let the 

achievement of a budget surplus lull us into complacency about the budget, 

then in the middle of the 21st century, we could face daunting demographic 

challenges without having built the economic capacity or program/policy 

reforms to handle them. A new fiscal framework for a period of budget 

surpluses would be of great value to policymakers and to the U.S. public as 

the nation embarks on a period of budget surpluses. Such a framework 

could go a long way towards ensuring that future debate on what to do with 

surpluses is focussed on issues that are most critical to advancing the 

future economic well-being of the nation. 

Developing consensus on new fiscal goals and putting in place a framework 

to support those goals is not easy. Other nations illustrate, however, that 

reaching consensus on using surpluses is possible. Our nation has made 

measurable sacrifices of current needs for future goals when those goals 

were defined in compelling enough terms. A surplus offers us with a unique 

opportunity to revisit the framework under which budgetary decisions are 

made and to address selected critical short-term needs and known longterm obligations.
Page 80 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The Commonwealth of Australia has experienced two periods of budget 

surpluses since the mid-1980s, preceded by periods of deficits and deficit 

reduction.1

 Beginning in fiscal year 1987-88 Australia entered a 4-year 

period of surpluses that marked its first surpluses in more than three 

decades.2

 The surpluses were achieved through a combination of strong 

economic growth and deficit reduction efforts begun in 1984.3

 Australia’s 

main fiscal objective during this period of surpluses was to run balanced 

budgets. In accordance with this policy and the additional goal of the 

government to reduce outlays as a percentage of gross domestic product 

(GDP), the government continued to cut aggregate spending while also 

implementing a tax reform, which included tax cuts. Deficits reemerged in 

fiscal year 1991-92 primarily as a result of the 1991 recession. 

In 1996, a newly elected government embarked on a renewed deficit 

reduction effort and achieved a small budget surplus in fiscal year 1997-98. 

This government advanced a new framework for developing fiscal policy 

called the “Charter of Budget Honesty.” The Charter laid out a set of guiding 

principles and reporting requirements aimed at improving fiscal 

performance while increasing transparency and accountability. Under this 

framework, the new government also established a fiscal policy aimed at 

achieving underlying budget balance over the economic cycle so as not to 

reduce national savings. In contrast to the previous surplus period when 

budget balance was the goal, the current government explicitly calls for 

running surpluses during periods of economic strength. The fiscal year 

1998-99 budget forecasted surpluses totaling more than A$23 billion for 

fiscal years 2000-01 and 2001-02, which were used in part to fund a tax 

reform package, passed in June 1999, containing tax cuts totaling 

A$12 billion. Figure 13 shows the Commonwealth budget balance between 

fiscal years 1982-83 and 1997-98.

1

Prior to 1996 the term surplus/deficit referred to the cash balance, measured as the 

difference between revenue and outlays. Beginning in 1996, the measurement of the 

surplus/deficit changed from a cash basis to an “underlying” balance basis, which excludes 

the net effects of advances, such as loans, and of equity transactions, such as sales and 

purchases of capital assets. If a cash measurement is used, Australia achieved a small 

surplus of about 0.5 percent of gross domestic product in fiscal year 1996-97.

2

Australia’s fiscal year runs from July 1 through June 30.

3

Deficit Reduction: Experiences of Other Nations (GAO/AIMD-95-30, December 13, 1994).
Page 81 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 13: Commonwealth of Australia Underlying Budget Balance, 1982-83 to 1997-98

Note: The underlying balance is derived by excluding, from a cash measure of surplus/deficit, the net 

effects of advances, such as loans, and of equity transactions, such as sales and purchases of capital 

assets. If a cash measurement is used, Australia achieved a small surplus of about 0.5 percent of 

gross domestic product in fiscal year 1996-97.

Source: 1998-99 Budget Strategy and Outlook, Budget Paper No. 1.

Background The Commonwealth of Australia is a federation composed of the national 

government, 6 state governments, a number of territories, and about 

900 local government bodies. The legislative power at the national level is 

vested in the Commonwealth Parliament, made up of the House of 

Representatives (148 members) and the Senate (76 members−12 from each 

state and 2 from each of the 2 most populous territories). The party or 

coalition of parties with a majority in the House of Representatives forms 
Page 82 GAO/AIMD-00-23 Budget Surpluses in Other Nations

the government and provides the Prime Minister. Cabinet Members are 

generally selected from either the House or the Senate.

The two largest political parties in the Commonwealth Parliament are the 

Australian Labor Party and the Liberal Party of Australia. The Labor Party 

has traditionally represented worker and union interests while the Liberal 

Party has represented business and conservative constituencies. The other 

parties are the Australian Democrats, the National Party of Australia, and 

independents. The Labor Party was in office from 1983 until 1996, after 

which it was replaced by a Liberal-National Coalition. In the Senate, no 

party or coalition of parties currently has a majority. 

The Commonwealth government collects more than 70 percent of the 

public sector revenue, but it is responsible for just over half of public 

sector expenditures−the remainder being transferred to state and local 

governments to fund additional public sector spending.4

 However, this 

imbalance is being addressed by the tax reform measures to take effect in 

2000-01. (See section below on tax reform.) Commonwealth budget 

responsibilities include national defense, immigration, postal and 

telecommunications services, outpatient services and pharmaceuticals, 

and social security.5

 State responsibilities include most public sector 

spending on education, hospitals, public safety, and infrastructure. Local 

responsibilities include local roads and parks, libraries, and land use 

planning. The Commonwealth raises revenue primarily from income taxes, 

sales taxes, and custom and excise duties. States receive their revenue 

mainly from payroll, business franchise, and stamp taxes, as well as 

Commonwealth transfers in the form of general and specific purpose 

grants. Local government revenue is derived from property taxes, charges, 

fines, and a portion of the Commonwealth grants to the states.

The Australian Economy Australia is a small economy that is relatively dependent on trade−its GDP 

is about 5 percent the size of the United States economy and exports 

4

States are limited by the Constitution in the type of tax that they can collect. In World War 

II, states also relinquished the power to tax income to the Commonwealth.

5

The term “social security” refers to old-age pensions, unemployment benefits, and welfare. 

Old-age pension payments are funded out of the general fund, and neither employers nor 

employees make contributory payments. Unemployment benefits are also funded out of the 

general fund, and there is no separate unemployment insurance fund.
Page 83 GAO/AIMD-00-23 Budget Surpluses in Other Nations

account for 15.6 percent of GDP, compared to about 9 percent for the 

United States in 1997.

Recent Economic History Australia’s economy grew quickly in the late 1980s, spurred by strong 

exports, consumption, and high business investment. However, in 1991 

Australia entered a short but severe recession. The economy began to 

recover in late 1992 and since then Australia has experienced a period of 

sustained growth averaging about 4 percent per year, compared to an 

average slightly higher than 3 percent in the 1970s and 1980s. In the 

12 months ending March 1999, GDP growth remained strong at nearly 

5 percent, despite an economic crisis in much of Asia. See figure 14 for 

Australia’s GDP growth since 1983.
Page 84 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 14: GDP Growth in Australia, 1983 to 1998

Source: OECD Economic Outlook 64, January 1999.

Australia’s growth in the 1990s has been accompanied by a lower rate of 

inflation than in the 1970s and 1980s. Despite a drop in the unemployment 

rate, from a peak of almost 11 percent in 1993 to 7.4 percent in May 1999, 

inflation has averaged an annual rate of about 2 percent since 1993. The 

low inflation has occurred in part due to an increased focus on sustaining a 

low inflation rate, with the Reserve Bank of Australia pursuing an inflation 

target of 2 to 3 percent over the economic cycle since fiscal year 1992-93.
Page 85 GAO/AIMD-00-23 Budget Surpluses in Other Nations

However, the Australian government remains concerned about its low 

national saving rate and its high net foreign debt.6

 With exports accounting 

for about 16 percent of GDP, the Australian economy is highly dependent 

on international trade for growth. Also, a large proportion of capital 

investment comes from abroad. National saving is crucial to economic 

growth because it can be used to finance domestic investment. If national 

saving is insufficient to fund investment, borrowing from foreign sources 

must finance the shortfall. The drop in national saving from an average rate 

of more than 22 percent of GDP the previous three decades to about 

17 percent of GDP in the 1990s led to a gap between saving and demand for 

investment.7

 This gap has been financed by increased borrowing from 

foreign sources. The outcome of this reliance on foreign capital is a high 

net foreign debt totaling more than 40 percent of GDP in fiscal year 

1996-97−more than two-thirds of which is private sector debt. 

6

National saving consists of the private saving of households and businesses and the saving 

or dissaving of all levels of government. Net foreign debt measures total indebtedness of the 

Australian public and private sectors to foreign investors, less any investment made by the 

Australian public and private sectors. 

7

Gross saving is the measure of saving used here and is defined as income minus 

consumption. Gross saving does not subtract depreciation−the consumption of capital. Net 

saving, which is gross saving minus depreciation, is a better estimate of the amount of 

domestic resources available for increasing a nation’s capital stock. However, depreciation 

is difficult to measure and is measured differently across countries. To facilitate 

cross-country comparisons, the gross saving measure is used. Using the same concept, the 

gross saving of the United States has fluctuated between 14 and 17 percent in recent years, 

down from around 20 percent in the late 1970s. 
Page 86 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Budget Process The government is responsible for developing the budget and presenting it 

to Parliament. The preparation of the budget documents is the 

responsibility of both the Department of the Treasury and the Department 

of Finance and Administration. At the beginning of the budget process, the 

Cabinet formulates and communicates the government’s overall policy 

goals to the spending ministries. The Cabinet relies heavily on a subgroup 

known as the Expenditure Review Committee (ERC) to make decisions on 

which programs to fund. In general, government budgets that fund 

“ordinary” services are passed largely intact by the Parliament, while 

requests for capital and new programs are subject to Senate amendments. 

If the Parliament cannot pass the government’s budget, it is viewed as a 

vote of no confidence and a new government must be formed.8

Under this process the bulk of budget deliberations takes place before the 

budget is presented publicly. The ERC defines the broad budgetary policy 

and sets a global budget ceiling, including budgetary savings targets and 

outlay targets based on a system of forward estimates.9

 The ERC also 

resolves budget conflicts and decides on reductions after consulting with 

the appropriate Ministers. Cabinet Ministers appear before the ERC to 

advocate new programs or increased funding. New programs that promise 

to fulfill priorities set by the Cabinet are recommended to the Cabinet for 

new funding. Proposed spending outside of priority areas must be funded 

from savings in other areas. 

Measuring Fiscal Position Prior to fiscal year 1996-97, Australia’s measure of federal surplus/deficit 

encompassed all receipts and expenditures, including privatization 

proceeds, other equity transactions, and net advances to other 

governments as well as private trading enterprises. Basically a cash 

measure, it captured the impact of government borrowing on credit 

markets and was similar to the unified budget measure in the United States.

8

This occurred in 1975 when a refusal by the Senate to pass the funding bills for government 

operations resulted in a “double dissolution” of the Labor government under Prime Minister 

Whitlam and the sitting Parliament.

9

Forward estimates are outlay estimates based on decisions made in the previous budget 

year with no future policy changes−similar to the “budget baseline” in the United States. 

Forward estimates are generated by the Department of Finance and Administration rather 

than by each individual department, as was the practice prior to fiscal year 1983-84.
Page 87 GAO/AIMD-00-23 Budget Surpluses in Other Nations

In 1996, the new Coalition government changed the primary measure of 

budget position to an “underlying balance” measure. The underlying 

balance excludes the effects of advances, such as loans, and equity 

transactions, such as privatization proceeds. The new government felt that 

by excluding transactions involving the transfer or exchange of a financial 

asset between the public and private sectors, the measure more accurately 

reflects the contribution of the Commonwealth budget sector to national 

saving. Also, the new measure better ensures that privatization proceeds 

will be used for debt reduction because they do not appear as funds 

available for spending. 

Fiscal Policy of the 

Mid-1980s to the 1990s 

Driven by the Desire to 

Increase National 

Saving and Reduce 

Debt

The Australian government’s continued efforts−through successive 

administrations−to reduce its deficits and its subsequent surplus strategy 

have been developed largely in response to concerns over low national 

saving and high national debt and their impact on Australia’s international 

competitiveness. While Australia’s fall in national saving was in some part 

due to a decrease in private saving, it more closely tracked changes in 

public saving, i.e., budget balances. As a result of low national saving, 

investment had to be financed from foreign sources, resulting in an 

external debt level that was seen as too high. Low national saving and 

reliance on foreign capital have led to concern over Australia’s ability to 

compete in the future. 

These concerns have motivated governments to attempt to search for a 

solution in the public sector. Government officials felt that their ability to 

influence declining private saving was limited, so they concentrated on 

increasing public saving−i.e., reducing budget deficits. Consequently, both 

Labor and Coalition governments have developed fiscal policies aimed at 

reducing deficits in the belief that improving the government’s own fiscal 

performance could contribute to improved national saving. 

Mid-1980s: First Period of 

Deficit Reduction

The Labor government that came into power in 1983 did not initially focus 

on reducing the budget deficit. The government’s goals were to reduce 

unemployment, control inflation, and stimulate the economy. This changed 

in late 1984 when the Labor government turned its attention to budget 

deficits. The government was concerned that borrowing in the public 

sector was crowding out funds available for investment and detracting 

from Australia’s international competitiveness. Specifically, Australia’s debt 

and trade positions were worsening, and in 1986 the Australian dollar 

suffered a sharp depreciation. These factors combined to create a sense of 
Page 88 GAO/AIMD-00-23 Budget Surpluses in Other Nations

crisis. The government decided to reduce its budget deficits to reassure 

foreign capital markets that something was being done to address fiscal 

and economic problems. 

In 1985, the government first articulated the need for fiscal restraint in 

terms of the interest burden, arguing that a public debt interest bill of 

nearly 10 percent of total outlays reduces the flexibility of the government 

to direct spending in other areas. In 1986, the government argued that 

further fiscal consolidation would improve the current account deficit and 

reduce external indebtedness.10 As the government championed its fiscal 

goal to reduce deficits as a percentage of GDP, expenditure restraint 

became the primary means of correcting fiscal imbalances. (See figure 15.) 

Deficit reduction efforts were aided initially by larger than anticipated 

increases in revenues resulting from a strengthening economy.

10The current account balance is the difference between goods and services bought and sold 

abroad.
Page 89 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 15: Receipts and Outlays in Australia, 1982-83 to 1996-97

Source: Budget Statements 1995-96 and 1996-97, Budget Strategy and Outlook, 1998-99.

In fiscal year 1985-86, social security and welfare and transfers to states 

accounted for 47 percent of total Commonwealth government outlays, and 

were the 2 areas most affected by deficit reduction efforts. In social 

programs, the government implemented means-testing and narrowed 

eligibility requirements. Also, the Commonwealth government greatly 

reduced general-purpose grants to states. While some general-purpose 

grants were replaced by specific-purpose grants, the latter only partially 

offset the reduction in the former. As a percentage of outlays, 

general-purpose grants decreased from almost 20 percent of total outlays in 

fiscal year 1985-86 to about 15 percent in fiscal year 1990-91.
Page 90 GAO/AIMD-00-23 Budget Surpluses in Other Nations

In 1985, the Commonwealth government also instituted a major tax reform 

package. The reform was not aimed at deficit reduction, but it was instead 

designed to improve the tax structure, broaden the tax base, reduce tax 

avoidance and evasion, while not increasing the overall tax burden. The 

reform eliminated several tax expenditures, introduced new taxes on 

capital gains and employer-paid fringe benefits, and reduced personal tax 

rates.11

The First Surplus Period: 

Fiscal Years 1987-88 

Through 1990-1991

As a result of strong economic growth and spending restraints, the 

government achieved surpluses for 4 consecutive years from fiscal years 

1987-88 through 1990-91. These surpluses and proceeds from asset sales 

were used to substantially reduce the Commonwealth government’s debt 

both in nominal terms and as a share of GDP. From fiscal year 1987-88 to 

fiscal year 1990-91, public net debt declined from an estimated A$27.4 

billion to A$16.9 billion, and the debt to GDP ratio dropped from an 

estimated 9.1 to 4.4 percent. Figure 16 shows that the public net debt to 

GDP ratio decreased during the surplus period in the late 1980s, increased 

after the recession in 1991, and started to decrease again in fiscal year 

1996-97.

11The capital gains tax did not take effect until 1986-87, and therefore was not payable until 

the 1987-88 budget year. Tax expenditures are reductions in tax liabilities that result from 

preferential provisions in the tax code, such as exemptions and exclusions from taxation, 

deductions, credits, deferrals, and preferential tax rates. 
Page 91 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 16: Net Public Sector Debt in Australia, Fiscal Years 1980-81 Through 1998-99

Note: Fiscal years 1997-98 and 1998-99 data are estimated.

Source: Budget Strategy and Outlook, 1998-99.

The government’s primary fiscal objective during its surplus period was to 

ensure that fiscal policy made no overall “call” on national saving−i.e., that 

the government would, on average, run balanced budgets, and thereby not 

absorb resources available for private capital formation through its 

borrowing actions. In accordance with this policy, and with the additional 

goal of reducing outlays as a percentage of GDP, the government continued 

to cut aggregate spending. At the same time, the government cut income 

taxes in the 4 years of surpluses. Overall, the government did not pursue an 

active policy aimed at maintaining surpluses. 
Page 92 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Consistent with a goal of reduced expenditures, the government continued 

to reduce spending even after surpluses were achieved. Nearly all areas of 

spending declined as a percentage of GDP, although some received small 

increases. Overall, outlays dropped from nearly 27 to less than 24 percent 

of GDP from fiscal years 1987-88 to 1989-90. Transfers to states were the 

focus of spending cuts. For example, from fiscal years 1987-88 to 1991-92, 

policy actions reduced outlays to states by a total of A$9.5 billion, an 

average of 0.5 percent of GDP per year. Consequently, grants to states as a 

percent of outlays dropped from about 19 to about 13 percent in this 5-year 

period. These reductions were a major contributor to the government’s 

ability to sustain the surplus. 

During the surplus period Australia cut taxes several times.12 As the result 

of promises made when revenue raising measures were introduced in the 

1985 tax reform package, the government enacted substantial cuts to 

personal income taxes, with the first cut occurring in December 1986 and 

affecting tax receipts in 1987−the first year of surpluses. The drop in the 

top marginal tax rate from 60 to 49 percent would have decreased tax 

revenues by 2 percent had it not been offset by new taxes on capital gains 

and employer benefits and base broadening measures. After a surplus was 

forecast for fiscal year 1989-90, the government made further cuts to 

income tax rates, and increased tax rebates for families with dependents 

and for single parents. The new round of cuts reduced the top marginal rate 

further to 47 percent, for a total reduction of 13 percentage points from the 

1986 level. This policy decision reduced revenues by more than 1.5 percent 

of GDP annually beginning in fiscal year 1989-90. In fiscal year 1990-91, the 

last year of surpluses, the Labor government made further cuts in personal 

income taxes for low and middle-income taxpayers. In fiscal year 1990-91, 

revenues were 25.5 percent of GDP, down from 27.3 percent of GDP in 

fiscal year 1987-88. 

Fiscal Years 1991-92 

Through 1996-97: A Second 

Period of Deficits

In 1991, Australia experienced a short but severe recession. The recession 

reduced revenue, already at a 12-year low as a result of several rounds of 

tax cuts, to only 23.5 percent of GDP by fiscal year 1992-93. At the same 

time, the recession led to increased spending in economically sensitive 

programs such as unemployment and social welfare. In 1992, the 

12Since the Australian income tax system is not indexed for inflation, some of these cuts 

were to offset the effects of “bracket creep.” Bracket creep occurs when taxpayers move 

into higher tax brackets as their incomes grow due to the effects of inflation. 
Page 93 GAO/AIMD-00-23 Budget Surpluses in Other Nations

government implemented a major employment initiative and increased 

assistance to industry in an effort to address the unemployment problem 

and stimulate the economy. The decrease in revenue−from the recession−

and increase in spending resulted in deficits beginning in fiscal year 

1991-92, which peaked at 3.6 percent of GDP in fiscal year 1992-93. Deficits 

remained until after the end of the Labor government’s term in 1996.

Beginning in fiscal year 1996-97, the newly elected government made 

numerous cuts in spending in an attempt to eliminate budget deficits. They 

also made selected tax cuts, but these were mostly offset by cuts to some 

tax expenditures and new tax surcharges on high-income earners. The 

combined effects of policy decisions made in fiscal years 1996-97 and 

1997-98 budgets improved the budget balance by a total of 1.8 percent of 

GDP. These spending and tax actions and a strong economy led to a surplus 

at the end of fiscal year 1997-98. 

In addition, a large privatization effort by the new government helped 

greatly to reduce Australia’s debt level. Privatization proceeds totaled more 

than A$23 billion in fiscal year 1996-97 and the first half of fiscal year 

1997-98. The underlying balance−Australia’s new primary measure of fiscal 

position−does not include proceeds from asset sales. Consequently, while 

privatization proceeds did not contribute to Australia’s fiscal improvement 

as measured, they did directly go to reducing public debt, which decreased 

from 19.5 percent of GDP in fiscal year 1995-96 to an estimated 15.3 percent 

in fiscal year 1997-98. 

A New Framework for 

Fiscal Decision-Making

When the new government came to power in 1996, it introduced a new 

framework for fiscal decision-making called the “Charter of Budget 

Honesty” (the Charter). The Charter set out principles for the conduct of 

sound fiscal policy and put in place institutional arrangements designed to 

improve discipline, transparency, and accountability in the formulation of 

fiscal policy. The Charter was introduced in part to address the perceived 

lack of transparency in the reporting of a government’s financial position, 

especially during election time. Specifically, the new government pointed 

to its discovery upon assuming office that the Commonwealth was in actual 

deficit of about 2.1 percent of GDP, as compared to a forecast of a balanced 

budget. 

The Charter established the following five principles for sound fiscal 

management: (1) to maintain prudent levels of debt, (2) to ensure that fiscal 

policy contributes to national saving and moderates economic fluctuations, 
Page 94 GAO/AIMD-00-23 Budget Surpluses in Other Nations

(3) to pursue a policy of stable and predictable tax burdens, (4) to maintain 

the integrity of the tax system, and (5) to ensure that policy decisions 

consider impacts on future generations. The framework of the Charter 

allows flexibility for the government to define its medium-term fiscal 

strategy and short-term fiscal goals in such a way as to fulfill these 

principles. 

To improve discipline, accountability, and transparency, the Charter also 

requires frequent reporting on fiscal policies. The Charter requires the 

issuance of fiscal strategy statements at or before the time the budget is 

presented. Subsequent reports, such as the “Budget and Fiscal Outlook” 

and the “Mid-Year Economic and Fiscal Outlook,” are to contain, 

respectively, information on how the government intends to implement its 

strategy and updated information for an assessment of actual fiscal 

performance compared to the government’s plans. The Charter also 

requires that during an election, cost estimates be prepared by the 

Department of Finance and Administration and the Department of Treasury 

for election commitments made by both the government and, if requested, 

the opposition. The Charter also calls for intergenerational reports every 

5 years and for the publication of updated information on the status of 

economic and fiscal policies 10 days after an election is called. 

A Second Period of 

Surpluses

In fiscal year 1997-98, Australia achieved a budget surplus, and with the 

fiscal year 1999-2000 budget, the government forecasts surpluses for the 

next 4 years. The government’s medium-term fiscal strategy, developed as 

required by the Charter, is to balance the budget over the cycle. As a result, 

the Government’s current fiscal policy has a short-term goal of running 

surpluses during the current period of expansion that is forecast. Also, the 

government is projecting that debt will be eliminated by 2002-03.13

Within this goal of surpluses for the short-term, the government has made 

room for new spending increases and selective tax cuts. The fiscal year 

1998-99 budget proposed spending initiatives totaling nearly A$10 billion 

through fiscal year 2001-02, with a large portion dedicated to health care. 

13In mid-1998, the government proposed reducing debt to about 11⁄2 percent of GDP by fiscal 

year 2001-2002 by selling its remaining equity in Telstra−the government’s telephone 

monopoly. While the Senate has rejected the government’s proposal, it recently approved 

the sale of an additional 16 percent of Telstra. 
Page 95 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The government also proposed to cut personal income tax rates and 

introduced a taxation rebate for savings.

The main difference between the first and the second surplus period is that 

the new government’s policy explicitly calls for surpluses over the 

short-term, concurrent with economic expansion. This is due in part to the 

new requirements under the Charter of Budget Honesty that governments 

spell out the medium-term fiscal policy and assess its impact on national 

saving. The fiscal year 1996-97 budget set out to achieve balance within 

3 years, before the end of the government’s first term in Parliament. The 

medium-term strategy was that the underlying budget should be in balance 

on average over the course of the economic cycle. After it became apparent 

that the surplus would materialize before the end of the 3-year cycle, the 

government reaffirmed its commitment to balance over the cycle. For this 

government, achieving balance over the cycle meant that it had to achieve 

surpluses during the remaining years of the present economic expansion.

Such cyclical balance has not always been achieved. As far back as fiscal 

year 1996-97, the government warned that the deterioration in fiscal 

position that occurred during economic slowdowns in the previous 

20 years was only partly, and sometimes not at all, offset by surpluses 

during periods of strong growth. Consequently, the government is now 

aiming for surpluses while the economy is growing, reducing debt, and 

providing extra capacity for the government to use fiscal policy to run 

deficits when the economy is weak. According to current projections, and 

due to continued expansion in the Australian economy, the government 

appears poised to eliminate net debt by fiscal year 2002-03.

Tax Reform Fiscal arrangements in Australia are characterized by a significant 

difference between the relative revenue and expenditure responsibility of 

the Commonwealth and the states−referred to as vertical fiscal imbalance. 

States are unable to raise revenues sufficient to cover their obligations and 

must rely on the federal government to make up the difference. For 

example, the federal government in fiscal year 1997-98 raised 72 percent of 

total government revenue but was responsible for only about 57 percent of 

total government spending, the states accounting for most of the 

remainder. As a result, states are heavily reliant on the Commonwealth for 

a significant share of their revenue. 

The states’ ability to raise revenues is limited by several factors. First, the 

Australian Constitution denies states the power to levy certain taxes, 
Page 96 GAO/AIMD-00-23 Budget Surpluses in Other Nations

including retail and wholesale taxes on goods and services. Also, the states 

relinquished the power to tax income to the Commonwealth in World War 

II. As a result, states rely on many land, payroll, and miscellaneous taxes 

for their revenue. Recently, the states’ ability to raise revenues was further 

limited by a Supreme Court decision in 1997 that ruled that state tobacco 

franchise fees were unconstitutional.

Against this backdrop, and with a forecast of budget surpluses, the 

Coalition government campaigned in the 1998 election on a tax reform 

platform to introduce the Goods and Services Tax (GST). As conceived, the 

GST would be a broad-based sales tax levied on all goods and services. The 

GST revenues would go to state governments, thereby greatly reducing the 

reliance of states on the Commonwealth. To offset this, general-purpose 

assistance to state governments would no longer be available while the 

wholesale sales tax and nine other state taxes would be eliminated. The 

GST proposal is mostly revenue neutral. However, due to concerns that a 

GST would be regressive−i.e., that it would fall most heavily on low-wage 

earners−the government also proposed to use budget surpluses to finance a 

reduction in personal income tax rates and an increased threshold for 

family benefits. 

The Coalition government was reelected in 1998. After extensive 

negotiation and compromises−including major new anti-tax avoidance 

measures, reduced income tax cuts, and the elimination of food from the 

GST−the Parliament finally passed a tax package in June 1999, with the 

GST expected to go into effect starting July 1, 2000. The new compromise 

tax package includes tax cut provisions totaling A$12 billion, funded in part 

from the underlying surpluses forecasted in the 1998-99 budget. 

Nevertheless, the government projects continued underlying surpluses 

through at least fiscal year 2002-03. 

Long-term Pressures 

and Reforms

Australia has a relatively younger age profile than most developed 

countries. However, the proportion of the population aged 65 and over is 

projected to grow from about 11 to over 19 percent between 1991 and 2030. 

During the same period, the ratio of working age population to retirees is 

projected to decrease from 6 to 3.3. However, many officials we talked with 

remained optimistic that the budget impact of an aging population would 

not be too severe. 

Australia’s pension system is made up of a flat rate, means-tested public 

pension program, and a mandatory superannuation program funded from 
Page 97 GAO/AIMD-00-23 Budget Surpluses in Other Nations

employers’ contributions. Public pensions are financed from general 

government revenue and account for less than 3 percent of GDP. Pension 

benefits are not related to an individual’s prior earnings, but they are 

subject to means testing based on income and assets. Benefits are 

legislated so as not to fall below 25 percent of annualized male total 

average weekly earnings. 

The superannuation portion of the pension system is a mandatory, 

employer-funded program. This program started in 1986 when, in an effort 

to rein in inflation pressures, the Labor government put in place a program 

whereby employers contributed to individual pension accounts−

superannuation−in exchange for real wage reductions. While 

superannuation benefits had always been available to selected employees 

in professional occupations, the 1986 program extended coverage so that 

by 1991 more than 72 percent of employees were covered, up from 

42 percent in 1982. In 1992, the Commonwealth passed the Superannuation 

Guarantee Act to extend employer-based retirement benefits to almost all 

employees.14 The act required the employers to make pension 

contributions to individual pension accounts of the employees’ choosing. 

By 1996, approximately 89 percent of both public and private sector 

employees were covered by superannuation, with the remaining 11 percent 

of the work force falling below the income threshold where 

superannuation started to apply. 

According to officials we interviewed, the 1992 reform was not undertaken 

to reduce pressure on the budget. Estimates show that in the absence of 

superannuation, public pensions would only have grown to 5 percent of 

GDP in 2050, compared to 4.7 percent with superannuation. Rather, the 

reforms were undertaken primarily to ensure that the elderly population 

could retire comfortably by extending superannuation to the entire 

workforce.

While a growth in the elderly population is predicted to have little effect on 

pension spending, officials we interviewed cited concerns about the 

pressure of an elderly population on health care cost and quality. Officials 

in the Department of Health and Family Services further added that the 

pressure would not come from aging per se, but from improved technology 

and public expectations. For example, officials informed us that health 

14The Superannuation Guarantee Act established an income threshold−less than A$450 per 

month−under which employers do not have to pay superannuation benefits.
Page 98 GAO/AIMD-00-23 Budget Surpluses in Other Nations

care costs had increased recently by more than 3.5 percent annually. Of 

this, only about 0.6 percent was due to the aging of the population, with the 

remainder attributable to increased expectations and technological 

development. However, long-term fiscal pressures have generally not been 

a part of any debate about what to do with budget surpluses. 

Conclusion Australia experienced a period of budget surpluses in the late 1980s and 

early 1990s that was largely the result of its deficit reduction efforts of the 

early 1980s and a strong economy. During this period, Australia’s main 

fiscal policy goal was to balance the budget. However, governments 

continued to cut spending throughout this period while giving fairly large 

tax cuts. As the economy slipped into a short but severe recession in the 

early 1990s, Australia again ran deficits. In 1996, a newly elected 

government initiated a deficit reduction program and put in place a new 

framework for setting fiscal policy, which called for the government in 

power to consider certain factors, such as national saving and the public 

debt level, when setting fiscal policy. As a result of the deficit reduction 

program and increased economic growth, budget surpluses reoccurred in 

fiscal year 1997-98. Under the new framework, the government is calling for 

surpluses over the immediate period of economic expansion. In 1999, the 

government passed a tax reform package containing tax cut provisions 

totaling about A$12 billion. Nevertheless, the government continues to 

project underlying budget surpluses for fiscal year 1999-2000 and the 

following 3 fiscal years.
Page 99 GAO/AIMD-00-23 Budget Surpluses in Other Nations

After struggling with large deficits for over two decades, Canada achieved 

federal budget surpluses in fiscal years 1997-98 and 1998-99.1

 (See figure 

17.) These results reflect several years of significant fiscal restraint, 

particularly on the spending side of the budget, as well as a large surplus in 

the Employment Insurance Account. Fiscal restraint was prompted by 

concerns that a high and rising debt burden was a major obstacle to the 

nation’s economic future. In response, the federal government’s strategy 

since 1994 has been to reduce the deficit and achieve a balanced budget. To 

support this strategy the government put in place a cautious approach to 

budget planning designed to increase the government’s chances of 

exceeding its fiscal goals. The government has set as its official fiscal 

policy a goal of “balance or better,” which implies a policy of at least 

modest surpluses given its cautious approach to budget planning.

1

Canada’s fiscal year runs from April 1 to March 31.
Page 100 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 17: Federal Budgetary Surpluses/Deficits in Canada, 1980-81 to 1998-99

Source: Fiscal Reference Tables, Department of Finance of Canada, September 1999.

The government’s cautious planning strategy is based on three elements: 

(1) economic assumptions that are more conservative than those of private 

forecasters, (2) a CAN$3 billion contingency reserve that applies to debt 

reduction if it is not needed to cover unexpected shortfalls, and (3) a 2-year 

short forecast horizon that focuses attention on achieving goals in the 

near-term. As the federal budget has come into surplus, the central 

government has adopted a similarly cautious approach to allocating 

additional resources. This allocation strategy is based on an approach 

where the government waits until surpluses are apparent before 

introducing new spending and tax cut initiatives. 
Page 101 GAO/AIMD-00-23 Budget Surpluses in Other Nations

During the period of deficit reduction, the government’s fiscal policy 

received widespread support. Since Canada has achieved budget surpluses, 

consensus for the government’s fiscal strategy has eroded. Critics have 

argued that the government’s careful planning approach amounts to a 

policy of “stealth surpluses” that makes it difficult to conduct a full-scale 

public debate over how to use current and future surpluses. 

There has been much debate over how to allocate budget surpluses. This 

debate has been heavily influenced by pent-up demand following years of 

fiscal restraint. For example, since the mid-1990s, the federal government 

has substantially cut aid to the provinces for health care and other social 

programs. Given the current fiscal climate, the provinces have pushed for 

additional grants for health spending to address public concerns that the 

system has been deteriorating. In another example, the business 

community and others have used the improved fiscal situation to argue for 

substantial tax cuts. They point out that Canada has one of the highest 

personal income tax burdens among major industrial countries. Finally, 

some fiscal analysts continue to express concern that Canada’s high debt 

burden warrants a more aggressive approach to debt reduction. 

Background Canada is a federal system composed of a central government, 10 

provincial governments, and 3 territories.2

 It has a parliamentary form of 

government, which is composed of a Senate and a House of Commons. 

Members of the House of Commons are elected by popular vote, at least 

every 5 years, while Senators are chosen by the Prime Minister. The House 

of Commons is the main law-making body. In general, the political party 

with the majority of seats in the House of Commons forms the government 

and the leader of this party becomes the Prime Minister.3

Prime Minister Jean Chretien is leader of the current Liberal government. 

He became Prime Minister in 1993 when the Liberals regained a majority in 

the House after 9 years of Progressive Conservative Party rule. In June 

1997, the Liberal government was reelected, winning 155 seats in the 

House. Throughout most of this century, the left-of-center Liberal Party and 

the right-of-center Progressive Conservative Party have dominated 

2

In addition, provincial legislatures may set up municipal governments, giving municipal 

governments powers as the legislatures see fit.

3

Each provincial legislature is composed of a single house that is elected by popular vote. 
Page 102 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Canadian federal politics. As of September 1999, however, the Reform 

Party had the second largest number of seats in the House at 58. The 

remaining seats are divided among the Bloc Quebecois (44), the New 

Democratic Party (20), the Progressive Conservatives (18), and 

independent members (3).

Executive authority at the federal level resides in the Prime Minister’s 

Cabinet. The Prime Minister chooses Cabinet ministers from members of 

Parliament in the governing party. The Cabinet is responsible for most 

legislation; it develops government policy and is responsible to the House 

of Commons. The Cabinet has the sole power to prepare and introduce 

budget-related bills. In general, neither the House nor the Senate may 

increase taxes or expenditures.4

The federal government has explicit responsibility over national defense, 

interprovincial and international trade and commerce, immigration, the 

banking and monetary system, criminal law, and fisheries. Provincial 

governments are responsible for education, property and civil rights, the 

administration of justice, the hospital system, natural resources within 

their borders, social security, health, and municipal institutions. All powers 

not specifically conferred upon the provinces are assigned to the federal 

government.

The majority of provincial spending is directed toward health, education, 

and social service programs. For many years, the federal government has 

contributed to the funding of these and other provincial and territorial 

programs and services through a system of transfer payments. Overall, in 

fiscal year 1997-98, federal cash transfers to provinces accounted for nearly 

15 percent of total provincial revenues.

The three main transfer programs are the Canada Health and Social 

Transfer (CHST), the Equalization Program, and Territorial Formula 

Financing (TFF). These three programs account for more than 90 percent 

of all federal transfers to the provinces and territories, with CHST 

representing the largest portion. CHST is a block grant that helps finance 

health care, post-secondary education, social assistance, and social 

4

Members are allowed to propose a decrease in a tax or expenditure, but such actions are 

rare. If a budget, or any other legislation, is not passed−meaning the government does not 

have the support of a majority in the House−a new election must be held or the opposition 

party forms a new government.
Page 103 GAO/AIMD-00-23 Budget Surpluses in Other Nations

services provided by the provinces. The Equalization Program ensures that 

provincial governments can provide similar levels of public services at 

reasonably comparable levels of taxation. The program subsidizes 

provinces whose revenue-raising capacities are below a national standard. 

TTF, the main source of revenue for territorial governments, was designed 

to reflect the higher costs of providing services in the territories and to 

compensate for their lower revenue-generating capacity, which results 

from a less developed economic base. Territories also receive funds via 

CHST. 

The Canadian Economy The Canadian economy is about one-tenth the size of the United States’ 

economy and heavily dependent on trade. In 1997, exports accounted for 

about 40 percent of gross domestic product (GDP). Exports to the United 

States are particularly important to Canada’s economy as they constitute 

nearly 30 percent of Canada’s GDP. Therefore, the United States’ economy 

has a large effect on overall economic activity in Canada. 

Recent Economic History During the last two decades, Canada experienced two short but severe 

recessions and two lengthy periods of growth. As a result of the first 

recession in 1981 and 1982, unemployment soared from less than 8 percent 

in 1981 to nearly 12 percent in 1983. The economy rebounded strongly from 

the recession, with real economic growth above 5 percent in both 1984 and 

1985. The strong recovery, however, eventually led to inflationary pressures 

and the Bank of Canada responded by tightening monetary policy in late 

1987. When economic activity slowed in late 1990, the Bank began to 

gradually lower interest rates.

By 1991, the Canadian economy was again in recession. The unemployment 

rate rose from about 8 percent in 1990 to over 10 percent in 1991, and 

remained above 10 percent until 1995. The recovery from this recession 

was unusually slow. Growth finally began picking up in mid-1993, 

increasing from 0.9 percent in 1992 to 2.3 percent in 1994. Growth was even 

stronger in 1994 at 4.7 percent, but began to slow again in 1995. During the 

last 2 years, however, growth has again picked up. (See figure 18.)
Page 104 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 18: Real GDP Growth in Canada, 1981 to 1998

Source: Canadian Embassy, Washington, D.C.
Page 105 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Since 1993, inflation has remained relatively low and stable, allowing for an 

overall easing of monetary policy and historically low interest rates. 

Although the Bank of Canada controls monetary policy, the government 

does influence the direction of monetary policy, at least in part, because the 

Bank of Canada Act stipulates that “[t]he Minister and the Governor shall 

consult regularly on monetary policy and on its relation to general 

economic policy.”5

 Since 1991, the Bank of Canada and the government 

have jointly set specific inflation-reduction targets.6

 Inflation has remained 

in or below the target range since the targets were established. In 1990, the 

last full year before the targets were introduced, the inflation rate was 

4.8 percent. The first targets were established for a 5-year period with the 

goal of reducing inflation to 3 percent by the end of 1992 and to 2 percent 

by 1995. By 1993, inflation was down to 2 percent and the Bank and the 

government extended the targets until 1998 with a new target range of 1 to 

3 percent. In 1998, the existing target range was extended through 2001.

Budget Process The Canadian federal budget process is relatively closed to the public as 

well as to Members of Parliament. The government, led by the Finance 

Department, prepares the budget, and until the budget is presented to 

Parliament only the Prime Minister and the Finance Minister know the 

exact details. Having received some criticism for the closed nature of the 

budget process, the government began to open up the process somewhat in 

1994. In the fall of 1994, the government began releasing mid-year fiscal 

updates that include any deficit/surplus targets and an economic update. At 

the same time, the Finance Minister presents to Parliament plans for the 

upcoming budget. Subsequently, the House of Commons Standing 

Committee on Finance holds a series of prebudget consultations with the 

public and presents its recommendations to the Minister of Finance. It is 

important to note, however, that the budget is still formulated by the 

Finance Department and it is almost never changed in Parliament. 

5

Consolidated Statutes, Chapter B-2, Bank of Canada Act, Department of Justice of Canada.

6

The target rate is actually the midpoint of a target range that extends 1 percentage point on 

either side.
Page 106 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Measuring Fiscal Position Canada’s main measure of the federal surplus/deficit−called the budgetary 

balance−is calculated on a modified accrual basis.7

 Canada also reports a 

cash-based measure called “financial requirements/surplus.” The main 

difference between these two measures is the treatment of federal 

employee pensions.8

 Under the “budgetary” measure, employee pension 

costs are accrued as they are earned by current workers, not when cash 

payments are made to retirees. In contrast, the “financial” measure reflects 

only the cash paid to cover current retiree benefits less employee 

premiums paid. In recent years, the financial measure has recorded 

significantly lower deficits or higher surpluses than the budgetary measure. 

For example, in fiscal year 1997-98, the budgetary surplus was nearly 

CAN$3.5 billion−about 0.4 percent of GDP−while the financial surplus 

came in at about CAN$12.7 billion. Given this pattern, Canada achieved a 

financial surplus in fiscal year 1996-97−1 year earlier than it reached a 

budgetary surplus, its primary measure of fiscal position.

Canada’s main budget measure−the budgetary balance−does not include 

the finances of the Canadian Pension Plan (CPP).9

 The CPP is an earningsrelated pension program that is broadly similar to the United States’ Social 

Security system. The CPP was established in 1965 as a joint federalprovincial program, and it has been separate from both federal and 

provincial budgets since its origin. Until recently, any surpluses generated 

by the CPP were, by law, invested in provincial, territorial, and federal 

government securities.10 In addition to the CPP, Canada does provide some 

retirement income support through the federal budget, which is financed 

by general revenues. This support includes an Old Age Security (OAS) 

pension received by all retirees and a Guaranteed Income Supplement 

(GIS) benefit for low-income retirees.

7

Unless otherwise noted, any reference to Canada’s surplus/deficit throughout this appendix 

refers to the budgetary balance measure.

8

In addition to the treatment of employee retirement costs, the budgetary measure includes 

other obligations incurred during a year, while “financial requirements” reflects only actual 

cash outlays.

9

Quebec has a separate, but similar, plan called the Quebec Pension Plan.

10In the United States, analysts have expressed concern that Social Security’s finances--

which are invested in United States Treasury securities and included in the unified budget--

mask the actual fiscal position of the government. However, this concern is not an issue for 

Canada’s provinces because CPP is a separate entity--not an account within provincial 

government budgets. 
Page 107 GAO/AIMD-00-23 Budget Surpluses in Other Nations

While Canada’s budget excludes the CPP’s finances, it includes a fund for 

unemployment benefits−the Employment Insurance (EI) fund−that has 

been running large surpluses in recent years. This fund, similar to trust 

funds in the United States’ federal budget, is a budget account with an 

earmarked revenue source.11 Fiscal analysts we interviewed noted that 

without the surpluses in the EI fund, Canada’s budget would still be in 

deficit.

In addition to its measures of annual fiscal position, Canada also 

emphasizes the debt to GDP ratio as a useful indicator of the government’s 

fiscal health. Net debt, which is total debt minus financial assets, such as 

assets held in the employee retirement system, is the debt measure most 

frequently used for computing this ratio−and this measure corresponds to 

the budgetary balance indicator.12 The debt to GDP ratio is particularly 

important given Canada’s high debt burden and its implications for the 

budget and the economy. To underscore how a high debt level restricts 

budgetary flexibility, the government also reports an interest burden 

measure in which interest spending is expressed as a share of budgetary 

revenues.13

Due to the prominence of the provincial governments in Canada’s federal 

system, it is important to consider their fiscal situation in any assessment 

of Canadian government finances. Provincial-territorial program spending 

accounts for a greater percentage of GDP than federal program spending. 

For this reason, Canada’s federal budget documents regularly include fiscal 

data on provinces. For example, a combined federal-provincial debt 

measure is used show the total burden of government debt on the economy. 

11Trust funds in the United States’ federal budget are budget accounts that are designated as 

“trust funds” by law. The largest trust fund accounts, like Social Security, typically have 

earmarked sources of revenue. Trust fund expenditures and receipts are included in the 

unified budget surplus/deficit.

12Market debt is the measure that corresponds to the financial requirements indicator. 

Throughout this report the term debt refers to the net debt measure.

13Interest spending on net debt includes the interest paid to employee retirement accounts.
Page 108 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Canadian Fiscal Policy 

in the 1980s and 1990s

Before the substantial fiscal progress of the mid- to late 1990s, Canada had 

struggled with large federal deficits for two decades.14 (See figure 17.) 

These sizable and persistent deficits emerged in the mid-1970s in response 

to several factors, including a slowdown in economic growth, increased 

program spending, and the indexation of both social programs and the tax 

system to inflation. In the 1980s, the Canadian government began 

attempting to eliminate budget deficits. While these efforts did reduce the 

size of deficits, they did not eliminate them. In the early 1990s an economic 

slowdown hampered the government’s deficit reduction efforts. Beginning 

in 1994, a newly elected government initiated a new deficit reduction 

program and put in place a set of cautious budgeting practices to better 

ensure that deficit targets would be met. Canada achieved a budget surplus 

in fiscal year 1997-98 as a result of these efforts and an improving economy. 

Deficit Reduction in the 

1980s

In 1984, a Progressive Conservative government came into power with a 

fiscal strategy that emphasized deficit reduction. Their objective was to 

reduce the growing debt burden and to bolster both domestic and 

international investor confidence in the economy. Maintaining investor 

confidence has been an important concern during recent decades. While 

Canada has never experienced an economic crisis in which the government 

was unable to sell its bonds, it has experienced currency depreciations, 

high interest rates, and lowered credit ratings by external bond rating 

agencies at both the federal and provincial levels. 

14For a detailed discussion of this period, see Deficit Reduction: Experiences of Other 

Nations (GAO/AIMD-95-30, December 13, 1994), pp. 95-117.
Page 109 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The government’s deficit reduction efforts in the mid-1980s produced 

noticeable progress. Between fiscal years 1984-85 and 1989-90, the deficit 

fell by nearly half as a percentage of GDP due to robust economic growth 

and a combination of tax increases and spending cuts. Among these policy 

actions were the introduction of a tax on OAS pension benefits and the 

partial de-indexation of the tax system. The OAS change, referred to as a 

“claw-back” tax, requires higher income seniors to repay part or all of their 

benefits depending on their income level. Under the indexation change, 

Canada’s taxes are only adjusted for annual inflation that exceeds 3 

percent.15 Both of these actions, which are still in force, have continued to 

contribute to fiscal improvement in the 1990s. For example, an analysis by 

a public policy research group found that for 1998 alone, the tax indexation 

change resulted in more than CAN$10 billion in additional revenue−over 

1 percent of GDP.16 And this amount grows every year due to the 

cumulative effect of partial indexation on the tax base. 

Despite the successful initiatives of the mid-1980s, the government had 

some difficulty in sustaining these efforts and the deficit remained 

relatively high at over 4 percent of GDP in fiscal year 1989-90. One reason 

for the intractable nature of these large deficits was the debt burden that 

had accumulated since the mid-1970s. Between the mid-1970s and the late 

1980s, the federal debt nearly tripled as a share of the economy−rising from 

less than 20 percent of GDP to over 50 percent. Rising debt was 

accompanied by growing interest costs. From fiscal years 1974-75 through 

1987-88, interest spending increased from just over 11 percent of total 

federal revenues to nearly 30 percent, significantly reducing the 

government’s budgetary flexibility. Excluding these interest costs, the 

government’s finances actually reached a surplus in the late 1980s. 

Deteriorating Economy Prompts 

Rising Deficits 

The strong economic growth in the mid- to late 1980s eventually created 

upward pressure on inflation. In response, the Bank of Canada significantly 

tightened monetary policy beginning in 1987. In the early 1990s, Canada 

experienced a recession that was influenced by high interest rates and the 

economic difficulties of its trading partners−particularly the United States. 

As a result of the recession, the deficit began rising again despite renewed 

15Since 1992, Canada’s inflation rate has not exceeded 3 percent, meaning that there has 

been no automatic inflation adjustment.

16Finn Poschmann. “How Do I Tax Thee? Choices Made on Federal Income Taxes,” C.D. 

Howe Institute, February 25, 1998, p. 4.
Page 110 GAO/AIMD-00-23 Budget Surpluses in Other Nations

efforts by the government to restrain spending. By fiscal year 1992-93, the 

deficit had risen to nearly 6 percent of GDP. Consequently, the debt burden, 

which had stabilized in the late 1980s, began rising rapidly again, going 

from 57.6 percent of GDP in fiscal year 1990-91 to 71.1 percent of GDP in 

1994-95.

New Government Confronts 

Growing Fiscal Crisis

A newly elected Liberal government came to power in 1993 pledging to 

reduce the deficit to 3 percent of GDP over 3 years.17 Both this target and 

the government’s initial budget were criticized by some as too modest. 

However, a fiscal crisis beginning in 1994 led the government to take more 

radical steps to reduce the deficit.

During 1994 and early 1995, Canada’s fiscal outlook deteriorated quickly. 

The situation worsened due to a sharp rise in interest rates, which rose in 

response to interest rate hikes in the United States and partly due to 

concerns in the international investment community about Canada’s large 

debt burden. Long-term interest rates in 1994 turned out to be 2 percentage 

points higher than the Finance Department’s original projections, even 

though these projections had been intended to reflect conservative 

assumptions. Canada’s large federal debt burden and its associated interest 

payments made federal finances particularly vulnerable to higher interest 

rates. For example, in 1994, the Finance Department estimated that a 

1 percentage point increase in interest rates would raise interest 

expenditures by CAN$1.7 billion in the first year−0.23 percent of GDP. 

Growing interest expenses threatened the government’s ability to achieve 

its 3 percent deficit to GDP target in fiscal year 1996-97. 

Adding to the sense of fiscal crisis in 1994 was the decline in provincial 

finances that occurred in the early 1990s. The aggregate provincial deficit 

rose from 0.7 percent of GDP in fiscal year 1989-90 to 3.6 percent of GDP in 

1992-93. As at the federal level, these deficits resulted in a rapidly rising 

debt burden. Together, the federal and provincial debt approached 

100 percent of GDP during the mid-1990s. (See figure 19.) According to an 

analyst we interviewed, the 100 percent level had an unsettling 

psychological effect.

17This target consciously echoed the deficit ceiling set for countries participating in the 

European Monetary Union.
Page 111 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 19: Federal and Provincial-Territorial Net Debt in Canada, 1980-81 to 1998-99

Note: 1998-99 data for provincial-territorial net debt is an estimate.

Sources: Fiscal Reference Tables, Department of Finance of Canada, September 1999, and The 

Budget Plan 1999, Department of Finance of Canada, February 1999.

Canada’s declining fiscal fortunes and its vulnerability to future economic 

shocks convinced the federal government of the need for comprehensive 

structural changes in the fiscal year 1995-96 budget. These changes were 

considered necessary to ensure that the 3 percent deficit to GDP target 

would be met. In the fall of 1994, the government laid the groundwork for 

its 1995-96 budget with the publication of two reports. The first report−

known as the Purple book after the color of its cover−outlined in detail the 

origins and implications of the nation’s current economic and fiscal 

difficulties. The second report−called the Grey book−was a fiscal update 

that was intended to encourage a public dialogue by discussing the scope 

of the budget challenge. 

The Purple book emphasized Canada’s spiraling debt burden and how it 

posed a major threat to the government’s economic agenda:
Page 112 GAO/AIMD-00-23 Budget Surpluses in Other Nations

“Returning Canada to fiscal health is a prerequisite to achieving all of the other elements of 

the [government’s] economic strategy....Increasing productivity and sustained job growth 

are the results of investment, of entrepreneurial vigour, and of consumer confidence. All are 

being undermined by a growing public debt that has led to higher taxes, higher real interest 

rates, and a diminished capacity of the Government of Canada to address the other vital 

issues of an economic strategy for the future.”18

Since the fundamental problem outlined in the government’s analysis was 

the debt burden, the solution was to break the vicious circle of high 

deficits, a growing debt burden, and rising interest costs. The government 

concluded that achieving this goal would require a major effort to reduce, 

and eventually eliminate, the deficit and to set the debt to GDP ratio on a 

declining path. The deficit reduction efforts were to be based heavily on 

spending restraint because the government concluded that the revenue 

burden was already very high and, over the long term, should be reduced. 

The government reinforced its commitment to solving the fiscal problem 

with a promise by Finance Minister Paul Martin to reach the 3 percent 

deficit to GDP target “come hell or high water.” 

In assembling the fiscal year 1995-96 budget, the government relied on 

comprehensive reviews of government programs to generate the savings 

needed for the deficit reduction package. An assessment called “Program 

Review” covered most components of direct program spending (which 

excludes major transfer payments to individuals and other levels of 

government). Under this review, the Finance Department determined 

spending cut targets for each ministry, and the ministries were responsible 

for assembling a detailed plan to meet these targets. A governmentwide 

Committee of Ministers was charged with overseeing the budget plans 

proposed by the ministries under the Program Review process. In addition 

to the Program Review, the government conducted assessments of major 

transfer programs to the provinces and territories and employment 

insurance benefits. 

As the budget was prepared, the fiscal outlook continued to deteriorate. 

The economic crisis experienced by Mexico in late 1994 raised concerns in 

the international investment community about the potential for similar 

problems in Canada. Investors responded by shifting some of their assets 

out of Canada. This asset shift further pushed up Canadian interest rates, 

pushed down the Canadian dollar, and added a clear element of crisis to 

18A New Framework for Economic Policy, Government of Canada, Department of Finance, 

1994, p. 71.
Page 113 GAO/AIMD-00-23 Budget Surpluses in Other Nations

federal budget preparations. The government was very concerned about 

Canada’s vulnerability to foreign investors. The Grey book emphasized that 

Canada’s deficits and debt were among the highest of major industrial 

countries. Likewise, the nation’s foreign debt−public and private 

combined−was also high, reaching 44 percent of GDP by the end of 1993. 

The result was that foreign investors demanded higher interest rates on 

Canadian debt to compensate for its perceived riskiness compared to the 

debt risk posed by other major industrial countries.

According to an account of the period, to help ensure that the budget 

would be well received by financial markets, the Finance Department 

increased the amount of deficit reduction planned for the fiscal year 

1995-96 budget. Finance Minister Martin was concerned that if the financial 

markets judged the fiscal restraint in Canada’s budget to be insufficient, the 

government might be forced into revising its plans. A negative reaction 

from the financial community could result in a downgrade to Canada’s 

bond rating, and further declines in the currency, which had already 

reached an 81⁄2-year low against the U.S. dollar. This posed a significant risk 

as a decline in the value of the Canadian dollar would make 

foreign-denominated debt more expensive to repay.

The final fiscal year 1995-96 budget included CAN$5 billion in deficit 

reduction measures in the first year, and CAN$29 billion over 3 years. In the 

budget, these measures were described as “by far the largest set of actions 

in any Canadian budget since post-war demobilization.” For every dollar of 

revenue increases there were nearly 7 dollars of spending cuts. The 

reductions affected nearly every government department. Major cuts 

included the extension of a pay freeze on public employee salaries, the 

elimination of 15 percent of the federal workforce, and a large reduction in 

subsidies to businesses, such as railways, agricultural industries, and 

cultural industries. In addition, a major restructuring of provincial aid was 

announced that would take effect in the following fiscal year. The two 

major social services grants to the provinces covering health care, 

education, and welfare were combined into one block grant and funding 

was cut substantially. (See figure 20.) For more information on this change 

in provincial aid, see figure 21 on The Canada Health and Social Transfer.
Page 114 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 20: Major Federal Transfers to Other Levels of Government in Canada, 1980-81 to 1998-99

Note: Includes the Canada Health and Social Transfer, fiscal transfers, insurance and medical care, 

Canada Assistance Plan, and education support.

Source: Fiscal Reference Tables, Department of Finance of Canada, September 1999.
Page 115 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 21: The Canada Health and Social Transfer
Page 116 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Canada Achieves Rapid 

Fiscal Progress In Mid- to 

Late 1990s

The deficit reduction packages in the 1994-95 and 1995-96 budgets, along 

with an improving economy, provided the main impetus for Canada’s rapid 

fiscal progress in the late 1990s. Subsequent budgets have held to the 

course of fiscal restraint without introducing any major new deficit 

reduction initiatives.19 The current government has consistently bettered its 

fiscal targets, often by a wide margin. For example, the government had 

promised a deficit of no more than 3 percent of GDP in 1996-97, and the 

actual result was a deficit of about 1 percent of GDP. (See figure 22.)

19The 1996 budget did include a proposal for reforming the basic pension and income 

support benefits provided to Canada’s seniors. The proposed Seniors’ Benefit was expected 

to provide cost savings over the long term. However, the government later decided to drop 

this proposal. In 1997, the federal government and the provinces agreed to a major reform in 

the earnings-related Canadian Pension Plan. But, since CPP is a separate financial entity, 

these changes had no impact on the budget.
Page 117 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 22: Deficit Targets Compared to Actual Results in Canada, 1994-95 to 1997-98

Note: Negative number indicates a surplus.

Source: Various Canadian budgets, fiscal years 1994-95 through 1998-99.

To ensure that its targets are met, the government has relied on cautious 

planning techniques that have become a defining characteristic of its 

approach to budgeting. These techniques provide a buffer against 

forecasting errors and unpredictable events. The government’s cautious 

strategy is composed of three main elements: (1) conservative economic 

assumptions and forecasting methods, (2) a sizable contingency reserve 

that cannot be tapped for new initiatives, and (3) a 2-year planning period. 

Canada’s Cautious 

Budgeting Techniques 

The federal government relies on a cautious approach to budget planning 

that is based on conservative economic and technical assumptions, a 

contingency reserve, and a short forecast horizon.
Page 118 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The Finance Department uses assumptions for interest rates, and 

sometimes economic growth, that are intentionally more conservative than 

private sector forecasts. In developing these assumptions, the department 

first surveys private forecasters. Then, using the average of these forecasts 

as a base, it adjusts interest rate projections upward. For example, the 

adjustment factor for long-term interest rates is typically 1⁄2 of 1 percent 

(50 basis points). This cautious forecasting policy was based on a 

recommendation from a panel of economists convened in late 1993 to 

advise the government on fiscal and economic issues. The panel’s 

recommendation was underscored by a private sector analysis that found 

that the government’s economic assumptions in the 1980s and early 1990s 

tended to be overly optimistic. Under the current government’s cautious 

approach, the Finance Department’s economic assumptions have often 

been more pessimistic than actual outcomes.

The contingency reserve is an annual amount that is built into projected 

spending, but it is not allocated to any specific program. It is an accounting 

mechanism used to supplement the government’s cautious forecasting 

policy, rather than an actual cash fund. Under the current government, this 

reserve is not available to fund new initiatives. Instead, it serves solely as a 

buffer against unanticipated developments, such as an adverse change in 

the economy. If the government’s budget projections are on target (or 

overly pessimistic), the reserve acts to reduce the deficit or increase the 

surplus. For example, in fiscal year 1998-99, the government projected a 

balanced budget. This balanced budget estimate assumed that the 

CAN$3 billion contingency reserve would need to be spent to compensate 

for shortfalls in the projections. If the budget forecast is exactly on target, 

the government will actually realize a CAN$3 billion surplus that will be 

used to reduce debt.20

The final element in the government’s cautious approach is a short forecast 

horizon; it publishes detailed projections for only 2 years. A short forecast 

period is not necessarily a more prudent approach to budgeting, but the 

government explains that its short horizon is a response to the inherent 

sensitivity of longer-term forecasts to future economic developments. 

Another important reason for the shorter forecasts is that during a period 

of deficit reduction they focus attention on making cuts today rather than 

delaying action until tomorrow. For example, prior to the current 

20The realized surplus was actually CAN$2.9 billion in fiscal year 1998-99, which was used to 

reduce debt.
Page 119 GAO/AIMD-00-23 Budget Surpluses in Other Nations

government, the Finance Department used a 5-year budgeting time frame 

for setting fiscal policy and repeatedly failed to meet its deficit targets. In 

contrast, since fiscal year 1994-95, the current government has consistently 

bettered its 2-year fiscal targets. The effect of this policy during a time of 

surplus is to reduce the ability to spend projected surpluses. On the other 

hand, a short-term budgeting time frame does not disclose the full 

long-term impact of policy decisions.

Aided by these cautious planning techniques, the government progressively 

lowered its deficit target to zero−i.e., a balanced budget. In fiscal year 

1997-98, the federal budget registered a small surplus, its first in nearly 

30 years. The elimination of the deficit has begun to ease Canada’s high 

federal debt burden. After peaking in fiscal year 1995-96 at just over 

70 percent of the economy, it has fallen modestly. The interest burden 

declined more dramatically, from 36 percent of revenues to just under 

27 percent, between fiscal years 1995-96 and 1997-98.21 By running balanced 

budgets and not using the contingency reserve, the government intends to 

reduce debt as a share of GDP.

The government and the Organization for Economic Cooperation and 

Development (OECD) attribute the majority of this substantial fiscal 

improvement to spending restraint rather than increased revenue. (See 

figure 23.) The 1999-2000 budget estimated that program spending (which 

excludes interest) will have fallen from 16.6 percent of GDP in 1993-94 to 

12.6 percent of GDP in 1998-99. In comparison, the budget estimates that 

revenues will have risen from 16 to 17.6 percent of GDP over the same 

period.22

21These figures include interest on internally held government debt, for instance interest on 

the federal government’s employee pension plan. 

22A portion of this revenue increase is due to the partial deindexation of the tax system that 

was enacted in the 1980s.
Page 120 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 23: Federal Government Revenues and Expenditures in Canada, 1993-94 to 1998-99

Sources: Fiscal Reference Tables, Department of Finance of Canada, September 1999.
Page 121 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The Debate Over Fiscal 

Choices During a Period of 

Surplus

As it has entered a period of budget surpluses, the government has 

continued to rely on a cautious approach. Excluding the contingency 

reserve, the Finance Department does not publicly project budget 

surpluses. The government’s current fiscal goal is, at a minimum, a 

balanced budget−a strategy that it refers to as “balance or better.” However, 

the contingency reserve implies that the actual target is a surplus of at least 

CAN$3 billion, about 0.3 percent of GDP. The government has 

acknowledged that it anticipates budget surpluses by introducing the Debt 

Repayment Plan. The plan is an explicit statement that the government’s 

cautious approach could result in budget surpluses and that the 

contingency reserve would be used to reduce debt. The 1999 Budget Plan 

states that “the level of debt in relation to the ability to service the debt (the 

debt-to-GDP ratio) is still too high−both by historical Canadian and 

international standards. . . Reducing the debt-to-GDP ratio must remain a 

key objective of the government’s fiscal policy.”23

While the government is committed to using a modest amount of budget 

surpluses for debt reduction through the contingency reserve, it also uses 

surplus revenues for new spending and tax cut initiatives. (See figure 24.) 

This strategy of dividing surpluses between debt reduction, tax cuts, and 

new spending was articulated during the government’s 1997 reelection 

campaign. At that time, the government stated that it would devote 

50 percent of budget surpluses to new spending and the other 50 percent to 

a combination of tax cuts and debt reduction. Analysts we interviewed 

stated that this allocation framework applies to surpluses over the full 

Parliamentary term and will not necessarily be followed on a year-by-year 

basis.

23The Budget Plan 1999, Government of Canada, Department of Finance, February 16, 1999, 

p. 52.
Page 122 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 24: Summary of Spending and Tax Actions in the 1997-98, 1998-99, and 1999-2000 Canadian Federal Budgets

Source: The Budget Plan 1999, Department of Finance of Canada, February 1999. 

In both the fiscal year 1998-99 and 1999-2000 budgets, the government 

introduced a number of new spending and tax initiatives. The Finance 

Department estimates that these initiatives will cost the government about 

CAN$50 billion cumulatively from fiscal years 1997-98 through 2001-02. On 

the spending side, these initiatives have focused on health care and 

education. The tax changes include an increase in the amount of income 

that low-income earners can receive tax-free, the elimination of a 3 percent 

surtax, an increase in the Child Tax Benefit, and a reduction in employment 

insurance rates for both employers and employees. 
Page 123 GAO/AIMD-00-23 Budget Surpluses in Other Nations

In launching new policy initiatives, the government has adopted a 

philosophy that generally avoids committing resources before they 

materialize. Typically, the government does not introduce new spending or 

tax cuts until late in the fiscal year when a surplus becomes apparent. The 

1999-2000 budget explained this approach and its rationale as follows: 

“Central to [the government’s] planning approach is the notion that spending initiatives and 

tax cuts will be introduced only when the government is reasonably certain that it has the 

necessary resources to do so. This protects against the risk of having to make hasty, and 

potentially damaging, corrections to the budget plan, such as announcing tax relief one year 

and then having to raise taxes the following year.”

In line with this cautious approach, the government has generally shied 

away from both large-scale spending commitments and major tax cuts. In 

addition, the government has enacted nonpermanent spending initiatives, 

showing its preference for limiting future commitments. An example is the 

Canada Millennium Scholarship Fund. The full cost of the fund−a 

nonrecurring CAN$2.5 billion−was booked in fiscal year 1997-98, though 

scholarships will not be awarded until 2000. The government has also made 

many nonpermanent investments for health care, research, and education. 

This careful strategy for allocating extra resources is supported by the 

Finance Department’s use of conservative economic assumptions, which 

tend to understate the resources available for spending. 

Recent Critiques of Cautious 

Budgeting During a Period of 

Surplus

While the government’s deficit reduction strategy received widespread 

support, as Canada entered a period of surplus many fiscal analysts have 

criticized some of the government’s techniques. Although many of these 

critics support the general notion of cautious planning, they suggest that 

the degree of caution used by the government is excessive. A pervasive 

concern is that, while the government officially targets a balanced budget, 

its cautious techniques result in “stealth surpluses.” According to a number 

of analysts and social advocates from both sides of the political spectrum 

we interviewed, understating the size and duration of expected surpluses 

precludes a full-scale public debate over how to allocate these additional 

resources. 

Several different techniques may contribute to understating budget 

surpluses. These techniques fall in two distinct groups: (1) the planning 

assumptions that were developed during the period of deficit reduction and 

(2) the practices adopted by the government for allocating surplus 

revenues. 
Page 124 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Planning Assumptions Some analysts have criticized the government’s continued use of a 2-year 

time frame for budget planning. They assert that this short horizon makes it 

harder to argue either for permanent spending or tax changes or for 

initiatives with benefits realized over a longer period, such as substantial 

debt reduction. A 1998 report from a public policy research group argued 

that the government’s 2-year horizon “may have helped rein in the federal 

deficit, but it is not so well suited to the task of framing priorities for the 

post-deficit era, since it by definition neglects the longer-term implications 

of decisions made today.” 

Another practice that has received some criticism is the use of conservative 

economic assumptions. Analysts told us that they routinely discount the 

Finance Department’s forecasts as overly pessimistic. Due to this tendency, 

some groups have argued that the government should adopt more realistic 

assumptions for its budget projections. However, other analysts continue 

to support the use of conservative assumptions as an acceptable way of 

ensuring that Canada’s finances remain under control. In addition, a recent 

Finance Committee report suggested that recent economic developments, 

such as declining commodity prices and a projected slowing of economic 

growth, have validated the government’s cautious approach. The 

government has recently responded to these criticisms and plans to 

explicitly show the impact of its “prudent” economic assumptions on its 

budget totals. By fully disclosing the impact of its assumptions, the 

government feels that there will be less debate surrounding the likely size 

of the surplus.

Allocation Techniques Several analysts have criticized the way in which the government allocates 

surplus resources, charging that its methods obscure how much money is 

really available. Some cite the government’s recent pattern of introducing 

new initiatives near the end of a fiscal year that have the effect of reducing 

the surplus realized in that year. For example, the government estimated 

that new spending and tax cuts introduced in the fiscal year 1999-2000 

budget would cost CAN$5.7 billion in fiscal year 1998-99. Along with 

economic and technical adjustments, these new initiatives reduced a 

potential fiscal year 1998-99 surplus from an estimated CAN$11.7 billion to 

zero, excluding the contingency reserve. (See table 3.)
Page 125 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Table 3: Fiscal Outlook for Fiscal Year 1998-99

Source: The Budget Plan 1999, Department of Finance of Canada, February 1999.

Several analysts are also critical of the accounting methods that the 

government uses for some of its new initiatives. They argue that the 

methods overstate deficits or understate surpluses. For example, during 

fiscal year 1997-98, the government announced the Millennium Scholarship 

Fund and booked the cost of the fund in the current year even though the 

fund and the expenditure were not yet authorized. This action was 

criticized by Canada’s Auditor General,24 among others. The government 

responded that the disputed amounts were authorized before the financial 

statements for the fiscal year in question were finalized.25

Alternative Views on Allocating 

Budget Surpluses

The debate over the size and duration of budget surpluses is closely tied to 

the debate over how to allocate them. For example, the government’s 

position is that since the size of the surplus is uncertain, it is safer to 

assume that it will be small. And, since the government’s budgeting horizon 

is limited to 2 years, it tends to avoid allocation decisions that would have a 

major impact on the long term. Therefore, the government prefers modest 

tax cuts and nonpermanent spending initiatives over more costly and 

longer-term commitments. In contrast, various analysts and advocates 

prefer spending cuts or tax increases that are both more substantial and 

more permanent.

Billions of Canadian dollars

Budgetary surplus from April 1, 1998 through December 

1998

$11.7

Economic and technical adjustments -3.2

Impact of new initiatives announced during fiscal year 1998-

99

-5.5

Remaining surplus 3.0

Less contingency reserve -3.0

Planning outcome 0

241998 Public Accounts of Canada, Office of the Auditor General.

25The books on each fiscal year are not closed until 6 to 7 months after the fiscal year ends.
Page 126 GAO/AIMD-00-23 Budget Surpluses in Other Nations

In addition to differences over the size of surpluses, the allocation debate is 

about differing preferences for debt reduction, spending increases, and tax 

cuts. The government emphasizes a balanced approach, dividing money 

between the three priorities with more emphasis on spending. (See figure 

24.) Others have argued for a greater focus on one or more of these 

priorities. To some extent, public and interest group opinion on the surplus 

reflects pent-up demands from the years of budgetary restraint. 

Advocates of greater spending point to the large cutbacks in health care, 

unemployment benefits, and other social assistance programs enacted 

earlier in the decade. Boosting health care spending, in particular, has 

commanded widespread public support and has been a top priority for 

provincial governments and interest groups. Many have expressed concern 

that the cuts in federal aid to the provinces have caused substantial erosion 

in Canada’s national health insurance program. Health Canada (the federal 

department of health) estimates that from 1992 through 1996 public sector 

spending on health dropped from 7.5 percent to 6.6 percent of GDP. In 

response to these concerns, the government announced in the fiscal year 

1999-2000 budget that it was increasing provincial aid for health care by 

CAN$11.5 billion over the next 5 years. However, critics have stated that 

this amount is still insufficient to cover the system’s growing funding 

needs. 

Similarly, tax cut supporters, including the business community and a 

number of economic analysts, have characterized the government’s tax 

relief initiatives as inadequate. They point out that Canada has a high tax 

burden, which makes it difficult for its businesses to compete. More 

specifically, they note that Canada’s taxes are significantly higher than 

taxes in the United States, which poses a potential problem for Canada’s 

economic competitiveness. 

Several of those who support tax cuts also favor a more aggressive 

approach to debt reduction. According to the Finance Department, the 

government’s current fiscal plans would reduce the debt to GDP ratio from 

about 68 percent at the end of fiscal year 1997-98 to about 55.5 percent in 

fiscal year 2002-03, assuming nominal economic growth averages 3.5 

percent annually and the contingency reserve is available to pay down the 

debt. Several analysts and organizations that we spoke with would like 

debt reduction to occur at a faster pace. Some cited the lack of budgetary 

flexibility caused by the federal government’s large interest burden and 

vulnerability to higher interest rates. 
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To help support a policy of debt reduction, several analysts suggest that the 

government adopt debt to GDP targets to replace or complement the fiscal 

targets that have been used successfully since the mid-1990s. Suggested 

targets vary from 40 to 60 percent of GDP. Five provinces and one territory 

have fiscal rules concerning debt. While some of these fiscal rules are more 

stringent than others, they reveal a focus on debt and the need to reduce or 

at least stabilize it.

Canada Faces Longterm Demographic 

Pressures

Like many other industrial nations, Canada faces an aging population due 

to a baby boom generation and increasing longevity. According to Statistics 

Canada, the agency that collects statistics on Canada’s society and 

economy, the ratio of the population that is 65 and over to those aged 

20 through 64 will nearly double from 20 percent in 1998 to over 38 percent 

by 2031. 

Long-term fiscal analysis does not have any formal role in Canada’s budget 

process as the Finance Department does not publish detailed budget 

projections beyond 2 years. However, federal officials and analysts are 

concerned about longer-term issues. For example, regular long-term 

projections are prepared for the Canadian Pension Plan (CPP), and these 

projections were used to help support a recent reform of the system.26

26The Canada Pension Plan law requires that an actuarial report be prepared every 3 years to 

allow for a review of CPP’s contribution rates. The most recent report was issued in 

December 1998 and includes projections of CPP revenue and spending up to the year 2100.
Page 128 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Going beyond an analysis of particular programs, Canada’s Office of the 

Auditor General (OAG) has looked at the broader fiscal implications of 

long-term spending trends. As part of its annual report to Parliament in 

1998, OAG looked out three decades into the future to assess the fiscal 

implications of demographic pressures using illustrative simulations for 

spending and revenues.27 OAG found that, absent any policy changes, 

spending on retirement income programs and health care is expected to 

grow much faster than the economy in coming decades−rising from around 

12 percent of GDP in 1996 to about 17 percent of GDP in 2031 using the 

mid-range assumption for growth in health spending.28 Such dramatic 

growth would cause significant pressure to reduce all other spending, 

assuming that the government chose to keep the debt burden stable. OAG’s 

simulations showed that devoting at least a portion of budget surpluses to 

debt reduction over the next decade could help alleviate some of this 

pressure by shrinking the burden of interest spending.

Reforming Canada’s 

Retirement Income and 

Health Care Programs

In 1997, Canada announced a major reform of CPP that is designed to build 

up a substantial reserve in what had been a largely pay-as-you-go system. 

The changes include a substantial increase in payroll tax rates, benefit 

reductions, and a plan for investing some of CPP’s reserves in higher 

yielding assets, such as equities. Several analysts we interviewed were 

largely supportive of the CPP reform and some noted that the government 

effectively built support for this reform through a period of public 

consultations and education. Since CPP is separate from the rest of the 

federal budget, debates over reforming the program generally do not 

become entangled in other budgetary issues as they often do in the United 

States. 

While the CPP reform has been successful, a recent government proposal 

for reforming the government’s existing retirement income programs, the 

OAS and GIS programs, was dropped last year in response to opposition 

from fiscal analysts and interest groups. Analysts we interviewed said that 

critics of the proposal expressed concern that it would have created 

significant disincentives for middle income people to save for retirement by 

27Report of the Auditor General of Canada, (April 1998), Chapter 6, “Population Aging and 

Information for Parliament: Understanding the Choices.” 

28Health care spending in the OAG study includes all levels of government in Canada. The 

OAG produced three different simulations for growth in health care spending: low cost, 

medium cost, and high cost. 
Page 129 GAO/AIMD-00-23 Budget Surpluses in Other Nations

requiring beneficiaries to give back a substantial portion of future benefits 

as their income levels increased. 

In the OAG’s 1998 report, two of three health cost projections showed 

health spending rising considerably faster than GDP in the coming decades. 

The third projection−a cost-containment scenario−shows health spending 

rising in absolute terms and growing at about the same rate as projected 

GDP. However, recent debate about healthcare has focused on restoring 

health care funding following the years of spending cuts that were part of 

the government’s deficit reduction efforts. 

Conclusion To support a successful policy of fiscal restraint begun in the mid-1990s, the 

Canadian government has relied on cautious budgeting practices that have 

allowed it to regularly exceed its fiscal goals. Having succeeded in 

eliminating the deficit, the government’s current goal is “balance or better.” 

As the budget has come into surplus, the government has maintained its 

cautious planning practices and has adopted a similarly cautious approach 

to allocating budget surpluses. This allocation strategy, which reserves a 

portion of surpluses for debt reduction, is based on a philosophy under 

which the government waits until surpluses are apparent before 

introducing new initiatives. Critics have argued that the government’s 

careful planning approach amounts to a policy of “stealth surpluses” that 

makes it difficult to conduct a full-scale public debate over how to use 

surpluses. Despite the criticisms, the federal government’s cautious 

approach has been adopted by many of the provinces, whose combined 

deficits decreased from 2.8 percent of GDP in 1993-94 to only 0.4 percent of 

GDP in 1997-98.
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After almost two decades of deficits, New Zealand has experienced 6 years 

of surpluses since fiscal year 1993-94.1

 The initial drive toward surplus 

began in 1984 when the newly elected Labor government faced, upon 

election, an impending economic crisis marked by heavy capital outflows, 

which precipitated a large exchange rate devaluation, a credit downgrade, 

high inflation, and high debt. In response, the government implemented a 

series of sweeping economic reforms. In addition, the government 

undertook comprehensive public sector reforms that reduced the role of 

the government in the economy. During this period, fiscal restraint played 

an important role and was supported across the political spectrum. The 

Labor government attempted to address a deficit of 6.5 percent of gross 

domestic product (GDP) by increasing taxes and cutting expenditures in 

some areas, such as assistance to industries, while increasing expenditures 

in social programs, such as housing and education assistance to 

low-income earners. However, in 1990, when Labor left office, the budget 

was still in deficit, and net debt had grown to 50 percent of GDP.2

In 1990, a newly elected National government embarked on a program of 

increased fiscal restraint, targeting mainly social expenditures. However, a 

recession in the early 1990s led to large budget deficits that increased net 

debt to 52 percent of GDP in 1992. The continuation of the government’s 

deficit reduction program, combined with a strengthening economy, led to 

surpluses beginning in fiscal year 1993-94. (See figure 25.)

1

New Zealand’s fiscal year runs from July 1 through June 30.

2

Net debt is defined as gross debt owed to the public offset by similar financial assets of the 

New Zealand government. 
Page 131 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 25: Budgetary Balance in New Zealand, 1974-75 to 1997-98

Note: In 1994, the New Zealand government changed its definition of surpluses/deficits from a 

adjusted financial balance (cash) basis to an operating balance basis, and no longer reported its 

operations on an adjusted financial balance basis. The budgetary balances from fiscal years 1994-95 

through 1997-98 are derived by making adjustments to cash flows from operations to approximate the 

cash basis. 

Source: New Zealand Treasury.

As surpluses materialized, the government introduced a new framework 

for developing fiscal policy called the Fiscal Responsibility Act (FRA) of 

1994. FRA has played a critical role in guiding fiscal policy in times of 

surplus. Specifically, FRA laid out a set of guiding principles for fiscal 

decision-making. FRA also set out reporting requirements aimed at 

improving fiscal performance while increasing transparency and 

accountability. Using this framework, the National government established 

a fiscal policy aimed at reducing debt by running surpluses. Specifically, the 
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government promised to defer tax cuts until net debt was reduced to 

between 20 and 30 percent of GDP. In 1996, once the 30 percent target was 

achieved, the government reduced the debt target to 20 percent of GDP, 

while still allowing for some spending increases and tax cuts. Setting a debt 

target played a critical role in the government’s ability to maintain fiscal 

discipline. In May 1998, the government articulated a new fiscal goal of 

running surpluses to reduce net debt below 15 percent of GDP. 

Background New Zealand has a unicameral parliamentary system with 120 members 

elected for 3-year terms through general elections. The executive 

government of New Zealand is composed of the Governor General and the 

Cabinet.3

 The Cabinet consists of the Prime Minister, the Deputy Prime 

Minister, and other Ministers chosen from elected members of Parliament. 

The Cabinet has the power to make administrative or regulatory changes 

without further public input or legislative approval where this power has 

been delegated by Parliament. These changes are simply announced before 

implementation.

During the 1990s, New Zealand’s electoral system underwent significant 

reform. Prior to the 1996 election, New Zealand had a “first-past-the-post” 

system, in which the political party that won the most votes in an electoral 

region won the electoral seat. Parties that gained a majority of the electoral 

seats formed the government and provided the Prime Minister. Under a 

“first-past-the-post” system two major parties controlled the government 

while smaller parties found it difficult to obtain representation. From 1984 

through 1990, the Labor Party was in power. From late 1990 through 1996, 

the New Zealand National Party, representing more conservative 

constituencies, controlled the government. 

3

The Governor General is the Queen’s representative. He/she does not actively participate in 

government, but acts on the recommendation of the government. 
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The electoral system changed significantly in 1993 when New Zealand 

voted for a “mixed member proportional” (MMP) system of representation. 

The MMP system was put in place in part to address concerns that minority 

views were underrepresented in a “first-past-the-post” system. Under MMP, 

voters cast two ballots: one for members of Parliament and one for the 

party. Around half of the 120 members of Parliament are elected directly as 

representatives of their district, while the remaining members are chosen 

by the parties in proportion to the percentage of the overall party vote 

received in the election. The outcome of the new system is that smaller 

parties are now able to gain more seats. In 1996, the first year under the 

new MMP system, the National Party won 44 out of 120 seats and entered 

into an agreement with the New Zealand First Party (17 seats) to form a 

coalition government. In August 1998, the coalition dissolved and was 

replaced by a minority government led by the National Party.4

The New Zealand Economy New Zealand is a small economy that is dependent on trade−its GDP is less 

than 1 percent the size of the U.S. economy and exports account for nearly 

22 percent of GDP, compared to about 9 percent for the U.S. in 1997.

Recent Economic History Until the early 1980s, New Zealand was one of the most regulated of the 

developed economies. New Zealand heavily subsidized its industries, with 

the agricultural sector receiving price supports and tax concessions, and 

the manufacturing sector benefiting from import licensing and tariffs. The 

government provided a fairly comprehensive and generous package of 

social programs, including pensions for the elderly, benefits for single 

parents and mothers, universal health care, and policies that ensured full 

employment. The government also played a large, direct role in the 

economy, with a major presence in industries such as telecommunications, 

banking, energy, forestry, transport, and broadcasting services that 

together produced more than 12 percent of GDP. 

New Zealand has traditionally been heavily dependent on trade for 

economic growth. In 1997, exports of goods and services totaled 22 percent 

of GDP. Until the mid-1980s, New Zealand relied heavily on the United 

Kingdom as a market for its exports, which were mostly agricultural 

4

A minority government can remain in power so long as it can survive a vote of no 

confidence, or until another coalition with more votes is formed. If a majority of the 

members of Parliament vote no confidence in the government, then an election must be 

held. 
Page 134 GAO/AIMD-00-23 Budget Surpluses in Other Nations

products. The United Kindgom’s entrance into the European Common 

Market in 1973 opened the British market up to goods from European 

Union countries but denied New Zealand easy access to its traditional 

major export market. 

In addition to losing the United Kingdom as a protected market for 

agricultural exports, New Zealand was also affected by two world oil price 

shocks in the 1970s. The government responded by increasing taxes, 

devaluing the currency, and implementing programs such as state-funded 

investments aimed at cushioning the economy from these international 

shocks. One such response was “Think Big,” a program designed to 

improve New Zealand’s production of energy, thereby reducing its reliance 

on external energy sources. Contrary to the government’s expectations, 

these initiatives led to increased debt, fiscal constraints, and higher interest 

rates. Economic growth remained low: from 1975 through 1982 there was 

virtually no growth, while inflation averaged about 15 percent per year. 

During this period, unemployment emerged as a serious problem, rising 

from less than 1 percent to more than 5 percent in 1983. Furthermore, large 

fiscal deficits emerged in the late 1970s, and foreign debt rose rapidly as a 

result of large external deficits. By the early 1980s, economic performance 

as measured by a wide range of indicators−growth, unemployment, 

inflation, and the external deficit−had deteriorated substantially. 

In response to the deteriorating economic and fiscal conditions, the new 

Labor government in July 1984 began to institute a series of sweeping 

reforms that by the end of its term in 1990 had transformed the country 

from one of the most to one of the least regulated economies. However, 

economic benefits did not materialize until the 1990s. In 1991, after 7 years 

of reform, real GDP was only 2.8 percent higher than in 1984 compared to 

an average of 24 percent for Organization for Economic Cooperation and 

Development (OECD) member countries in the same period. 

Unemployment also grew during this period, peaking at almost 11 percent 

in September 1991, up from less than 5 percent in the early 1980s.

Strong export-driven growth began in 1991, and the economy grew at an 

annual average rate of 3.5 percent from 1991 through 1997. From June 1995 

through December 1996, unemployment dropped to a low of around 

6 percent. Since 1996, growth has slowed, as shown in figure 26, and 

unemployment increased to 7.7 percent in December 1998. More recently, 

the Asian economic downturn and drought conditions have negatively 

affected the country’s growth rate.
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Figure 26: GDP Growth in New Zealand, 1983 to 1998

Source: OECD Economic Outlook 63, June 1998.

Economic changes in the 1990s can be linked, in part, to a change in 

monetary policy. In 1989, New Zealand passed the Reserve Bank of New 

Zealand Act that assigns a single role for monetary policy: to achieve and 

maintain price stability. Prior to the act, monetary policy focused on 

ensuring the stability of the economy, maintaining full employment, and 

increasing economic growth. The act requires a written agreement between 

the Treasurer and the Governor of the Reserve Bank that defines and 

makes public the specific targets for price stability. 

The Governor of the Reserve Bank believes that the stable inflation policy 

has contributed to the strong fiscal performance by offsetting, or 
Page 136 GAO/AIMD-00-23 Budget Surpluses in Other Nations

threatening to offset, expansionary fiscal policies. For example, in 

response to an expansionary budget introduced during the 1990 election 

year, the bank tightened monetary policy. In 1996, the government reduced 

income tax rates only after it was satisfied that such tax cuts would not 

result in a significant tightening of monetary policy.

Budget Process The government, through the Treasury, is responsible for developing the 

budget and presenting it to Parliament. The process starts with the 

government releasing its policy statement setting forth its vision and the 

strategic objectives for the fiscal year and the coming 3 years. After the 

release of the policy statement, departments submit bids for new program 

initiatives. Bids are reviewed by the Cabinet on advice from Treasury, and 

those that fit with strategic objectives can receive new funding. In May or 

June, the government submits a budget that has to fulfill the strategic 

objectives announced in the policy statement or provides explanations or 

justifications for inconsistencies. By that time, the government has decided 

which new programs and policy actions to fund. 

Under this process, most budget deliberations and the approval of new 

policy actions take place prior to the public presentation of the budget. 

After the budget is presented to Parliament, select committees examine the 

budget, question ministers and departments about their budget requests, 

and may propose changes to appropriations. However, in general, 

government budgets are passed without many changes. Failure to pass a 

budget would result in the dissolution of the government and probably a 

new election. 

Measuring Fiscal Position Prior to 1994, New Zealand’s surplus/deficit was a cash number, similar to 

the unified budget figure used in the United States. Revenue and 

expenditures, including capital expenditures, were recorded when cash 

was actually received or spent. Consequently, the surplus/deficit measure 

encompassed all receipts and expenditures.
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In 1994, New Zealand became the first OECD country to use an accrualbased measure of fiscal position.5

 The measure, called the operating 

balance, is designed to match more closely the cost of resources consumed 

in the production of goods and services with the revenues. As part of this 

change, departments no longer record an expenditure when an asset is 

purchased. Rather, a depreciation expense is recorded when the asset is 

used. Another important change is that the government records the cost of 

liabilities when the events that give rise to these liabilities occur. For 

example, the cost of providing public employee pensions is recorded at the 

time the employee works, rather than when the employee has claim on the 

cash. This method of recognizing liabilities differs from the approach taken 

under the cash basis, under which the cost is recognized only when a cash 

outlay occurs. The net effect of the differences between the operating 

balance−the primary measure of fiscal position−and the cash balance is 

shown in figure 27.

5

The Public Finance Act of 1989 first required the use of accrual budgeting at the 

department level. In 1994, the government enacted FRA, which reaffirmed its commitment 

to greater accountability and transparency in government through improved financial 

management and devolution of responsibilities. FRA endorses the move to accrual as 

necessary to the new fiscal environment and requires that the government as a whole 

budget on an accrual basis. 
Page 138 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 27: Comparison Between Adjusted Cash and Operating Balances in New Zealand, 1994-95 to 1997-98

Note: In 1994, the New Zealand government changed its definition of surpluses/deficits from an 

adjusted financial balance (cash) basis to an operating balance basis and no longer reported its 

deficit/surplus on a cash basis. The adjusted cash balances from fiscal years 1994-95 through 

1997-98 are GAO calculations. They reflect adjustments made to the cash flows from operations, 

which approximate the adjusted financial balance used to measure surpluses/deficits prior to 1994. 

However, some additional adjustments are necessary to arrive at an exact measure of the adjusted 

financial balance as reported prior to 1994.

Source: New Zealand Treasury.

Government officials and experts we met with felt that accrual measures of 

deficits/surpluses better reflect the ongoing health of the government than 

pure cash measures. They stated that by recognizing employee pension 

costs, accrual data give a better picture of the cost and obligations of 

government policies. Also, by excluding privatization proceeds that are 
Page 139 GAO/AIMD-00-23 Budget Surpluses in Other Nations

one-time-only transactions that cannot be expected to occur again in the 

future, the new measure better reflects the ongoing performance of 

government. Finally, by requiring recognition of the long-term cost of 

decisions, accrual measures make clear the full cost of spending decisions 

that have minimal effects today but greatly affect future budgets. For 

example, in the 1970s, the government did not recognize the cost of 

establishing guarantee programs for energy projects. In the late 1980s, the 

guarantee costs totaled more than NZ$6 billion, or more than 10 percent of 

GDP. According to an ex-finance official, under accrual such costs would 

have been recognized over the years and such a large delayed charge to the 

budget would not have occurred. Had the full cost of such decisions been 

made available, commitments with large deferred costs may not have been 

made. However, New Zealand does not include the commitment of its 

social security system in its accrual-based measures because these 

commitments (1) can be changed by acts of Parliament, and (2) cannot be 

reliably estimated and, therefore, do not meet the criteria, as defined by 

generally accepted accounting practice, for recognition as a liability. 

In addition to the operating balance, New Zealand also emphasizes the debt 

to GDP ratio as a key indicator to track the government’s performance in 

the economy. The government articulated the need for New Zealand, as a 

nation with a small and open economy, to maintain a low debt to GDP ratio 

in order to be better able to respond to economic shocks. Officials and 

experts we interviewed explained that setting debt targets was a necessary 

first step in determining the operating balance and articulating the 

necessity for operating surpluses. These officials felt that the use of the 

debt to GDP ratio was a critical factor in keeping the government on track 

towards surpluses in order to pay down debt.

Fiscal Policy of the 

Mid-1980s Driven by 

the Desire to Reduce 

the Government’s Role 

in the Economy

As shown earlier in figure 25, New Zealand had large deficits extending 

back to the late 1970s. The deficits were large, exceeding 2 percent of GDP 

in all years before 1984. The deficits were caused in part by government 

actions taken to implement fiscal policies that sought to counter the effects 

of a weak economy through expansionary policies. These policies, which 

were financed largely through additional borrowing from abroad, led to a 

sharp deterioration in the fiscal position. By 1984, the ratio of government 

expenditure to GDP was more than 38 percent, and the deficit was 

6.5 percent of GDP. Thus, deficit reduction efforts in New Zealand 

beginning in 1984 were aimed at reforming the economy and reducing the 

size of the public sector.
Page 140 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Economic and Public Sector 

Reform

The New Zealand economy in the late 1970s and early 1980s was marked by 

a major government presence in many sectors of the economy and 

extensive government intervention in the economy. However, from 1975 

through 1982, the New Zealand economy experienced virtually no growth, 

while inflation averaged about 15 percent per year and unemployment, 

which had never risen beyond 1 percent, reached a peak of over 

5 percent in 1983. A loss of investor confidence led to heavy capital 

outflows, which precipitated a large currency crisis. Thus, in the early 

1980s, the New Zealand economy was marked by serious problems.

The impending economic crisis prompted the Labor government that came 

to power in 1984 to take decisive actions. The primary goal of the new 

government was to introduce more openness and competition−which the 

reformers saw as the primary engines for economic growth−into the highly 

controlled economy. From 1984 through 1990, the government focused its 

efforts primarily on reforming the economy to improve its performance and 

restore investor confidence, while deficit reduction played a supporting 

role. Specifically, in 1984 the new government devalued the currency by 

20 percent and then allowed its value to float on the open market, opened 

up the financial markets to international competition and investment, and 

deregulated major sectors of the economy. The government also removed 

wage and price controls and reduced or eliminated subsidies for many 

industries. 

Along with economic reforms, the government implemented many reforms 

that resulted in a smaller public sector. It began by corporatizing 

government departments engaged in commercial activities into stateowned enterprises and putting them on a commercial basis. In many 

instances, these enterprises had to adopt business practices and compete 

with private sector enterprises. From 1986 through 1990, many of these 

state-owned enterprises were privatized. By 1994, privatization and other 

initiatives aimed at improving economic and government performance had 

reduced the number of public sector employees to less than half the 1984 

level. 

In addition, the government passed several laws changing the focus of 

government management and budgeting. The Public Finance Act of 1989 

required the use of accrual budgeting while the State Sector Act of 1988 

shifted responsibility for managing inputs, such as the number of 

employees, from central control to department managers. The acts gave 

these managers more latitude in purchasing and hiring decisions in 
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exchange for the delivery of outputs such as serving a specific number of 

welfare recipients. 

Deficit Reduction Efforts From 1984 through 1990, deficit reduction was achieved mainly through 

increases in revenues. In October 1986, the government introduced a 

broad-based 10 percent Goods and Services Tax (GST), part of a general 

effort to move the tax burden from direct taxes such as income taxes to 

indirect taxes such as GST.6

 Although there were significant cuts in the 

marginal personal income tax rates, these were offset somewhat by the 

elimination of tax loopholes and a general broadening of the tax base. As 

the tax brackets were not indexed for inflation and the economy grew, tax 

revenues increased as a share of GDP. In addition, government-owned 

enterprises were generating healthy surpluses, which were counted as 

government revenue. Taken together, the result was an increase in revenue 

from about 32 percent of GDP in fiscal year 1984-85 to almost 40 percent of 

GDP in fiscal year 1989-90. 

Despite efforts to cut government spending, government expenditures as a 

percentage of GDP increased from less than 37 to more than 41 percent 

from fiscal year 1984-85 to fiscal year 1989-90. Although the government 

moved initially to reduce or abolish subsidies and restrain spending in most 

program areas, these cuts were more than offset by growth in expenditures 

in social welfare, health, and education that together made up more than 

55 percent of the budget in 1984. Increases in social expenditures were 

driven by increased demand for education and health programs. In 

addition, the turbulence in the economy and slow economic growth led to 

large increases in cyclically-sensitive claims such as unemployment. By 

fiscal year 1990-91, social programs had grown to about 62 percent of the 

budget, representing more than 25 percent of GDP and a level that was 

5 percentage points higher than in fiscal year 1984-85.

Although privatization was undertaken mainly to improve economic 

performance, proceeds from these efforts led to a decrease in debt during 

the 1980s. From 1988 through the end of 1990, 15 of the largest state-owned 

enterprises were privatized. Privatization proceeds totaled more than 

NZ$9.4 billion as of December 1990. Proceeds contributed to reduction of 

the gross public debt from almost 78 percent of GDP in 1987 to about 

62 percent of GDP in 1990.

6

The GST rate was subsequently increased to 12.5 percent in March 1989.
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Fiscal Policy of the 

Early 1990s Focused 

on Eliminating the 

Deficit and Then 

Reducing the Debt 

Beginning in late 1990, the newly elected government focused on deficit 

reduction. The government was unaware that it would face, upon election, 

a large deficit instead of a balanced budget. Furthermore, upon taking 

office, it became apparent that deficits would persist due to an economy 

that was entering a deep recession, unless policy actions were taken. In 

addition, New Zealand was faced with the prospect of a credit downgrade 

due to concerns about the state of the economy, which would cause its 

borrowing costs to increase. Decisionmakers became keenly aware of the 

need to sustain foreign investor confidence in their economic and fiscal 

policies.

Shortly after the election, the government presented an economic package 

that focused primarily on spending cuts to restore fiscal health. The 

package reflected the keen awareness among decisionmakers of the need 

to sustain foreign investor confidence in their economic and fiscal policies. 

Among other things, the budget retained the surcharge on superannuation 

(New Zealand’s public pension program) that the new government had 

promised to abolish during the 1990 campaign. The fiscal year 1990-91 

budget enacted severe cuts to social welfare benefits totaling 

NZ$245 million while the fiscal year 1991-92 budget cut another 

NZ$1.25 billion. The government also held spending increases to a 

minimum on other expenditure categories. Officials believed that such 

difficult decisions were necessary to turn the economy and the fiscal 

position around. 

The deficit reduction program, along with an improving economy led by 

growth in exports, provided the impetus for New Zealand’s improving fiscal 

position. By fiscal year 1993-94, the first year of surplus, the government 

had succeeded in reducing expenditures from more than 42 percent of GDP 

in fiscal year 1990-91 to less than 35 percent.7

 Strong progress on 

constraining expenditure, together with proceeds from privatization 

totaling nearly NZ$3.2 billion from 1991 through 1993, allowed the 

government to reduce debt. 

In 1994, when it became apparent that surpluses would continue, the 

government articulated the need for continued surpluses in order to reduce 

debt. New Zealand is a small, open economy that is highly susceptible to 

international shocks. The government believed that a lower debt level 

7

In 1993-94, New Zealand achieved surplus in both cash and operating bases. 
Page 143 GAO/AIMD-00-23 Budget Surpluses in Other Nations

would improve fiscal flexibility and better prepare New Zealand for the 

next economic shock. Furthermore, policymakers thought that reducing 

debt would serve to increase the confidence of international investors in 

the New Zealand economy. The government’s efforts have largely been 

successful, with public sector debt falling from over 50 percent of GDP in 

1990 to a 1998 level of under 25 percent. (See figure 28.) While this is 

generally viewed as a significant achievement, some believe that further 

debt reduction will be necessary if the country is to successfully address 

long-term fiscal and economic issues. Currently, the government has a 

public sector debt goal of less than 15 percent of GDP.

Figure 28: Net Public Sector Debt in New Zealand, 1980 to 1998

Source: New Zealand Treasury.
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New Zealand finance officials we interviewed credited at least part of the 

ability to maintain fiscal discipline to budget and accounting reforms. They 

stated that the government maintained departmental budgets at the same 

level from 1991 through 1998 unless departments could present a 

compelling case for increased spending. As a result, it became difficult to 

introduce new programs or undertake additional activities under this new 

approach, and most departments experienced a budget reduction in real 

terms, which they were expected to absorb through increased efficiency. 

Officials we spoke with felt that the budget and accounting reforms 

improved their ability to price governmental goods and services (outputs) 

and have helped New Zealand to make efficiency gains without a drop in 

the level and quality of service. For example, by requiring that departments 

absorb a capital charge, the government reduced the desire to acquire new 

capital assets and provided an incentive for selling non-performing assets. 

A New Framework for 

Fiscal Decision-making

As noted earlier, in 1994 the government passed the FRA, which established 

a new framework for fiscal decision-making. FRA was developed to lead to 

better fiscal outcomes by making policymakers consider not only the 

short-term impacts of decisions but also the medium- and long-term 

impacts. FRA was also put in place, in part, in anticipation of the new MMP 

electoral system. The change to MMP was likely to lead to coalition 

governments. Officials feared that the compromises resulting from 

coalition governments would result in a deterioration of fiscal discipline. 

FRA was designed to make this more difficult. 

FRA established five main principles for sound fiscal management. The 

government is required to (1) establish a prudent level for debt necessary 

to provide a buffer against future adverse events, then work to reduce debt 

to that level by achieving operating surpluses every year that the debt is 

above a targeted level, (2) maintain this prudent debt level once achieved 

by running a balanced budget on average over the economic cycle, 

(3) achieve a level of national net worth that would provide a buffer against 

adverse economic shocks, (4) pursue a policy of stable and predictable tax 

rates, and (5) manage the risks facing the government. The framework does 

not dictate specific targets for debt, surpluses, or risks, but allows the 

government to define its own medium-term strategies and short-term fiscal 

goals in such a way as to fulfill these principles. 

FRA also put in place institutional arrangements designed to improve 

transparency in the formulation of and accountability in the performance 

of fiscal policies by requiring extensive reporting on these policies. Before 
Page 145 GAO/AIMD-00-23 Budget Surpluses in Other Nations

the budget is presented, a Budget Policy Statement must be presented that 

sets forth the broad strategic goals of the government. The Fiscal Strategy 

Report that accompanies the budget has to specify that the budget is 

consistent with the Budget Policy Statement or justify any departure. This 

report must provide fiscal scenarios covering at least the next 10 years. 

Other reporting requirements include the Economic and Fiscal Update at 

the time of the budget, a half-year Economic and Fiscal Update in 

December, an update with supplementary appropriations, as well as a 

pre-election economic and fiscal update at least 14 days before a general 

election. FRA also requires the government to use accrual concepts for 

budgeting and reporting. Finally, FRA requires the government to disclose 

all decisions that may have a material effect on the future fiscal and 

economic outlook. The government hoped that these extensive reporting 

requirements would ensure that departures from what are deemed the 

principles of responsible fiscal management would only be temporary since 

they would have to be reported and justified to the public.

New Zealand Aims for 

Sustained Surpluses

Since 1994, New Zealand’s fiscal policy has been to run sustained surpluses 

until a desired debt level is achieved.8

 The government cites three main 

reasons for running sustained surpluses and reducing debt: (1) to provide a 

buffer against economic shocks, (2) to deal with the significant pressures 

that demographic trends will place on the fiscal position in the future, and 

(3) to allow for lower taxes in order to increase international 

competitiveness and economic growth. 

Most officials and experts we talked with agreed that the New Zealand 

economy is extremely susceptible to external economic shocks. A fallback 

into budget deficit is seen as undesirable because it would likely result in 

an adverse response by international markets. The resulting increase in 

interest rates would be harmful to the business sector and, ultimately, 

would be detrimental to the health of the economy as a whole. A budget 

deficit is not acceptable because concern still exists over the debt level and 

because future demographic pressures are becoming more apparent. 

Interviewees added that the New Zealand political landscape has 

undergone substantial changes, to the point that running sustained 

8

The targeted net debt level was originally set at between 20 and 30 percent of GDP in the 

1994 budget. The target was decreased to 20 percent of GDP in the 1995 budget and further 

decreased to less than 15 percent of GDP in May 1998. 
Page 146 GAO/AIMD-00-23 Budget Surpluses in Other Nations

surpluses is now the accepted norm of most political parties. While some 

interviewees, concerned about the deterioration in the national 

infrastructure, argued that New Zealand could assume additional debt for 

investment purposes, most agreed on a policy of continued surpluses. An 

ex-finance official argued that some consensus existed for maintaining 

surpluses in time of economic growth so the government could better 

address long-term pressure such as the aging population. According to this 

ex-official, the relevant question in New Zealand is not whether to maintain 

surpluses but rather how rigidly the policy needs to be carried out. Some 

opposition parties are committed to achieving surpluses over the business 

cycle, allowing for deficits during periods of economic weakness. However, 

the current government has said it is imperative to maintain surpluses until 

the desirable level of debt is achieved.

The fiscal year 1994-95 budget was the first in a series of budgets to 

operationalize the principles of FRA. A main objective of the budget was to 

reduce net debt to between 20 and 30 percent of GDP and achieve a debt to 

GDP ratio of 20 percent by 2003-04. In fiscal years 1994-95 and 1995-96−2 

years after the first budget surplus was achieved−the government 

continued to maintain fiscally conservative policies. In 1995, the 

government reaffirmed its commitment to running short-term surpluses 

and promised to consider tax cuts only after net debt fell below 30 percent 

of GDP. Pointing to experience that showed that the fiscal balance could 

shift up or down by more than 3 percent of GDP over the cycle, the 

government committed itself to running surpluses of at least 3 percent of 

GDP in an environment of strong economic growth. In addition, the 

government continued its privatization programs. Proceeds from 

privatization, as well as cash made available from operating surpluses, 

were dedicated to debt reduction, resulting in substantial progress towards 

achieving the 30 percent debt goal.9

As a result of the increasing revenues and decreasing expenditures, New 

Zealand ran operating surpluses averaging almost 3 percent of GDP from 

fiscal years 1994-95 through 1997-98. Despite the fact that the government 

did not actively increase taxes during the mid-1990s, revenues increased as 

a percent of GDP during this period for several non-policy related reasons. 

9

The full cash value of privatization proceeds is not included in the operating balance. Under 

an accrual basis, only gains or losses are recorded in the operating balance. A gain would 

occur if the sale price was above the net asset value, and a loss would occur if the sale price 

was below the net asset value. However, all of the cash from the asset sale is available for 

debt reduction. 
Page 147 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Tax receipts increased because New Zealand’s taxes are not indexed to 

inflation and corporate profits grew with the improving economy. In fiscal 

year 1995-96, taxes and other revenues accounted for more than 38 percent 

of GDP, an increase from 36.6 percent in fiscal year 1993-94. On the 

expenditure side, the government held the line on nominal increases, so 

that by fiscal year 1995-96, expenditures as a share of GDP decreased to 

approximately 34.5 percent, from 36 percent in fiscal year 1993-94. 

Once the government’s debt level goals were reached, the government both 

lowered the targets and passed budgets with tax cuts and increased 

expenditures. In 1996, as the debt level was estimated to reach the initial 

target of 30 percent of GDP, the government enacted a new budget that 

aimed to reduce debt to below 20 percent of GDP while making room for 

reduction in taxes. The 1996 tax cut package consisted of a two-stage 

reduction in the income tax rate planned for 1996 and 1997. The package, 

which went into effect July 1, 1996, totaled more than NZ$7 billion over 

3 years and, along with smaller measures, reduced revenues from more 

than 38 percent of GDP in fiscal year 1995-96 to a fiscal year 1998-99 

estimated level of less than 35 percent. While the budget also targeted 

specific areas such as health and education for spending increases, the 

growth in expenditures was relatively small. 

As mentioned previously, the 1996 election resulted in the formation of a 

coalition government in New Zealand. The coalition government supported 

spending initiatives that were not included in the fiscal year 1996-97 

budget. In response to these pressures, the government passed a 

NZ$5 billion spending package to be phased in over 3 fiscal years starting 

with fiscal year 1997-98. The spending package allocated additional funding 

to health and education and abolished the superannuation surcharge to 

fulfill a 1990 campaign promise. To mitigate the fiscal pressure and reaffirm 

its commitment towards surpluses, the government postponed the second 

round of tax cuts until July 1, 1998, citing as reasons slowing economic 

conditions and reduced projected surpluses. 

Despite actions taken to reduce taxes and increase expenditures, reducing 

net debt is still the overriding objective of fiscal policy. In 1998, the 

government once again changed its target for debt to less than 15 percent 

of GDP and planned to run surpluses until this level of debt was achieved. 

In response to the Asian downturn and a forecasted fallback into deficit, 

the government agreed in May 1998 to set aside NZ$300 million of the 

NZ$5 billion spending package to bolster operating surpluses, thus 

effectively reducing spending by NZ$150 million in fiscal years 1998-99 and 
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1999-2000. In July 1998, the government once again reduced NZ$300 million 

from the spending package, thus lowering funding for policy initiatives to 

NZ$4.4 billion over the next 3 years. In September 1998, the government 

launched yet another program to cut NZ$150 million in expenditure that 

contained, among other provisions, a continuation of government policy to 

index old-age pension benefits to prices instead of wages until benefits 

reach 60 percent of average wage. According to an ex-official we 

interviewed, this was a difficult and controversial decision because it 

reduced the potential increases in benefits, but it was necessary if the 

government wanted to adhere to its debt reduction policy. Most recently, 

the government forecast that its budget would be in balance for fiscal year 

1999-2000, before achieving surpluses again starting with fiscal year 

2000-01. 

Long-term Pressures 

and Reforms

Like many other industrial nations, New Zealand faces the fiscal pressures 

associated with an aging population. The proportion of the population aged 

65 and over is projected to increase by more than 75 percent between 1996 

and 2031, from about 12 percent to 21 percent of the population. About the 

same time, the ratio of workers to retirees is projected to decrease from 

5.8 to 3.4 workers per retiree. The growth in the elderly population is 

forecast to impose extensive pressure on New Zealand’s fiscal position. 

Because the benefits are fairly generous and because beneficiaries are not 

subject to either asset or explicit income tests to qualify for benefits, 

old-age pensions are forecast to almost double as a share of GDP from a 

current level of more than 5 percent of GDP. 

The government has made temporary changes to pension provisions, such 

as imposing a surcharge on high-income earners (subsequently repealed) 

and indexing old-age pension to prices rather than wages. In 1991, the 

government raised the eligibility age for pensions from 60 to 65 over a 

10-year period from 1991 through 2001. However, these changes have not 

fully addressed the large projected increases in pension expenditures. In an 

attempt to improve the long-term fiscal balance, the government in 1997 

designed a compulsory savings scheme that was submitted to a public 

referendum, but it was overwhelmingly rejected. Officials that we spoke 

with said they thought this outcome had deferred pension reform 

discussions for the time being. 

According to officials, the health system also presents numerous 

challenges to reformers. The system is primarily a public system, 

supplemented by private insurance and out-of-pocket copayments for 
Page 149 GAO/AIMD-00-23 Budget Surpluses in Other Nations

general practitioners and pharmaceuticals and for surgical procedures that 

would otherwise not be available immediately. Since the 1980s, health care 

expenditures have shifted to the private sector, with their share of total 

health expenditures increasing from 12 percent in fiscal year 1979-80 to 

almost 23 percent in fiscal year 1996-97. Despite the expenditure shift and 

other government actions to reform this area, government health 

expenditure continued to average around 5 to 6 percent of GDP, below the 

average of other developed nations. The growth in the elderly population is 

forecast to almost double health care costs from fiscal year 1997-98 

through the year 2050. 

Conclusion New Zealand began on the road to surpluses and lower debt by first 

addressing economic fundamentals and undertaking reforms of the public 

sector that included substantial privatization of government enterprises. In 

the 1980s, proceeds from privatization and increased tax revenues allowed 

the government to pay down debt and support large increases in social 

expenditures. In the 1990s, the government began a deficit reduction period 

that was marked by a focus on holding the line on expenditures. The 

government further enforced fiscal discipline by putting in place a new 

framework that focused fiscal policies on achieving prudent debt levels. By 

focusing on the debt to GDP ratio, the government was able to justify the 

need to run surpluses for several years. Upon achieving its initial goal of a 

net debt level from 20 to 30 percent of GDP, the government enacted a 

package of tax cuts. Subsequently, the government has set even lower 

levels of debt and confirmed surpluses as its primary goal, while allowing 

for increased spending in priority areas.
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Norway has achieved budget surpluses on a general government basis in all 

but two−1992 and 1993−of the last 50 years.1

 Generally throughout the 

post-war period, running budget surpluses was the aim of the government 

in power. Since the early 1970s, surpluses have increasingly been the result 

of a rapid increase in revenues from the oil industry. A large and growing 

oil industry has had a dramatic impact not only on the budget but also on 

the Norwegian economy. Norway has generally enjoyed strong economic 

growth during the past 25 years as a result of its petroleum industry. 

However, beginning with an oil price collapse in late 1985, Norway 

experienced a prolonged economic slowdown, which by the early 1990s 

resulted in record high unemployment and a return of budget deficits for 

the first time in nearly 50 years. 

Decisionmakers responded with a series of reforms aimed to improve the 

long-term fiscal and economic health of the country. In 1993, the 

government entered into an agreement with labor and business leaders 

with the stated goal of achieving long-term economic growth, high 

employment, low inflation, and a stable exchange rate. The government 

agreed to focus fiscal policy on stabilizing the economy, while monetary 

policy would focus on stabilizing the currency. Labor and business leaders 

agreed to hold down wage increases, reducing inflationary pressures in the 

economy. Officials we spoke with felt that these reforms have played a 

critical role in the turnaround of the economy and the return to surpluses. 

Figure 29 shows Norway’s general government financial balance as a 

percentage of GDP from 1970 to 1998.

1

A general government basis includes the fiscal position of subnational levels of government 

and public pension funds.
Page 151 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 29: General Government Financial Balance as a Percent of GDP in Norway, 1970 to 1998

Source: OECD Economic Outlook 65, June 1999.

Upon achieving surpluses, the government has adopted a long-term focus 

for fiscal policy−attempting to save surpluses to deal with future budget 

pressures. Specifically, Norway projects a sharp rise in public pension 

expenditures and a corresponding decrease in petroleum revenues. The 

government has decided that it needs to accumulate financial wealth to 

help pay for these pressures, and since 1996 has deposited budget 

surpluses in the Government Petroleum Fund. To further support 

continued fiscal discipline, the Parliament reformed its budget process in 

1997, putting in place expenditure and revenue ceilings for the first time. 

However, the ability of the government to maintain fiscal discipline during 

a period of surplus came under increasing pressure. A minority coalition 
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government was formed in 1997, and it increased spending above the 

previous government’s proposals. A tight labor market, a sharp drop in oil 

prices, and turbulence in currency markets have, together, placed 

increasing strain on the government’s ability to maintain fiscal discipline. 

Background Norway is a constitutional monarchy with a parliamentary system of 

government.2

 The Parliament, called the Storting, is composed of two 

chambers with a total of 165 members. The government is headed by the 

Prime Minister and a Cabinet of 19 ministers. The governing party or 

coalition of parties must be backed by a majority of Parliament but need 

not constitute a majority of Parliament. The government is responsible for 

most legislation, but individual members of Parliament may introduce bills. 

Each year, the government prepares and introduces the budget to 

Parliament. Parliament has final authority over all budget matters and in 

practice often changes the government’s proposals.

Elections are held every 4 years, and a new election may not be called 

outside this cycle. If the government receives a no confidence vote or 

resigns, then a new government must form from the current Parliament. 

Norway has a system of proportional representation with the number of 

representatives of each party determined roughly in proportion to the votes 

the party receives in the election.3

Since 1945, the left-of-center Labor party has dominated Norwegian 

politics, holding government for all but 16 years. From 1945 until 1961, the 

Labor party held a majority of seats. Since 1961, power has alternated 

between coalition governments and minority Labor governments, with the 

Conservative party holding power from 1981 to 1983. 

2

In practice, the King accepts the will of Parliament and functions in a largely ceremonial 

role. 

3

There is some discrepancy between the popular vote and the makeup of Parliament. 

Norway’s electoral system is weighted to give more sparsely populated areas more 

representation. Also, seats for Parliament are allocated by electoral district, and as a result 

some smaller parties may not get enough votes to receive a seat. To compensate for this, 

Norway added eight nationwide seats to Parliament in 1989, to be awarded to parties so that 

the makeup of Parliament more closely approximates the election results. 
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Currently, Prime Minister Kjell Magne Bondevik is leader of a minority 

coalition government. He became Prime Minister following the 1997 

election when a centrist coalition made up of the Christian Democrats 

(Mr. Bondevik’s party), the Centre party, and the Liberal party formed the 

government. The coalition government took over after the Labor party 

stepped down following a poorer than expected showing in the 1997 

election, despite the fact that Labor holds a higher percentage of seats with 

35 percent than the coalition with 26 percent.4

Economy The Norwegian economy is about 2 percent the size of the U.S. economy 

and heavily dependent on foreign trade. In 1997, exports accounted for 

about 41 percent of GDP. Norwegian industry has traditionally been rawmaterial based. The discovery of oil in the late 1960s has had a profound 

effect on the Norwegian economy, and the petroleum sector has grown 

rapidly to account for about 20 percent of the economy and about one half 

of total merchandise exports.

Recent Economic History Since the 1970s, Norway’s economic performance has been heavily 

influenced by its rapidly growing oil industry. However, as a result, the 

Norwegian economy has become subject to increasingly volatile swings in 

oil prices and production. For example, Norway experienced a period of 

strong economic growth in the mid-1970s as a result of high oil prices and 

increased oil production, which was followed by a period of slow growth in 

the early 1980s. Then, in the mid-1980s, Norway experienced a short but 

strong economic boom, which was brought on by expansionary fiscal and 

monetary policies and a sharp increase in the availability of consumer 

credit. From 1986 to 1992, Norway experienced its longest economic 

downturn since World War II, which was precipitated by a sharp drop in 

world oil prices. The slowdown continued through the late 1980s as the 

government maintained its tight fiscal policy stance in an attempt to reduce 

inflationary pressures and because consumer spending slowed in reaction 

to the sharp run-up in borrowing during the mid-1980s and the increased 

cost of borrowing. 

In reaction to rising unemployment, the government adopted an 

expansionary fiscal stance beginning in 1989, but the economy did not 

begin its turnaround until 1992. The expansion has been broadly based, 

4

The Labor government stepped down because it failed to receive a larger percentage of the 

vote in the 1997 elections than in the 1993 elections.
Page 154 GAO/AIMD-00-23 Budget Surpluses in Other Nations

with strong growth in investments, exports, and private consumption. See 

figure 30 for Norway’s annual GDP growth since 1981.

Figure 30: Real GDP Growth in Norway, 1981 to 1998

Sources: OECD Economic Outlook 65, June 1999 and OECD Economic Outlook 63, June 1998.

Key Structural Factors of the 

Norwegian Economy That Affect 

Fiscal Policy

As a small, trade dependent nation, Norway is sensitive to external factors 

that affect its economy. Particularly important to Norway’s economic 

performance is its currency exchange rate and inflation rate. Appreciation 

in the value of its currency makes Norway’s exports relatively more 

expensive, reducing the competitiveness of its export industries. It is also 

important for Norway that inflation remains at or below the rate of key 

trading partners. If inflation is higher, then Norwegian goods become more 
Page 155 GAO/AIMD-00-23 Budget Surpluses in Other Nations

expensive relative to competitors. The period from the late 1970s to the late 

1980s was marked by high inflation and deteriorating cost competitiveness, 

and on occasion the government devalued the currency to maintain cost 

competitiveness. 

The ability to maintain competitiveness is particularly critical in Norway 

because a strong petroleum sector could lead to a weaker economy in the 

long run. Strong petroleum exports put upward pressure on exchange 

rates, can lead to increased public and private spending, and high inflation. 

This effect, known as “Dutch Disease,” results in a loss of competitiveness 

to traditional industries exposed to international competition.5 Over the 

long run, as petroleum revenues decline, this could have a negative impact 

on economic growth when Norway becomes more dependent on other 

sectors to generate economic growth.

Budget Process The Norwegian budget process occurs in two distinct steps. First, the 

government prepares its budget proposal with the Finance Ministry taking 

the lead. At the beginning of this phase, the Minister of Finance proposes 

expenditure and revenue ceilings based on economic projections from the 

Ministry of Finance. Then, the entire cabinet meets to decide spending 

limits and debate how to allocate the budget. Most of this debate takes 

place away from public view.

During the second phase of the budget process, the Parliament debates the 

government’s proposal and passes a budget bill. The Finance Committee 

sets an aggregate ceiling and ceilings for 23 expenditure areas and 

2 revenue areas, which must be approved by Parliament.6

 Parliamentary 

committees then must develop their budget proposals within the 

5

Dutch Disease refers to the experience of the Netherlands in the 1970s. During this period 

the Netherlands received large revenues from gas exploration which led to strong economic 

growth and growth in public expenditures. However, there were unwanted side effects. The 

exchange rate appreciated resulting in reduced competitiveness. Also, there was a strong 

rise in real wages, an expansion in services−both public and private−and a contraction in 

manufacturing. The economy slowed, unemployment increased significantly, and large 

budget deficits developed in the early 1980s. The government reacted with a large deficit 

reduction effort. The restructuring of the Dutch economy has taken a long time and the 

country still suffers from the after-effects of the strong expansion of the 1970s. 

6

This new process was adopted in 1997. Prior to the implementation of expenditure ceilings, 

spending increases and tax cuts could be passed without any offsets. This was often the 

case with the budget passed by Parliament usually exceeding the spending proposed by the 

government. 
Page 156 GAO/AIMD-00-23 Budget Surpluses in Other Nations

expenditure limits. It is not unusual for Parliament to change the 

government’s budget proposal.

Measuring Fiscal Position Norway’s main measure of fiscal position is the fiscal budget 

surplus/deficit, which includes all the activities of the central government 

and is similar to the United States’ unified budget measure. Because of the 

significance of petroleum revenues in Norway’s budget, it also reports a 

non-oil budget figure, which separates the oil-related revenues and 

expenditures from the fiscal budget. The difference can be quite large. For 

example, in 1998 the government recorded a fiscal budget surplus of more 

than 27 billion krone, while the non-oil budget deficit was about 17 billion 

krone.

Also, Norway’s government uses the non-oil cyclically adjusted balance net 

of interest payments as a key measure for setting fiscal policy. The 

government uses fiscal policy in an active manner in an attempt to smooth 

economic fluctuations and stabilize inflation. Consequently, this measure is 

important because it shows the impact of the government’s core fiscal 

actions on the economy by removing the effects of oil activities, the 

economy, and fixed interest expenses. Officials we met with pointed out, 

however, that it can be difficult to correctly forecast economic 

performance, and in the past their estimates have varied significantly from 

actual outcomes. 

Norway Adopts Fiscal 

Policy to Address 

Long-term Fiscal and 

Economic Pressures

Over the last 30 years Norway’s economy has undergone truly profound 

changes due to a rapid increase in the size of its petroleum industry. The 

petroleum industry has grown to account for a large share of both the 

economy and government revenues. Prior to the arrival of petroleum 

revenues, Norwegian governments had a history of achieving budget 

surpluses. While Norway has generally continued to achieve surpluses, 

they have become increasingly due to petroleum revenues. 

Following a prolonged period of slow growth in the late 1980s and early 

1990s, Norway developed a new framework to support sustained economic 

growth. This framework, the so called “Solidarity Alternative,” was adopted 

in 1993 and called for low nominal price inflation, sound public finances, 

and a stable exchange rate in order to maintain stable economic growth 

and high levels of employment. This framework was viewed as playing a 

key role in the fiscal and economic improvement that occurred during the 

mid-1990s. As a result of fiscal tightening measures and strong growth in 
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petroleum revenues the budget has improved significantly, with surpluses 

growing to over 7 percent of GDP in 1997. 

As surpluses have developed, the government has adopted a long-term 

budgetary focus and has called for setting aside budget surpluses to help 

pay for future expenses. Norway faces the prospect of increasing public 

pension expenditures at the same time that petroleum revenues are 

forecast to decline. In order to help pay for these future expenses, the 

government began depositing budget surpluses in the Government 

Petroleum Fund in 1996.7

 Also, the Parliament reformed its budget process, 

adopting top-down spending and revenue targets in order to help maintain 

fiscal discipline. However, as called for by the Solidarity Alternative, it 

became increasingly difficult to maintain fiscal discipline during the 

current period of strong economic growth. A minority coalition 

government was elected in 1997 and increased spending above the previous 

government’s proposals. A tight labor market, a sharp drop in oil prices, 

and turbulence in currency markets have, together, placed increasing strain 

on the government’s ability to maintain fiscal discipline. 

1970s and 1980s: A 

Transition to a Petroleum 

Based Economy 

The Norwegian economy underwent truly profound changes with the 

discovery of oil in the late 1960s. Oil production began in 1971 and 

increased rapidly after 1975. From 1975 to 1985, the petroleum sector grew 

from about 2.5 percent of GDP to nearly 20 percent, oil and gas exports 

grew from 9 percent to nearly one half of all exports, and oil tax revenues 

increased from 2 percent to about 19 percent of total government income. 

The impact on the broader economy was no less dramatic. During a period 

of generally slow worldwide growth, Norway’s average annual real GDP 

growth was 3.8 percent from 1975 to 1983, compared to 1.8 percent for 

other OECD countries. From 1975 to 1983, unemployment averaged about 

2 percent, nearly 5 percent below the OECD average. The government ran 

budget surpluses from 1975 to 1983 averaging about 3 percent of GDP, 

compared to an average deficit of 3.5 percent for other European OECD 

countries. However, budget surpluses were increasingly due to petroleum 

revenues−the non-oil budget showed a deficit of about 7 percent of GDP in 

1983 compared to a surplus of about 4 percent 10 years earlier. 

7

Petroleum fund assets are not specifically earmarked to cover public pension obligations. 

Therefore, the Fund’s assets could be used to cover any government expense.
Page 158 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Almost from the beginning, there was debate about how to manage the 

petroleum wealth. There were concerns that a strong petroleum sector 

could crowd out investment in the rest of the economy, leading to a weaker 

economy in the long run when petroleum revenues declined. Initially, 

during the early 1970s, it was decided to develop and spend oil revenues 

cautiously to minimize the impacts on other sectors of the economy. 

However, attempts to limit the impact of oil on Norway’s economy proved 

unsuccessful as Norway’s oil revenues increased more rapidly than planned 

as a result of a rise in the price of oil and the dollar exchange rate. 

Concerns over a dominant petroleum sector crowding out other sectors of 

the economy proved well founded. Growth in the manufacturing sector 

stagnated from 1975 to 1985 and employment in that sector dropped by 

over 13 percent. In response, the government increased subsidies to 

domestic industries, including shipbuilding, farming, and fisheries. By the 

mid-1980s, Norway’s corporate subsidies were among the highest of OECD 

nations. The strong petroleum sector and the strong overall economy also 

had other costs. A tight labor market contributed to persistently high 

inflation and a decrease in the cost competitiveness of exports, which 

Norway compensated for by devaluing its currency several times. 

1983 Through 1986: An 

Overheating Economy 

Beginning in 1983 and lasting until 1986, Norway experienced a period of 

strong economic growth. Although, initially the upturn was led by an 

increase in exports, it was sustained by increasing domestic demand led by 

expansionary fiscal and monetary policies. Also, the expansion was aided 

by a steep rise in private consumption caused, in part, by the increased 

availability of private credit following financial market deregulation.8

By 1985, the Norwegian economy had become overheated, led by a surge in 

private consumption of more than 8 percent, and unemployment fell to 

about 2 percent. Also, inflation rates remained high and above those of 

other industrial countries, resulting in a loss of competitiveness, a drop in 

exports, and a widening trade gap. Largely as a result of the strong 

economy and strong petroleum revenues, budget surpluses grew to a peak 

of about 10 percent of GDP in 1985. 

8

Traditionally, Norway had maintained extensive controls over its financial markets, which 

included controls over the supply of credit available to the private sector. Starting in the late 

1970s, Norway began to deregulate its controls over financial markets which had the effect 

of making credit more available.
Page 159 GAO/AIMD-00-23 Budget Surpluses in Other Nations

1986 Through 1992: Norway 

Experiences the Longest 

Economic Downturn in Its 

Post-war History

From 1986 to 1992, Norway experienced the longest economic downturn in 

its post-war history. A sharp drop in oil prices, from about $30 a barrel in 

late 1985 to about $10 a barrel in 1986, precipitated the downturn. The 

economic and fiscal effects were severe. Norway experienced a 1-year 

10 percent decline in real national income, a 15 percent decline in total 

export earnings, and a decline in the budget surplus of about 4 percent of 

GDP. In 1986, the Norwegian currency came under increasing pressure, as 

investors became concerned over the impact of a fall in oil prices on 

Norway’s economy, and the central bank intervened to defend the currency. 

Against this backdrop, a newly elected minority government came to 

power in 1986 and implemented a strategy to restore economic stability 

and international competitiveness. The new government devalued the 

currency by 10 percent, improving the cost competitiveness of its export 

sector. The government also tightened monetary and fiscal policy to slow 

down the economy and reduce inflationary pressures. Finally, the new 

government took several steps to improve Norway’s centralized wage 

negotiation process and to reform its system of industrial subsidies. These 

measures were intended to improve international competitiveness by 

reducing wage inflation pressures and improving economic efficiency. 

The economic slowdown was also prolonged due to a drop in consumption 

as consumers attempted to reduce the indebtedness they had built up 

during the mid-1980s borrowing surge. This retraction was exacerbated by 

a tax reform package enacted in 1987, which reduced marginal tax rates 

and the tax deductibility of interest payments, increasing the cost of debt. 

The government continued to maintain a tight fiscal policy until 1989 when 

it changed to a stimulative fiscal policy in reaction to rising unemployment 

rates. Specifically, the government increased spending on labor market 

programs, housing loans, and public construction while reducing employer 

social security contributions in an attempt to stimulate the economy and 

increase employment. However, just as the economy showed signs of 

picking up due to increased private consumption in 1990, a general 

worldwide economic slowdown acted to prolong Norway’s slowdown. 

Prolonged Economic 

Downturn Leads to 

Consensus on the Need for 

Fiscal Discipline

The prolonged economic downturn led Norwegian policymakers to take 

actions to improve economic performance. As a result, the budget had 

moved into deficit in 1992 and 1993 for the first time in many years. 

Unemployment peaked at about 6 percent in 1992−a very high level by 
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Norwegian standards. Following turmoil in European exchange markets in 

1992, Norway was forced to give up its fixed exchange rate policy. 

Against this backdrop, the government appointed a commission in 1991 to 

study the causes of the rapid rise in unemployment. The Commission 

consisted of representatives from all political parties in Parliament, labor 

and business groups, economic experts, and government officials. In the 

summer of 1992, the Commission, with broad support from the major 

political parties, issued its report recommending a new approach for 

economic policy−a so called “Solidarity Alternative.” 

The Solidarity Alternative established clear roles for fiscal and monetary 

policy. The government was to use fiscal policy in a counter-cyclical 

fashion−increasing demand during economic slowdowns and decreasing 

demand during periods of overly strong economic growth. Monetary policy 

was to be used primarily to maintain stable exchange rates. In addition, as 

part of the Solidarity Alternative labor and business leaders agreed to 

cooperate to mitigate wage inflation pressures. Officials and experts we 

spoke with felt that the Solidarity Alternative played a key role in the 

turnaround of the economy. 

Norway Sets Goal for Surpluses 

to Address Long-term Fiscal and 

Economic Concerns

Once the fiscal budget was projected to return to surplus in 1996, the 

government added a long-term focus to its fiscal policy goals. A major 

reason for the return to surplus was a surge in petroleum revenues, which 

more than doubled between 1994 and 1996, and an overall improvement in 

the economy and in non-oil exports. Also, the government’s attempt to limit 

the growth of “underlying” expenditures (excluding unemployment 

benefits and one-time items) contributed to fiscal improvement. 

With the advent of surpluses, Norway established a goal of sustained 

surpluses in order to build up savings to address long-term fiscal and 

economic concerns resulting primarily from an aging population and 

declining petroleum revenues. (See figure 31.) The goal to save surpluses 

was based, in large part, on a study of the long-term outlook for 

government finances.9

 Specifically, the study projected that petroleum 

revenues would peak in 2001 at about 8 percent of GDP and decline 

thereafter to about 1 percent of GDP in 2030. At the same time, public 

pension expenditures were projected to grow from about 7 percent of GDP 

to nearly 15 percent. Figure 31 shows the most recent long-term forecast 

9

Long-term Program for 1994-1997, Norwegian Ministry of Finance. 
Page 161 GAO/AIMD-00-23 Budget Surpluses in Other Nations

extended out to 2050. This long-term problem has been presented as the 

primary rationale for the current fiscal policy of sustained surpluses.

Figure 31: Long-term Projections for Pension Expenditures and Petroleum 

Revenues as a Percentage of GDP in Norway, 1973 to 2050

Source: Statistics Norway and Norwegian Ministry of Finance.

The government’s projections showed that it was necessary to accumulate 

financial reserves to help pay for increasing public expenditures. As a 

vehicle for accumulating assets, the government created the Government 

Petroleum Fund in 1991 to help manage Norway’s petroleum wealth over 

the long term. The Government Petroleum Fund serves several important 

fiscal and economic functions. By investing surpluses, the Fund is an 

instrument for saving part of Norway’s petroleum revenues for the next 

generation. Also, the Fund’s assets are invested in foreign stocks and bonds 

to help reduce inflation and upward pressure on the exchange rate. Low 

inflation and a stable exchange rate help to keep Norway’s exports 

competitive with other countries. If Norway allowed excess petroleum 

revenues to remain in the domestic economy it could result in higher levels 

of inflation and a real appreciation of its currency. As a result, non-oil 

industries would become less competitive over time as the price of their 

goods and services would rise relative to foreign competitors. This is a 

major concern to policymakers because petroleum output is projected to 

decline early in the 21st century, and Norway will have to rely more on its 
Page 162 GAO/AIMD-00-23 Budget Surpluses in Other Nations

non-oil industries to generate economic growth. If those industries lose 

their competitiveness now, it could have a negative impact on long-term 

economic growth when the petroleum industry declines. Consequently, 

policymakers in Norway have come to view surpluses as critical to the 

long-term fiscal and economic health of the country, and the Fund has 

become a symbol of the importance of saving for future needs. 

Budget Process Reformed 

to Sustain Fiscal Discipline

The Norwegian Parliament reformed its budget process in 1997 to show its 

continued support for fiscal discipline and in reaction to past spending 

increases. For the first time, the Parliament adopted a top-down approach 

to budgeting, setting aggregate revenue and expenditure ceilings. Under the 

old procedure there was no agreement on an overall expenditure and 

revenue limit at the beginning of the budget process, and the final budget 

represented the aggregate of individual spending decisions. As a result, the 

previous budget process often led to Parliament increasing spending above 

the government’s proposed levels. Under the new budget process, 

Parliament agrees on an overall fixed budget ceiling and ceilings for 

23 spending and 2 income areas at the beginning of the budget process. All 

spending and revenue proposals must fit within these ceilings. 

Surplus Policy Comes 

Under Pressure

During the 1997 elections, the then governing Labor party promoted 

continued austerity in order to avoid making the mistakes that occurred 

during the 1980s, while several smaller opposition parties called for 

increased spending on various social programs. In order to ensure support 

for continued fiscal discipline, the Labor party vowed to step down unless 

it received an equal percentage of the popular vote in the election as in the 

previous election. The Labor party failed to garner an equal percentage of 

votes and stepped down as promised, despite holding the largest number of 

seats in Parliament. A minority coalition took over, and its first budget 

proposed to increase spending on pensions and family allowances. 

In 1998, a sharp decline in oil revenues led to a sharp decline in the budget 

surplus, including oil revenues, from about 7 percent of GDP to about 

4 percent of GDP. Financial markets became concerned over the relatively 

easy stance of fiscal policy, resulting in strong downward pressure on 

Norway’s currency. In late 1998, the Central Bank was forced to step in and 

defend the currency. Furthermore, a tight labor market has led to increased 

inflationary pressures. Consequently, it may be difficult for a weak minority 

coalition government to maintain fiscal discipline in light of the pressures 

that have emerged since 1997. Nonetheless, the government remains 
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committed to the Solidarity Alternative and maintaining surpluses to be 

invested for the future.

Conclusion Norway has had a long history of budget surpluses and fiscal discipline. 

With the discovery of oil in the late 1960s, the Norwegian economy and 

fiscal position have come to be increasingly influenced by oil activities. 

Following a prolonged period of slow economic growth in the late 1980s 

and early 1990s, the government reached a broad consensus on the need to 

take actions to sustain economic growth and maintain full employment 

over the long term. Part of this agreement called for fiscal policy to be used 

in a counter-cyclical fashion and has been a major reason why Norway has 

been able to maintain fiscal discipline throughout the latter half of the 

1990s. With the arrival surpluses in 1996, the government has added a 

long-term focus to its fiscal goals and now calls for surpluses to be saved to 

help pay for future budgetary pressures. However, this framework has 

come under increasing pressure due to a weak minority government, a 

strong domestic economy, and turbulence in international currency 

markets. Nevertheless, the current government remains committed to the 

Solidarity Alternative and maintaining surpluses to be invested for the 

future.
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Since the early 1980s, Sweden has experienced 2 periods of budget 

surpluses: 1987 through 1990 and again beginning in 1998.1

 Surpluses 

achieved in the late 1980s were largely the result of the deficit reduction 

program begun in 1982 and a strong economy. During this period, the 

government did not have an explicit policy to sustain surpluses and 

generally attempted to use fiscal policy to stabilize the economy and 

control inflation. Deficits reemerged in 1991 as the economy slipped into its 

worst recession since the 1930s. The budget swung from a surplus of about 

4 percent of GDP on a general government basis in 1990 to a deficit of more 

than 12 percent of GDP 3 years later. Unemployment increased sharply, 

several large banks nearly failed, and the currency was devalued.

In response to the economic crisis of the early 1990s the government 

undertook a series of major reforms. In 1992, Sweden ended its policy of 

maintaining a fixed exchange rate by changing the focus of monetary policy 

to controlling inflation. As a result, the use of fiscal policy to stabilize the 

economy and control inflation was reduced. The government focused its 

fiscal policies on deficit reduction and, in 1994, introduced a package that 

attempted to reduce the deficit by about 7 percent of GDP over 4 years. To 

support the deficit reduction program, the government reformed its budget 

process to include, for the first time, the use of spending caps. Finally, 

Sweden overhauled its pension system with the goal of making it 

permanently sustainable. By 1998, Sweden returned to a budget surplus 

and had set as its fiscal objective running surpluses averaging 2 percent of 

GDP. Figure 32 shows Sweden’s general government financial balance as a 

percentage of GDP from 1981 to 1998.2 

1

In 1995, Sweden changed its measure of fiscal position to a general government measure, 

which includes not only the central government’s fiscal position, but also the fiscal position 

of local governments and its public pension funds. Prior to 1995, budget figures refer 

primarily to the central government budget. The fiscal surplus was positive for both the 

central and general government in 1987-1990. Sweden has also changed its fiscal year from 

July 1 to January 1; 1997 was the first budget year to coincide with the calendar year. 

2

General government financial balance includes the financial balance of the federal 

government, the public pension system, and local government. 
Page 165 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 32: General Government Financial Balance in Sweden, 1981 to 1998

Sources: OECD Economic Outlook 63, June 1998 and OECD Economic Outlook 65, June 1999. 

Background Sweden is a constitutional monarchy with a parliamentary form of 

government. The Swedish Parliament, the Riksdag, is unicameral with 

349 members. Sweden has a proportional electoral system, with 

310 members elected from districts, while the remainder are nominated by 

their parties in order to achieve a nationally proportional result.3

3

A party must gain at least 4 percent of the national vote to qualify for representation.
Page 166 GAO/AIMD-00-23 Budget Surpluses in Other Nations

General elections for Parliament are held in Sweden every 4 years.4 A 

government forms from the political party, or coalition of parties, that can 

garner the majority support of Parliament. However, the governing party or 

parties do not need a majority of seats in Parliament. Governments have no 

specific term limit and can remain in office for as long as they maintain 

majority support of Parliament. A change in government can occur after an 

election when a governing party or coalition loses its majority or when a 

sitting government resigns. If at least half the members of Parliament 

support a vote of no confidence, the government is forced to resign. No 

government has actually been overthrown by a formal vote of no 

confidence. Occasionally, however, governments have resigned after losing 

important votes in Parliament, in effect an informal vote of no confidence. 

Governments have also resigned as a result of internal disagreements; this 

occurs most often with coalition governments.

For most of the last 60 years, Sweden has had minority or coalition 

governments. The Social Democratic Party, a left-of-center party generally 

representing the interests of labor, has held power for approximately 58 of 

the last 67 years. After losing the 1991 election, the Social Democrats 

returned to power in 1994 with 46 percent of the vote. After the election in 

1994, the Social Democratic minority government was first supported by 

the Left Party, then by the Center Party. In the September 1998 elections, 

the Social Democrats’ share of the vote dipped to 36.4 percent. However, 

they were able to remain in power with the support of the more politically 

left-of-center Green and Left parties. Göran Persson is the current Prime 

Minister.5

The cabinet, headed by the Prime Minister, is the decision-making body for 

the government. It is composed of the Prime Minister, a Deputy Prime 

Minister, 13 Heads of Ministry, and 7 Ministers without portfolio. Cabinet 

Ministers are appointed by the Prime Minister and are generally 

representatives of the political party or parties in power. They are often, 

but not always, members of the Parliament. The government is responsible 

for preparing the budget, which is submitted to Parliament in September.

4

Governments may call for an election between regularly scheduled elections, with the 

results of a mid-term election remaining in effect only until the next scheduled election.

5

Göran Persson was appointed Prime Minister in March 1996 after Prime Minister Ingvar 

Carlsson resigned as leader of the Social Democrats.
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The Swedish Economy Sweden has a small economy that is dependent on trade−its GDP is less 

than 3 percent the size of the U.S. economy and exports accounted for over 

35 percent of GDP in 1997, compared to about 9 percent for the United 

States.

Recent Economic History During the 1970s, Sweden’s economy experienced an extended period of 

slow growth similar to that of other developed economies. Between 1974 

and 1984, average annual growth was 1.3 percent, about 2 percentage 

points lower than the previous 10 years. During this period of slow growth, 

Sweden continued to pursue a policy of full employment, financed largely 

by increased public sector borrowing. As a result, Sweden’s public 

expenditures grew at a fast rate during the 1970s, reaching a peak of nearly 

two-thirds of GDP in 1982. Under this fiscal policy, Sweden maintained a 

low unemployment rate−but at the cost of high inflation and large budget 

deficits. 

By the early 1980s, Sweden was experiencing slow economic growth, high 

inflation, and growing budget deficits. Beginning in 1982, Sweden enacted 

an economic and fiscal reform package designed to help revive the 

economy and reduce budget deficits. During the early and mid-1980s, 

Sweden’s government also deregulated its financial markets, which 

included the removal of governmentally-imposed limits on the amount of 

credit that banks could issue in a given year.6

 The increased availability of 

credit led to a surge in borrowing and a large increase in consumer 

spending and real estate investment.7 These reforms contributed to a 

sustained period of growth beginning in 1982 and ending in 1990. 

In 1990, the Swedish economy entered its worst recession since the 1930s, 

due largely to a slowdown in consumer spending and a slowing world 

economy. Consumer spending slowed as borrowing costs increased due in 

part to a government tax reform package which decreased marginal tax 

rates on capital income and reduced the deductibility of interest costs. A 

loss in confidence by investors in the underlying strength of the economy 

led to strong downward pressure on the value of Sweden’s currency. The 

6

Sweden’s government set borrowing and lending ceilings in an attempt to control credit 

growth.

7

Interest payments were deductible from income taxes, which, combined with high marginal 

tax rates and a relatively high inflation rate, led to a negative real rate of interest for many 

borrowers.
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government’s attempts to maintain the fixed exchange rate exacerbated the 

economic slowdown; interest rates for loans in the central bank were 

increased to 500 percent in the fall of 1992 in an attempt to defend the 

currency. Economic growth was negative from 1991 to 1993, and registered 

unemployment increased dramatically from about 2 percent in 1990 to over 

8 percent in 1993. The slowing economy also precipitated a banking crisis 

requiring the government to bail out several banks. The economic 

slowdown and banking bailout had dramatic fiscal effects leading to a 

sharp increase in budget deficits, which peaked at over 12 percent of GDP 

in 1993. 

In reaction to the economic and fiscal crisis, the government took a 

number of steps to revive the economy and bring the fiscal situation under 

control. First, Sweden ended its fixed exchange rate policy in 1992 and 

reoriented monetary policy toward a focus on controlling inflation. In late 

1994, a newly elected Social Democratic government put in place a deficit 

reduction package totaling over 7 percent of GDP over 4 years. Sweden 

also reformed its budget process to include expenditure caps and reformed 

its pension system. By 1994, the economy had begun to turn around. 

(See figure 33.) In the later half of the 1990s, inflation has remained low and 

stable, unemployment rates have begun to come down, and the budget 

moved into surplus in 1998.
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Figure 33: Real GDP Growth in Sweden, 1982 to 1998

Source: OECD Economic Outlook 65, June 1999.

Key Structural Factors of the 

Swedish Economy That Affect 

Fiscal Policy

As a country with a small, open economy, Sweden is sensitive to external 

factors that affect its economy. Particularly important to Sweden’s 

economic performance is its exchange rate, as appreciation in its currency 

makes Sweden’s exports more expensive and reduces its competitiveness. 

Prior to 1992, Sweden generally pursued a fixed exchange rate policy. Since 

1992, it has allowed its currency to float on the open market.

Prior to 1992, Sweden’s primary tool to regulate exchange rates was 

monetary policy. However, as a result, monetary policy was limited in its 

ability to control inflation. Containing inflation at the rate that prevails 

abroad is important to maintaining a fixed exchange rate. Through the 
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early 1990s, Sweden attempted to control inflation primarily through the 

use of fiscal policy. However, fiscal policy was often expansionary, even 

during economic booms, generally adding pressure to an overheating 

economy and higher rates of inflation. Consequently, Sweden’s fixed 

exchange rate policy was ultimately unsuccessful, and the central bank 

was unable to defend the value of the currency. 

Budget Process Sweden began its budget process reforms in 1994 based, in large part, on 

several studies showing its process was weak in its ability to control overall 

spending. The reforms put in place a top-down budget process intended to 

facilitate spending constraint and lead to better budget outcomes. The new 

budget process was fully implemented in 1997. These reforms are now 

viewed as a major factor contributing to Sweden’s recent fiscal 

improvement.

Sweden’s budget reforms focused on achieving better fiscal outcomes, 

mainly by placing controls on spending. For example, the new process 

requires the adoption of fiscal policy targets for a 3-year period, including 

expenditure ceilings. Operating under a 3-year time horizon, each year the 

government adds the overall expenditure ceiling for the third year, keeping 

in place previously agreed to expenditure ceilings. Expenditure ceilings 

may be changed in exceptional cases, but since they were introduced, there 

have been no increases of previously agreed to ceilings.8 

The adoption of a top-down approach to budgeting represents a significant 

change for Sweden. Prior to the reforms, top-down targets were generally 

not used by the government or by Parliament. In fact, the general trend was 

that Parliament would increase spending above the government’s budget 

proposal. Under the new process Parliament passes a bill establishing the 

aggregate spending level 3 months prior to the government’s final budget 

proposal. The government’s budget proposal must conform with these 

limits established by Parliament. Parliament, upon receiving the 

government’s budget proposal, then prepares its own budget bill allocating 

expenditures among 27 expenditure areas. By passing expenditure ceilings 

at the beginning of the parliamentary budget process, the new process 

8

However, the ceilings have been adjusted for technical reasons. For example, with the 

introduction of the new pension system, ceilings were adjusted since pension fees were to 

be paid on transfers. The fiscal balance for the general government was not affected by this 

change. The ceilings have not been changed due to inability to contain spending.
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limits the ability of Parliament to increase spending once overall targets are 

agreed upon.

Measuring Fiscal Position Sweden’s main measure of fiscal position is the general government 

financial balance, which includes the central government budget, the local 

government sector, and Sweden’s public pension system. Prior to 1995, the 

government focused primarily on the central government budget, also 

known as the state budget. After joining the European Union (EU) in 1995, 

Sweden’s primary measure of fiscal position became the general 

government financial balance. EU member countries must comply with the 

Growth and Stability Pact. Under the Pact, countries agree to support the 

economic growth and stability of the Union, by, among other things, 

keeping government budgets close to balance and maintaining low levels of 

debt. The EU assesses compliance with the balanced budget requirement 

using a general government financial balance measure because it includes 

all levels of government activity allowing for better comparisons across 

countries. Consequently, Sweden chose this measure as its primary 

measure of fiscal position.

However, when planning the budget the government also focuses on the 

expenditure ceiling. The overall expenditure ceiling includes central 

government spending as well as the public pension system. Until the recent 

focus on the general government financial balance, Sweden’s pension 

system was considered separately from the rest of the central government 

budget. The pension system funds are still accounted for separately from 

central government revenues, and surpluses accumulating in the pension 

system are invested in marketable securities, i.e., they are not used to 

reduce the government’s public borrowing needs. 

Sweden’s Fiscal Policy 

in the 1970s, 1980s, and 

1990s 

Sweden’s public expenditures, taxes, and deficits all increased at a 

significant rate throughout the 1970s as the government reacted to an 

economic slowdown by attempting to use fiscal policy to stimulate the 

economy and reduce unemployment. By 1982, public expenditures totaled 

about two-thirds of the economy, up dramatically from less than 45 percent 

in 1970. Revenues also grew at a rapid rate during this period−increasing 

from about 48 percent of GDP in 1970 to about 58 percent of GDP in 1982. 

(See figure 34 for expenditures and revenues as a percent of GDP from 

1970 to 1998.) As rapidly as revenues grew, they did not grow fast enough to 

offset rapidly increasing expenditures, and very large deficits emerged by 
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the early 1980s. In 1982, the central government’s deficit stood at nearly 

10 percent of GDP.

Figure 34: Expenditures and Revenues as a Percentage of GDP in Sweden, 1970 to 1998

Sources: OECD Economic Outlook 42, December 1987 and OECD Economic Outlook 65, June 1999.

Beginning in 1982, a newly elected government enacted an economic and 

fiscal reform package aimed at improving economic performance and 

reducing the budget deficit. The government’s efforts were largely 

successful leading to an economic recovery, which lasted until 1990. As a 

result, the budget reached surplus from 1987 until 1990. During this surplus 

period, the government’s fiscal policy was generally neutral as attempts to 
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tighten fiscal policy to slowdown an overheating economy failed to garner 

support in Parliament. Beginning in 1990, the Swedish economy entered its 

worst economic slowdown since the 1930s, with economic growth falling 

by about 5 percentage points from 1991 to 1993 and the unemployment rate 

reaching record levels. The economic slowdown was a major factor 

contributing to a substantial deterioration in public finances during this 

period. From 1990 to 1993, Sweden’s budget went from a surplus of about 

4 percent of GDP to a deficit of more than 12 percent. The large deficits 

resulted in an explosion of government debt, with general government 

gross debt nearly doubling as a percentage of GDP from 1990 to 1994. 

In reaction to the crisis, Sweden’s main fiscal objective changed during the 

mid-1990s from a focus on maintaining full employment to a focus on 

reducing budget deficits and stabilizing debt as a share of GDP. Sweden put 

in place an austere deficit reduction program in fiscal year 1994-95 with 

spending reductions and revenue increases totaling about 7 percent of GDP 

through 1998. Sweden also overhauled its budget process with the aim of 

constraining spending. These efforts played a critical role in Sweden’s 

ability to eliminate budget deficits. In 1998, Sweden ran a small surplus and 

now projects surpluses for the next 3 years. Sweden’s current stated fiscal 

goal is to run surpluses of 2 percent of GDP, on average, over the economic 

cycle. 

The government has also made reforms aimed at improving its long-term 

fiscal health. During the mid-1990s, Sweden overhauled its public pension 

system when it became apparent that the system was unsustainable and 

would run out of money early next century. Sweden’s pension system is run 

separately from central government finances−tax revenues go directly to 

the pension system and excess monies are invested in stocks and bonds 

through one of several government-managed funds. Consequently, the 

pension reform debate occurred separately from the general budget 

debate, and prior to any debate about the need for surpluses.

1982 Through 1987: A Period 

of Deficit Reduction 

Sweden began the early 1980s in the midst of fiscal and economic crisis. 

Sweden’s public sector had grown throughout the 1970s to account for 

about two-thirds of the economy in 1982, the largest proportion among 

developed economies at that time. However, the increase in expenditures 

throughout the late 1970s was not matched by an increase in revenues, and 

large budget deficits developed, peaking at about 7 percent of GDP in 1982. 

Government debt also grew rapidly during the late 1970s and early 1980s, 

reaching its peak of about 67 percent of GDP in 1984. By the early 1980s, 
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Sweden was experiencing slow growth, high inflation, and rising 

unemployment.

Against this backdrop, a newly elected Social Democratic government 

came to power in 1982 and enacted a comprehensive economic 

stabilization program in an attempt to address concerns over economic 

underperformance and persistent budget deficits. The first step in the 

stabilization program was a devaluation of the currency to make Swedish 

exports more cost competitive and boost economic growth by increasing 

exports. Secondly, the government attempted to reduce the budget deficit 

by reducing expenditures gradually as the economy recovered. The 

economy did pick up beginning in 1982, but the deficit initially worsened as 

the devaluation increased the interest costs of the government because a 

large portion of its debt was denominated in foreign currencies.9

 Also, the 

government initially increased spending in an attempt to limit the negative 

economic effects of the devaluation and to fulfill campaign promises. 

Finally in 1983, the government proposed a deficit reduction program 

containing both spending cuts and tax increases. 

Over the next 3 years, the government continued to focus fiscal policy on 

reducing the size of public expenditure and debt. From 1982 to 1986, the 

general government financial deficit was reduced from 7 percent of GDP to 

about 1 percent of GDP, primarily due to spending restraint and aided by an 

improving economy. For example, interest payments were reduced in 1985 

due to a depreciation in the U.S. dollar−nearly one half of Swedish public 

debt at that time was denominated in U.S. dollars. 

9

Interest payments on foreign denominated debt must be made in that currency. 

Consequently, a devaluation in the Swedish krona made these payments more expensive.
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The government’s economic stabilization package led to a rapidly 

improving economy, which also contributed to improving budget figures. 

For example, the 1982 currency devaluation increased the price 

competitiveness of Swedish exports and led to a temporary increase in 

exports. Also, the government’s deregulation of the credit markets made 

credit more readily available to consumers and businesses. As a result, 

consumers increased their borrowing leading to increased growth as 

borrowed money was used for consumption and investment spending, 

especially in real estate.10 The growing economy, coupled with the cuts in 

spending, greatly improved Sweden’s fiscal position, and it achieved a 

budget surplus in 1987 and in the next 3 years.

1987 Through 1990: A Period 

of Surpluses

Sweden achieved budget surpluses for 4 years beginning in 1987 largely as 

a result of the booming economy and deficit reduction efforts. During this 

period, Sweden did not have an explicit policy for sustaining surpluses, as 

fiscal policy was focused on maintaining full employment and controlling 

inflation. Under such a regime, fiscal policy would be tightened−i.e., taxes 

raised or spending cut−during periods of inflationary growth.

However, during the surplus period, the government’s fiscal policy varied 

from year to year as a lack of political consensus halted most attempts to 

tighten fiscal policy. With the arrival of surpluses in 1987, the government 

continued with its attempts to tighten fiscal policy, and in 1988 the 

government’s fiscal policy was broadly neutral. In an attempt to tighten 

fiscal policy in its fiscal year 1989-90 budget, the government proposed an 

increase of 2 percent in the value-added tax (VAT). However, the minority 

government was unable to develop enough support for its passage. Instead, 

Parliament passed a temporary compulsory savings scheme as part of a 

more limited attempt to tighten fiscal policy. By 1990, the economy was 

beginning to weaken, and in 1991 the budget went back into deficit where it 

remained for 7 years. 

1991 Through 1998: A New 

Focus for Fiscal Policy

In the early 1990s, Sweden experienced its worst recession since the 1930s. 

In 1991, the government enacted a tax reform package that lowered 

marginal rates and eliminated certain deductions, including the consumer 

10Interest on consumer loans was tax deductible in Sweden at the time. With high marginal 

tax rates and a high rate of inflation, many borrowers were able to borrow at a negative real 

interest rate.
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interest deduction. As a result, consumer spending slowed dramatically as 

the cost of borrowing became more expensive despite the income tax cuts. 

Also, a loss of confidence in the Swedish currency led to downward 

pressure on its value, which the government initially tried to defend. The 

central bank raised overnight interest rates to over 500 percent, a record 

high for any country at that time. However, the high interest rates further 

slowed the economy, and consumer confidence declined as the efforts to 

defend the currency were unsuccessful. GDP growth turned negative from 

1991 through 1993 and unemployment jumped from 2 percent in 1990 to 

7.5 percent in 1993. These economic events had a significant impact on the 

fiscal policy of the 1990s and reinforced the need to maintain fiscal 

discipline.

During the initial stages of the economic crisis, the government focused its 

fiscal policy on reviving the economy by increasing spending and 

addressing specific crises such as the near failure of several large banks. 

Because monetary policy was focused on defending the currency, interest 

rates were raised significantly, acting to slow the economy and working 

against the government’s attempts to stimulate the economy through fiscal 

policy. The economic slowdown and large jump in unemployment had a 

severe impact on the budget, mostly due to the large size of the government 

as a share of the economy. Sweden has a generous social welfare system 

and spending increases rapidly when the economy slows. During the early 

1990s, outlays increased rapidly, from about 59 percent of GDP in 1990 to 

over 70 percent in 1993. Also, tax receipts fell from over 63 percent of GDP 

in 1990 to about 59 percent in 1993 due primarily to lower than expected 

receipts from the 1991 tax reform and a change in the composition of GDP 

toward areas with lower tax rates.11 As a result of increasing expenditures 

and falling revenues, Sweden’s budget deficit peaked at over 12 percent of 

GDP in 1993. Debt also increased during this period with gross debt nearly 

doubling from 1990 to 1994, where it peaked at over 80 percent of GDP. 

(See figure 35 for Sweden’s debt level from 1981 to 1998.)

By 1993, the focus of fiscal policy had changed from stimulating the 

economy and maintaining full employment to bringing the budget back 

under control by lowering deficits and stabilizing debt. In April of 1993, the 

government announced a deficit reduction package which amounted to 

about 5 percent of GDP and included reductions in subsidies for medical 

11Tax receipts also dropped for technical reasons. For example, employers’ social security 

contributions for sickness benefits were reduced.
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and dental care, indexation of certain taxes, and increased contribution 

rates for the unemployment benefit system.

Figure 35: General Government Gross Financial Liabilities in Sweden, 1981 to 1998

Note: Number for 1998 is an estimate. 

Sources: OECD Economic Outlook 63, June 1998 and OECD Economic Outlook 65, June 1999.

With a stagnant economy and a deteriorating fiscal position, a real sense of 

crisis permeated the 1994 elections. Nearly all political parties put forth 

plans to bring deficits under control and revive the economy. This was a 

major change in focus from past elections where parties generally focused 

on proposing new initiatives that would lead to spending increases. The 

Social Democrats were returned to power after 3 years out of office and 
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immediately began to implement a deficit reduction program. Their stated 

fiscal policy was to balance the budget by 1998 and to stabilize debt as a 

percentage of GDP. To accomplish this goal, the government presented a 

series of deficit reduction packages, with expenditure reductions 

accounting for about 60 percent of the improvement and revenue increases 

accounting for the other 40 percent. These measures were projected to 

total about 7.5 percent of GDP by 1998.

New Budget Process 

Designed to Control 

Spending

To support its deficit reduction effort, the new government overhauled the 

budget process. Under the new process, the government established a 

top-down approach whereby it set aggregate spending levels before any 

programmatic initiatives were proposed. Under the new process, 

Parliament enacted an aggregate expenditure ceiling and ceilings for 

27 spending categories for the current budget year and the next 2 years. 

The expenditure ceilings were set on a rolling basis, with a new ceiling set 

for the third year only. Sweden’s expenditure ceilings are noteworthy 

because they cover entitlement programs, such as social security.12 

Several experts we spoke with felt the new budget process was a critical 

factor in Sweden’s fiscal improvement. The multi-year expenditure limits 

have been particularly important because they make it difficult to increase 

spending if the budget improves more than forecast. This is especially 

important as Sweden enters a new period of budget surpluses. 

Government Sets Goal for 

Surpluses to Reduce Debt 

and Maintain Investor 

Confidence

The government has surpassed its fiscal goals due in large part to a 

stronger than expected economy. In 1996, when it became apparent that 

Sweden would achieve balance sooner than expected, the government 

established a new fiscal policy goal to run surpluses after 1998. In 1997, the 

government defined its long-term goal as running surpluses of 2 percent of 

GDP, on average, over the business cycle−surpluses would gradually 

increase after 1999, reaching 2 percent of GDP in 2001. The government’s 

primary reason for wanting to run surpluses was to reduce the debt level 

which shot up dramatically in the early 1990s. Also, the government wishes 

12If the expenditure ceiling for an entitlement program is exceeded in any year, it will not 

necessarily result in benefits being cut off. Rather, the spending ceiling for entitlement 

programs, in effect, acts as an early warning system. The government closely monitors 

spending in these areas throughout the year, and when cost overruns become apparent, a 

decision must be made to find extra funds from other categories, cut benefits, or raise the 

ceiling. 
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to maintain investor confidence in its fiscal and economic policies. By 

running surpluses, the government hopes to increase its future fiscal 

flexibility should another crisis materialize. The economic and fiscal crisis 

of the early 1990s has continued to significantly affect policymakers, 

resulting in a general consensus on the need for continued surpluses. 

Nonetheless, there has been some disagreement over how big surpluses 

should be and how extra surpluses should be used. Several political parties 

have called for smaller surpluses and have proposed using them for tax 

cuts or spending increases. 

The budget process reforms enacted to support deficit reduction efforts 

have continued to play an important role in shaping fiscal policy decisions 

as Sweden has entered a period of surplus. The government established 

expenditure ceilings for 1998 that would enable it to achieve the goal of a 

surplus of 2 percent of GDP by 2001. However, due to continued strong 

economic growth, and other technical factors, they have achieved their 

surpluses sooner.13 As larger than expected surpluses have developed, the 

government has reiterated its commitment to the previously enacted 

expenditure ceilings. At the same time it has been able to increase spending 

somewhat because of the way the expenditure ceilings work. Under 

Sweden’s new budget process, all open-ended appropriations−mostly to 

entitlement programs−were abolished, making all expenditures subject to 

annual reviews. To provide a buffer against forecasting errors in these 

programs, the government built a “budget margin” into the expenditure 

limits. Thus, to the extent economic and budget forecasts turn out to be 

accurate or better than expected, the government can increase spending up 

to the amounts allowed under the expenditure ceilings.14 Since the 

expenditure ceilings have been in place, the economy has outperformed 

the forecasts, freeing up additional room for spending. 

More recently, the government has proposed spending cuts to remain 

beneath the expenditure ceiling. In April 1999, the government proposed 

spending cuts for savings of about 7.7 billion kronor in 1999 and nearly 

9 billion kronor in 2000.

13For example, in 1998, the government incorporated the National Pension Fund’s real estate 

holdings, which resulted in an upward adjustment of the financial balance due to 

government accounting rules.

14If budget or economic forecasts turn out to be overly optimistic, then the government 

would presumably be forced to take action to stay within expenditure limits by cutting 

spending. There is some additional flexibility to borrow against future year expenditures.
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By remaining committed to the expenditure ceilings, the current debate 

over surpluses has been limited to debt reduction and/or tax cuts. The 

fiscal year 2000 budget projects that surpluses will exceed 2 percent of 

GDP in the year 2000, 1 year prior to the original plan. As a result, the 

government has proposed tax cuts as part of its fiscal year 2000 budget. 

Specifically, the government has proposed income tax cuts worth about 

10 billion kronor in fiscal year 2000 as well as reductions in some property 

taxes. 

Sweden Has Acted to 

Address Long-term 

Fiscal Pressures

Like many other western economies, Sweden faces fiscal pressures 

associated with an aging population. However, Sweden has taken steps to 

address some of these pressures by redesigning the state pension system 

from a pay-as-you-go defined benefit system, to a partially funded, defined 

contribution system.15 Further, the new system is designed to allow for 

changes in longevity and economic performance by adjusting benefits 

accordingly−making it essentially a self-sustaining system. Sweden also 

provides comprehensive health coverage for its citizens, but the impact of 

an aging population is unclear. 

Sweden’s pension reform occurred in large part due to perceptions that the 

system was unsustainable in the long run and was forecast to run out of 

money early next century. Debates about Sweden’s pension system have 

traditionally been separate from budget debates because the system has 

been “off-budget.” This has been the case even though the pension system 

has run annual surpluses since its inception. These funds have been 

invested in several bond and stock funds and as a result have not been 

available to offset other government spending.

Conclusion Over the past two decades, Sweden has experienced two periods of budget 

surpluses, coinciding with its two periods of strong economic growth. 

During its first period of surplus, Sweden had no clear policy related to 

sustaining the surplus. Attempts were made to tighten fiscal policy during 

this period, but political consensus was difficult to reach. 

15Sweden also provides a basic pension, available to all eligible citizens regardless of 

earnings, financed out of general revenues.
Page 181 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Sweden experienced a severe economic downturn in the early 1990s and as 

a result has implemented a number of economic, fiscal, and institutional 

reforms. Sweden enacted a large deficit reduction program, changed the 

role of the central bank and monetary policy, redesigned its budget 

process, and reformed its pension system. As a result of these changes, and 

an improving economy, the budget has moved back into surplus, debt has 

been reduced, and the government has established a goal for surpluses 

equal to 2 percent of GDP.
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The United Kingdom experienced a 4-year period of budget surpluses from 

fiscal years 1987-88 through 1990-91.1

 The government’s fiscal strategy 

never called for running surpluses, and the arrival of surpluses was 

unexpected. Once surpluses materialized, the government planned to 

gradually bring the budget back into balance. In accordance with this 

policy of phasing out surpluses and given the economic forecasts at the 

time, the government cut taxes substantially and increased spending. These 

forecasts proved to be overly optimistic and, in the early 1990s, the 

economy slipped into recession. This combination of tax cuts, additional 

spending, and slower growth led to a deterioration in the United Kingdom’s 

fiscal position. Deficits reemerged in fiscal year 1991-92 and grew rapidly 

over the next 2 years, hitting a peak of over 7 percent of GDP in fiscal year 

1993-94. Consistent with the goal of a balanced budget, the Conservative 

government adopted major tax and spending measures to reduce the 

deficit. The combination of these policies−which have been continued 

under the current Labor government−with a strong economy has brought 

the United Kingdom’s budget back into a small surplus position in fiscal 

year 1998-99. (See figure 36.)

1

Unless otherwise noted, the term surpluses/deficits refers to the Public Sector Net Cash 

Requirement (PSNCR), formerly known as the Public Sector Borrowing Requirement 

(PSBR). The United Kingdom’s fiscal year runs from April 1 to March 31.
Page 183 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 36: Surpluses/Deficits in the United Kingdom, 1980-81 to 1998-99

Note: The surplus/deficit measure is the Public Sector Net Cash Requirement (PSNCR).

Source: The United Kingdom Treasury Department.

The Labor government that took office in 1997 developed a new framework 

for fiscal policy intended to prevent a return to the kind of severe “boom 

and bust” fiscal cycle that occurred in the late 1980s and early 1990s. The 

government enacted a statute requiring a Code for Fiscal Stability, which 

sets out the framework for developing fiscal strategy. As required by the 

Code, the current government has stated that its fiscal policy will be guided 

by two rules: (1) the “golden rule,” under which borrowing will not be used 

to finance current spending (i.e., total spending excluding investment); and 

(2) the “sustainable investment rule,” which promises to keep net public 

debt as a share of GDP at a “stable and prudent” level. Both rules are to be 
Page 184 GAO/AIMD-00-23 Budget Surpluses in Other Nations

applied over the economic cycle, allowing for fiscal fluctuations based on 

current economic conditions. Under these rules, the government’s fiscal 

policy allows for deficits to be used to finance investment spending, 

provided that the debt burden is maintained at a sustainable level.

Background The United Kingdom is a unitary state composed of England, Scotland, 

Wales, and Northern Ireland. The United Kingdom has two main levels of 

government: the central government and local authorities. The central 

government is the dominant fiscal decision-maker with direct or indirect 

control over most government revenue and spending, while local 

authorities are primarily responsible for service delivery in education, 

housing, and social services.2

The government is a parliamentary system, with a Parliament composed of 

two chambers−the House of Lords and the House of Commons. The House 

of Lords (approximately 1,300 members) has limited powers in the 

legislative process and virtually no power on budget matters. The House of 

Commons (659 members) is elected and is responsible for the passage of 

legislation and scrutiny of public administration. The government is headed 

by a Prime Minister, who is the leader of the majority party in the House of 

Commons, and an appointed Cabinet of about 20 members, who are also 

Members of Parliament.

A general election is held at least once every 5 years. Two parties have long 

dominated British politics: the Labor Party and the Conservative Party. The 

current Labor government, headed by Prime Minister Tony Blair, was 

elected in 1997. Labor has a large legislative majority with 415 seats to the 

Conservatives’ 162 seats.3

 Prior to Labor’s electoral victory in 1997, the 

Conservatives had held power since 1979. The Conservative governments 

were led by Prime Minister Margaret Thatcher from 1979 to 1990 and Prime 

Minister John Major from 1990 to 1997.

2

The Government is in the process of devolving power to Scotland, Wales, and Northern 

Ireland. Powers were officially transferred to the Scottish Parliament and the National 

Assembly for Wales on July 1, 1999. The Northern Ireland Assembly met for the first time on 

July 1, 1998, but the United Kingdom Parliament has not yet transferred power to the 

Assembly.

3

The number of seats is as of April 1, 1999.
Page 185 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The United Kingdom’s 

Economy

The United Kingdom’s economy is less than 16 percent of the size of the 

United States’ economy. The United Kingdom is more dependent on trade 

than the United States, with exports accounting for over 22 percent of GDP 

in 1996−compared to about 8.5 percent for the United States.

Recent Economic History Over the past two decades, the United Kingdom has experienced periods of 

both deep recession and robust growth. After recovering from a major 

recession between 1979 and 1981, the economy grew at an annual average 

rate of more than 3 percent in real terms for nearly a decade. Growth was 

especially robust in the late 1980s. However, inflation, which had fallen 

significantly from double-digit levels in the early 1980s, began to show 

signs of rising. During 1988 and 1989, the government responded to the 

growing inflationary pressure by imposing a series of interest rate hikes. In 

1990, the economy went into a recession that lasted until 1992. The 

economy began to recover in the second half of 1992 and has continued to 

expand since then. (See figure 37.)
Page 186 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 37: GDP Growth in the United Kingdom, 1980 to 1998

Source: The United Kingdom Office of National Statistics.

The economy often has a powerful impact on a government’s finances. For 

example, recessions typically reduce a government’s tax revenues while 

increasing spending on programs like unemployment insurance. During the 

past two decades, changes in the United Kingdom’s fiscal position have 

closely followed the economic cycle. Deficits gave way to surpluses during 

the 1980s expansion. Then, with the onset of the recession in the early 

1990s, deficits reemerged before steadily declining in tandem with the 

sustained economic growth of the mid- to late 1990s.

Controlling inflation has been the chief goal of monetary policy over the 

past two decades. Until 1997, monetary policy was under the control of the 
Page 187 GAO/AIMD-00-23 Budget Surpluses in Other Nations

government. When the Labor Party assumed power in 1997, it delegated the 

power to set interest rates to the Bank of England−the United Kingdom’s 

central bank. Under this system, the Government sets an inflation target 

that the Bank has to achieve and the Bank’s Monetary Policy Committee 

decides how to meet the target. 

The Budget Process The governing political party effectively controls the entire budget process. 

Spending and tax decisions are made primarily within the Treasury.

Under the previous Conservative government, the Treasury controlled 

budget resources by setting targets for total spending and establishing cash 

limits for specific programs. The broad spending target, known as the 

Control Total, covered about 85 percent of the budget. It excluded interest, 

privatization proceeds, and the portion of social security directly affected 

by the economic cycle (e.g., spending for unemployment compensation). 

Within the Control Total, specific cash limits were set for individual 

programs. Spending plans were made for a 3-year period but were reviewed 

annually. A reserve fund controlled by the Treasury was included in the 

spending total and departments were allowed to request funds from the 

reserve to cover program spending in excess of the cash limits.

The current Labor government has modified the budget planning process. 

Under the new system, spending is split into two categories with separate 

control mechanisms. Each category covers about 50 percent of total 

spending. The first category is subject to Departmental Expenditure Limits 

(DELs), which are set for 3 years and, unlike in the previous process, will 

generally not be reviewed annually. The second category of spending is 

referred to as Annually-Managed Expenditure (AME) and covers spending 

that is more difficult to control. Its largest components are social security 

benefits, interest, and local government expenditure. Spending covered by 

AME will be subject to annual review and considered as part of total 

spending for purposes of meeting the government’s fiscal goals. The budget 

still has an annual reserve, but it is significantly smaller than in the past. 

This reserve is intended more for emergency spending than as a source of 

supplemental funds for agencies. 

Another process change under the Labor government is the greater 

emphasis given to distinguishing between current and capital spending. For 

spending that is subject to DELs, there are separate current and capital 

limits. The government also plans to adopt a form of accrual budgeting, 

called Resource Accounting and Budgeting (RAB), that the previous 
Page 188 GAO/AIMD-00-23 Budget Surpluses in Other Nations

government originally proposed in the mid-1990s. RAB is being adopted to 

improve the measurement of the costs of government activities and to 

clarify the distinction between current and capital spending.

Measuring Fiscal Position Prior to 1998, the main measure of the surplus/deficit was the public sector 

net cash requirement (PSNCR), referred to at the time as the public sector 

borrowing requirement (PSBR). The PSNCR includes receipts and 

expenditures at all levels of government, including privatization proceeds, 

and is similar to the United States’ unified budget. Privatization proceeds 

provided an additional source of revenue during the 1980s and part of the 

1990s. The Conservative governments often presented their fiscal 

projections with and without privatization proceeds. 

Under the Labor government, the Treasury has switched to public sector 

net borrowing (PSNB) as the main overall budget measure.4

 PSNB differs 

from the PSNCR by excluding privatization proceeds and other financial 

transactions.5

 While these measures have varied substantially in the past, 

Treasury projects that they will be very similar over the next several years, 

with differences ranging from 0.1 to 0.4 percent of GDP. The PSNB measure 

is a comprehensive measure of revenue and spending. It includes, for 

example, local government and capital spending budgets. In 1998, the 

government changed its budget measurement to conform to the 1995 

European System of Accounts in order to facilitate comparisons with other 

European Union countries. The effect of this change was to slightly raise 

projected PSNB over the 5-year forecast period.

In addition to the PSNB measure, the Treasury also emphasizes the 

“current” surplus/deficit and the public sector net debt to GDP ratio, which 

are used to assess performance against the golden rule and the sustainable 

investment rule respectively.6

 PSNB is equal to the current surplus/deficit 

minus net investment spending.7

 The public sector net debt to GDP ratio is 

4

Although it is given less emphasis, the PSNCR is still reported. 

5

Other financial transactions include loans made by the public sector and accruals 

adjustments, which reflect the precise timing of payments. 

6

The net debt measure is net of certain liquid assets.

7

Net investment excludes depreciation and asset sales.
Page 189 GAO/AIMD-00-23 Budget Surpluses in Other Nations

used to monitor the government’s progress at keeping the debt burden 

under control. 

Fiscal History of the 

United Kingdom, 1980s 

and 1990s

The United Kingdom experienced persistent budget deficits from the mid1970s to the mid-1980s. Beginning in 1979 when a new government came to 

power, deficit reduction efforts combined with several years of strong 

economic growth led to a 4-year period of surpluses beginning in fiscal year 

1987-88. The government’s fiscal policy during its surplus period was a 

gradual return to balance. A recession beginning in 1990 led to a return to 

budget deficits, which grew quickly, peaking at 7 percent of GDP in fiscal 

year 1993-94. The government responded with renewed efforts to reduce 

budget deficits. A new government came to power in 1997 and continued 

the previous government’s deficit reduction efforts, leading to a small 

surplus in fiscal year 1998-99. This government has put in place a new 

framework to guide fiscal decision-making. Under this framework, the 

government has set as its fiscal policy to increase investment spending 

without increasing the debt burden. 

Deficit Reduction Efforts 

Plus Strong Economic 

Growth Led to Budget 

Surpluses in the Late 1980s 

and Early 1990s

From the mid-1970s to the mid-1980s, the United Kingdom experienced a 

period of persistent budget deficits. When Margaret Thatcher’s 

Conservative government came to power in 1979, it emphasized a 

commitment to lower deficits, spending restraint, and a reduced tax 

burden. After substantial deficit reduction efforts and several years of solid 

economic growth, the United Kingdom reached surplus in fiscal year 

1987-88.
Page 190 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The success of deficit reduction was due primarily to spending restraint, 

although increased revenue also contributed. (See figure 38.) During the 

decade, annual real growth in total spending averaged 1.3 percent−a 

significant drop from the average 1970s level of 3.3 percent. Program 

spending was cut in the areas of transportation, trade and industry, and 

housing. Investment spending was scaled back significantly, as was the 

public sector workforce. The government also reduced its current and 

future pension expenditures by changing the indexing of the basic benefit 

from wages to prices and cutting future benefits in the earnings-related 

pension program. While revenue declined as a share of GDP during the 

1980s, increased revenue from tax changes, economic growth, 

privatizations, and oil revenue all contributed to the success of deficit 

reduction.8

8

For further details on the United Kingdom’s deficit reduction efforts, see Deficit Reduction: 

Experiences of Other Nations (GAO/AIMD-95-30, December 13, 1994), pp. 191-215.
Page 191 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 38: Receipts and Expenditures in the United Kingdom, 1980-81 to 1995-96

Source: United Kingdom Treasury Department.
Page 192 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The economy was growing rapidly when the budget entered surplus−over 

4 percent per year from 1986 through 1988. According to recent estimates, 

this growth caused the United Kingdom’s economy to exceed the level of 

output estimated to be consistent with stable inflation. The United 

Kingdom was experiencing an economic boom. Wages and salaries were 

growing rapidly, housing prices were soaring, and personal savings were 

declining. These factors helped drive substantial growth in consumption. 

Imports also increased at a fast pace, propelling the trade balance into 

deficit.9

Government Aimed to 

Gradually Phase Out Budget 

Surpluses

When the first surplus materialized, the government adjusted its fiscal 

strategy from a focus on deficit reduction to attempting to gradually phase 

out surpluses. For example, in the 1988-89 budget, the first budget prepared 

during the surplus period, the government adopted a goal of balancing the 

budget over the medium term, which meant phasing out the surplus. The 

government explained its goal as follows: “[A balanced budget] is a prudent 

and cautious level and can be maintained over the medium term. It also 

provides a clear and simple rule, with a good historical pedigree.”

The fiscal year 1988-89 budget projected that after a small surplus in 1988-

89, the medium-term goal of balance would be reached in the following 

year and maintained over the rest of the forecast horizon.10 However, the 

1988-89 surplus turned out to be much larger than expected, and in the 

fiscal year 1989-90 budget the government anticipated a more gradual 

elimination of surpluses over several years. However, as the economy 

slowed and slipped into recession, the surplus decreased more rapidly than 

expected. Beginning with the 1989-90 budget, the Treasury’s estimates were 

consistently too optimistic. (See figure 39.) By fiscal year 1990-91, the 

budget had returned to approximate balance, and deficits reemerged the 

following year.

9

The trade balance is a measure of the difference between a nation’s exports and imports.

10During the late 1980s, the forecast period was 4 years--the budget year plus 3 years. In the 

fiscal year 1992-93 budget, the Conservative government extended its forecast period to 

5 years--the budget year plus 4 years. The Labor government uses this same forecast period.
Page 193 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 39: Projected Surpluses/Deficits and Actual Results in the United Kingdom, 1986-87 to 1993-94

Note: Surplus/deficit measure is the public sector net cash requirement.

Source: United Kingdom Treasury Department.

Because of the government’s policy to return to balance, the political 

debate during the surplus period focused not on whether to run surpluses 

but on how to use extra resources for new policy initiatives. The opposition 

Labor Party favored more spending on health and social services. However, 

the government chose to cut taxes significantly while also allowing for 

some increased spending. The government’s spending increases were 

allocated for priority areas such as health, law and order, defense, 

education, roads, and the disabled. In general, however, spending was 

decreasing as a percent of GDP−from about 41 percent in fiscal year 

1987-88 to about 39 percent in 1990-91. These policy changes in the late 

1980s supported the government’s goal of phasing out budget surpluses, 

but they also contributed to the large deficits that unexpectedly emerged in 

the early 1990s. The following is a year-by-year summary of the major 

budget actions during the United Kingdom’s surplus era. 
Page 194 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Fiscal Year 1988-89 Budget Tax-cutting was an important priority for Prime Minister Thatcher’s 

government, and it continued to dominate the fiscal agenda during the 

surplus period of the late 1980s. The fiscal year 1988-89 budget introduced 

tax cuts with a first-year impact of about £4 billion, around 1 percent of 

GDP.11 The tax cut package mainly consisted of reductions in personal 

income taxes with a cut in the lowest marginal rate from 27 percent to 

25 percent and in the top rates to a maximum of 40 percent. 

The budget clearly spelled out the expected impact of tax cuts on the 

government’s fiscal position. The budget estimated that the surplus would 

be about £7 billion for fiscal year 1988-89 without the tax cuts and about 

£3 billion in 1988-89 with them. The government explained the remaining 

surplus by saying it could have chosen to cut taxes by a larger amount, but 

that because of its gradualist approach to fiscal policy, “only part of [the] 

room for tax reductions has been used.”12 

On the spending side of the budget, the government’s main goal throughout 

the 1980s and 1990s was to reduce total spending as a share of GDP. Since 

the early 1980s, spending as a share of GDP had fallen substantially and the 

1988-89 budget supported a continuation of this trend, referring to 

continued spending restraint as “a vital element of the government’s 

economic strategy.” Real (inflation-adjusted) spending−excluding 

privatization proceeds−was projected to grow by less than 1 percent per 

year from fiscal years 1986-87 through 1990-91.13 At the same time, the 

budget provided some increased spending for priority services such as 

health, law and order, defense, education, and capital investment. These 

increases could be made while meeting the government’s objective of 

reducing spending as a share of GDP in part because, as GDP expanded 

rapidly, reduced interest payments on the debt helped restrain spending 

growth. 

11The data on tax changes presented in this appendix are measured against an indexed tax 

base. The tax system in the United Kingdom is automatically indexed for inflation each year 

unless Parliament decides differently.

12Financial Statement and Budget Report 1988-89, HM Treasury (United Kingdom), p. 11.

13Privatization proceeds are treated as negative spending; therefore, these proceeds reduce 

total spending.
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Fiscal Year 1989-90 Budget The fiscal year 1989-90 budget was prepared during what, in retrospect, 

turned out to be the high water mark of the surplus period. The 1988-89 

surplus came in at about 3 percent of GDP−compared to a projected 

borrowing requirement of 1 percent of GDP. This surprising fiscal 

performance can be explained by 3 main factors: (1) a strong economy that 

resulted in rapid revenue growth and lower spending for income support 

programs, (2) higher-than-expected inflation, which also boosted 

revenues,14 and (3) a high volume of privatization proceeds. This favorable 

position suggested to policymakers that surpluses were more persistent 

than earlier anticipated, and they budgeted accordingly. While the overall 

goal of phasing out the surplus and balancing the budget remained the 

same, the 1989-90 budget projected a surplus of similar size to the previous 

year−about 3 percent of GDP−with smaller surpluses through the 1992-93 

fiscal year.

Budget plans for the 1989-90 fiscal year were consistent with the 

government’s goals of cutting taxes and reducing spending as a share of 

GDP. The main tax changes were cuts in National Insurance Contributions 

and, for that year, non-indexation of most excise taxes.15 The total tax 

package was estimated to cost about £2 billion in the first year, about 

0.5 percentage points of GDP. Spending plans again called for restraint, 

with the budget projecting a continuing decline in spending as a percentage 

of the economy.

Fiscal Year 1990-91 Budget The actual fiscal year 1989-90 surplus was only 1.4 percent of GDP−roughly 

half as large as anticipated. While the economy had already begun to slow 

in 1989, this was not a major driver of the smaller surplus since revenue 

collections, particularly for corporate taxes, are subject to a time lag. 

Rather, the shrinking surplus stemmed from lower privatization proceeds, 

higher capital spending by local authorities, and a greater number of people 

switching to private pensions than expected, which reduced National 

Insurance Contributions.16

14Even in indexed tax systems, higher inflation produces more tax revenue because it 

increases the size of taxable incomes.

15The National Insurance Contribution is a payroll tax that covers a variety of social 

programs, including public pensions.

16Under the government’s 1986 pension reform, workers who switch from the public pension 

system to a private plan receive a rebate of part of their National Insurance Contribution. 
Page 196 GAO/AIMD-00-23 Budget Surpluses in Other Nations

The fiscal year 1990-91 surplus was projected to be about 1.3 percent of 

GDP, approximately the same size as the fiscal year 1989-90 surplus. 

Compared to the prior two budgets, tax initiatives were relatively modest 

and were projected to result in a net increase in revenues. Spending was 

expected to grow at the same rate as the economy, with additional 

resources for priority areas such as health, transportation, the disabled, 

and lower income families. For fiscal year 1991-92, a smaller surplus was 

projected followed by balanced budgets in the last 2 years of the forecast 

horizon. However, with the slower growth of 1989 turning into a recession 

in 1990, the actual result for fiscal year 1990-91 was a small surplus, 

marking the end of the surplus period. 

The United Kingdom’s period of surpluses substantially reduced the 

nation’s debt both in nominal terms and as a share of GDP. Over the 3 years 

from fiscal years 1986-87 through 1989-90, the debt declined from 

£172 billion to £150 billion, and the debt to GDP ratio dropped from over 

40 percent to less than 30 percent. Along with the declining debt burden, 

the government’s interest expenditures as a share of total spending fell 

from 11 percent to 9 percent.

Large Deficits Appear in 

Early 1990s

By the time the fiscal year 1991-92 budget was released, the economy was 

clearly in recession, and it was apparent that deficits were back on the 

horizon. The government retained its goal of a balanced budget over the 

medium term, but now it estimated that this goal would not be reached 

again until fiscal year 1994-95, the last year of the projection period. Actual 

deficits over the next several years were much higher than the Treasury’s 

estimates, peaking at more than 7 percent of GDP in fiscal year 1993-94, 

and the budget did not return to balance until near the end of the decade. In 

the 1993-94 budget, the government acknowledged the worsening situation 

by projecting that it would not reach a balanced budget within the forecast 

period.
Page 197 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Policy decisions interacted with the recession to fuel rising deficits. A 

Treasury analysis of spending from fiscal year 1988-89 to 1992-93 found that 

policy initiatives were a significant factor in explaining a substantial 

increase in real program spending over the period. For example, the 

1991-92 budget contained cuts in corporate taxes and the 1992-93 budget 

cut the basic rate of income tax on a portion of taxable income. On the 

spending side, the 1991-92 budget increased the child benefit, which had 

been frozen for 4 years, and reestablished a policy of indexing the benefit 

to inflation. The fiscal year 1992-93 budget provided increased spending for 

health care and transportation. A number of officials and experts that we 

interviewed attributed the loosening in fiscal policy in 1991 and early 1992 

at least in part to the upcoming general election.17 A statistical analysis 

conducted by a British think tank on spending during the period is 

consistent with this interpretation.

Economic Estimates Presented a 

Misleading Picture of Fiscal 

Strength

To explain the deteriorating situation in the early 1990s, it is useful to start 

with the perceptions of fiscal strength in the late 1980s. The surpluses of 

the late 1980s provided a misleading picture of the United Kingdom’s fiscal 

condition. With the benefit of hindsight, fiscal analysts and policymakers 

with whom we spoke in the United Kingdom generally agree that the 

budget surpluses were largely due to the strength of the economy during 

what turned out to be the peak period of the business cycle. The Treasury 

now estimates that when the United Kingdom realized a surplus of 

3 percent of GDP in fiscal year 1988-89−its largest of the period−the 

structural budget was only modestly in surplus. (See figure 40.)

17The Conservative government under Prime Minister John Major was reelected in April 

1992.
Page 198 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Figure 40: Actual and Structural Surpluses/Deficits in the United Kingdom, 1986-87 to 1998-99

Note: Surplus/deficit measure is the public sector net cash requirement.

Source: The United Kingdom Treasury Department.

While the Treasury did produce structural budget estimates in the late 

1980s, these estimates were not a major focus of fiscal policy 

decision-making. Officials told us that policymakers did not really 

distinguish between cyclical and structural results; instead, they tended to 

believe that “a surplus is a surplus.” However, even if structural estimates 

had been taken more seriously, they might not have helped much because 

the estimates made at that time were off the mark. The Treasury, along with 

some independent analysts at the time, underestimated the extent to which 
Page 199 GAO/AIMD-00-23 Budget Surpluses in Other Nations

the economy was growing above its trend level. So, according to the 

projections of the time, it was believed that the United Kingdom’s economy 

could continue growing steadily without generating an increase in inflation. 

This forecasting error was a major reason why, beginning in the late 1980s, 

the Treasury’s budget forecasts proved overly optimistic. For example, the 

Treasury’s estimates of real economic growth were consistently too high 

during the late 1980s and early 1990s. (See figure 41.)

Figure 41: Projections of Real GDP Compared to Actual Results in the United Kingdom, 1988 to 1994

Source: The United Kingdom Treasury Department.

Policy Choices Contributed to 

Renewed Deficits

In general, policymakers overestimated the strength of the government’s 

finances. The Conservative government assumed that the surpluses in the 

late 1980s largely reflected a structural improvement driven by sustainable 

economic growth. This assumption may have contributed to the decision to 

enact significant tax cuts. With hindsight, analysts contend that this 

decision turned out to be an inappropriate loosening of fiscal policy. 
Page 200 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Treasury now estimates that the fiscal year 1988-89 budget with its 

substantial tax cuts contributed to a significant increase in the structural 

deficit. 

In the early 1990s, increased spending also contributed to a rising 

structural deficit. In an analysis conducted at that time, the Treasury 

concluded that, from fiscal years 1988-89 through 1992-93, spending growth 

rose substantially for most programs. Total program spending grew at an 

annual average rate of 3.8 percent during this period compared to less than 

1 percent for the previous 6 years. The analysis concluded that policy 

choices contributed to this growth over and above the impact of the 

recession. For example, average real growth in health spending of 

4.3 percent during this period reflected policymakers’ response to rising 

public demand for services. In addition, the government increased 

transportation spending by nearly 10 percent per year in real terms, partly 

to alleviate road congestion and finance other major investment projects. 

The Economy’s Impact on Fiscal 

Position

While policy decisions clearly contributed to the growing deficits, the 

recession was also a major factor. Estimates of its impact vary. Data from a 

recent Treasury analysis suggest that the economic cycle was responsible 

for a little more than 50 percent of the deterioration, with policy choices 

accounting for the rest. Two earlier studies by other analysts reached 

similar conclusions. However, in its 1994 survey of the United Kingdom, the 

Organization for Economic Cooperation and Development (OECD) 

estimated that the economy was responsible for about two-thirds of the 

weakening in the fiscal position.

Privatization Proceeds Also 

Affected Fiscal Position 

Privatization proceeds also had a noticeable effect on the United Kingdom’s 

fiscal position during the late 1980s and early 1990s. Revenue from 

privatization (which was counted in the budget as negative spending) 

peaked as a share of the economy in fiscal year 1988-89 at about 

1.5 percent, dipped in fiscal years 1989-90 and 1990-91, rose substantially in 

fiscal year 1991-92 and then began to decline. Given this path, privatization 

proceeds did contribute significantly to the period of surpluses but were 

only a minor factor in explaining the rising deficits of the early to mid1990s. Although the government recognized the one-time nature of 

privatization by showing its expenditure projections with and without 

privatization proceeds, its fiscal target of a balanced budget included such 

proceeds. 
Page 201 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Deficit Reduction in the 

Mid- to Late 1990s

The government responded to the rising deficits of the early 1990s by 

increasing taxes and restraining spending growth. This policy of fiscal 

restraint was continued by the Labor government elected in April 1997. 

These efforts have succeeded−the deficit has fallen in every fiscal year 

since 1993-94–and the budget is now approximately in balance. During this 

period, revenue as a share of GDP rose by over 3 percentage points while 

spending declined by over 4 percentage points.18 An OECD analysis 

concluded that the United Kingdom’s fiscal progress between 1993 and 

1997 is “among the most impressive” of the OECD’s member countries.19

The major deficit reduction efforts began with the fiscal year 1993-94 and 

1994-95 budgets. Both budgets included significant revenue raising actions, 

including a freeze on income tax allowances, increased excise taxes, and 

restrictions on mortgage interest relief. These actions are estimated to have 

raised revenues by more than 2 percent of GDP. Since taking power in 1997, 

the current government has also raised taxes. 

Along with tax increases, the budgets of the mid-1990s contained 

substantial spending restraint. Major reductions initiated in these budgets 

included a freeze on departmental operating costs (including salaries) and 

cutbacks in defense and housing programs. Capital investment and health 

care have also been subject to significant spending restraint. While 

continuing this policy of keeping total spending in check, the Labor 

government has pledged to significantly increase spending on capital 

investment and health care. 

The Current Government’s 

Fiscal Policy Is Based on 

Lessons From Past 

Experiences

The current government has developed a new framework for fiscal policy 

that reflects “lessons learned” from the United Kingdom’s past 

experiences.20 The fiscal strategy emphasizes a greater focus on the 

structural budget, a more explicit distinction between current and capital 

spending, and firm multi-year spending ceilings that will not be subject to 

annual review. The Labor government has also stressed transparency and 

18These changes are based on data that exclude financial transactions.

19OECD Economic Surveys: United Kingdom, 1998, p. 49.

20The new monetary policy framework is also an important part of the Labor government’s 

overall economic strategy. Giving control of interest rates to the Bank of England is 

expected to improve the prospects for keeping inflation in check and preventing sudden and 

rapid adjustments in interest rates.
Page 202 GAO/AIMD-00-23 Budget Surpluses in Other Nations

openness so that the public can easily evaluate the government’s goals and 

its progress in meeting them. During the 1997 election, Labor emphasized 

its commitment to a prudent fiscal policy by adopting the Conservatives’ 

spending targets for the first 2 years of the new Parliament and pledging 

not to raise either the basic or top income tax rate throughout the full 

Parliamentary term. However, the Labor government does not currently 

call for surpluses as part of its fiscal policy.

Labor’s Code for Fiscal Stability Labor has established a statutory basis for its fiscal policy approach with a 

new law requiring the government to issue a Code for Fiscal Stability. The 

law’s purpose is to make fiscal decision-making more transparent and 

enhance accountability by requiring the government to present a fiscal 

strategy and meet certain reporting requirements. The statute itself is very 

general, allowing the incumbent government wide discretion in developing 

a specific fiscal strategy. The statute lays out 5 principles to guide fiscal 

policy: transparency, stability, responsibility, fairness, and efficiency. The 

statute also requires the issuance of several reports with details of the 

government’s fiscal plans.

The current Labor government’s fiscal strategy is guided by two rules: 

(1) the “golden rule,” under which borrowing will not be used to finance 

current spending (i.e., total spending excluding investment); and (2) the 

“sustainable investment rule,” which promises to keep net public debt as a 

share of GDP at a “stable and prudent” level. Both rules are to be applied 

over the economic cycle, allowing for fiscal fluctuations based on current 

economic conditions.

The golden rule is intended to ensure control of public finances while 

allowing for deficit financing of capital investment, net of depreciation and 

asset sales. The government defines investment as “physical investment 

and grants in support of capital spending by the private sector.”21

Investment spending was significantly restrained under the Conservative 

government’s deficit reduction efforts, and several people that we 

interviewed agree that investment needs to be increased. The Labor 

government has made boosting public investment a major priority, 

proposing to nearly double it as a share of the economy−to 1.5 percent of 

GDP−over the course of the current Parliament. A Treasury official told us 

21Fiscal Policy: current and capital spending, HM Treasury (United Kingdom), 1998, p. 7, 

footnote 2.
Page 203 GAO/AIMD-00-23 Budget Surpluses in Other Nations

that this increase has been viewed as roughly the amount needed to cover 

the underfunding of capital over the past several years. 

While investment spending is a priority, the sustainable investment rule is 

intended to ensure that financing such spending does not result in an 

imprudent rise in debt. According to a Treasury official, the government’s 

debt to GDP target of less than 40 percent was chosen based on analysis 

showing that a net debt to GDP ratio of around 40 percent is sustainable in 

the long term. The government has indicated that, other things being equal, 

it is desirable to reduce public sector net debt to below 40 percent.

Taking both fiscal rules into account, the Labor government’s overall fiscal 

policy allows for running small budget deficits. In its fiscal year 1999-2000 

budget, the Treasury estimated that the United Kingdom would register a 

small surplus for public sector borrowing in fiscal year 1998-99, and it 

projected small deficits for the next 5 years.

To help meet its fiscal objectives, the Labor government has completed a 

comprehensive assessment of existing programs with plans to conduct 

similar reviews every 3 years. This review process is designed to align 

existing programs with the government’s priorities and generate ways to 

improve efficiency. Results of the first review were published in the 

summer of 1998. Based on the results, the government has targeted real 

growth in current spending at 2.25 percent per year over the remainder of 

Parliament’s term; the review also called for net investment to double as a 

share of GDP. Within the spending total, the government has set 3-year 

ceilings for each department with separate ceilings for capital and current 

spending.22

The current government’s fiscal policies have been popular but not without 

controversy. For example, Conservative Party officials we met with 

worried that under the golden rule it would be easy for the government to 

redefine capital spending in order to meet the rule. In addition, they believe 

that allowing for borrowing for capital investment is not always prudent 

because the financial return on government investments is questionable. 

The Conservative Party officials also said the current government ought to 

aim to repay or reduce the debt as a percentage of GDP. The officials then 

22As noted earlier, the 3-year limits apply to about half of total spending. The other half of 

spending is reviewed annually.
Page 204 GAO/AIMD-00-23 Budget Surpluses in Other Nations

added that the Conservatives’ objective would be to balance the budget 

over the cycle and bring down the debt as a percentage of GDP.

Incorporating the Economic 

Cycle Into Fiscal Planning

A sharper focus on the economic cycle is a general feature of the Labor 

government’s policy that explicitly reflects the lessons learned from the 

past. A recent Treasury report explains the importance of taking the cycle 

into account. 

“Experience has shown that serious mistakes can occur if purely cyclical improvements in 

the public finances are treated as if they represented structural improvements, or if a 

structural deterioration is thought to be merely a cyclical effect. The Government therefore 

pays particular attention to cyclically-adjusted indicators of the public sector accounts.”23

Incorporating the effects of the economic cycle into policy planning 

requires an estimate of several key variables, including the actual and trend 

levels of GDP and the trend rate of GDP growth. Trend growth is an 

estimate of the maximum rate at which an economy can grow over the long 

term without causing inflationary pressure. Actual and trend growth 

estimates are used to prepare an estimate of the structural budget 

deficit/surplus, i.e., the underlying condition of the budget adjusting for the 

effects of the economic cycle. In the past, the Treasury did prepare 

estimates of the structural budget position, but it did not publish this 

information. As part of the Labor government’s commitment to greater 

openness, the Treasury now publishes structural estimates. The Treasury 

cautions that while all economic and budget projections are subject to 

large errors, estimates of the structural position are even more tenuous. 

The government states that it uses a cautious assumption for trend 

economic growth of 2.25 percent in its budget formulation. To obtain an 

independent review, the government asked the National Audit Office 

(NAO) to evaluate the trend growth assumption.24 The NAO concluded that 

the Treasury’s assumption for trend growth was reasonable. For an 

additional degree of caution in its structural estimates, the Treasury also 

presents a more pessimistic projection. This projection assumes that the 

economy is further above trend output than in the main estimate, meaning 

23Stability and Investment for the Long Term: The Economic and Fiscal Strategy Report 

1998, HM Treasury (United Kingdom), June 1998, p. 45.

24The government also asked the NAO to review several other assumptions, including the 

unemployment rate and the proportion of national income generated by capital and labor.
Page 205 GAO/AIMD-00-23 Budget Surpluses in Other Nations

that future growth will likely be lower as the economy returns to the 

underlying trend. 

The United Kingdom’s 

Long-term Outlook

The population of the United Kingdom is aging, although at a slower rate 

than other major industrial countries. Due to the post-World War II baby 

boom and increases in life expectancy, the ratio of workers to retirees in 

the United Kingdom is projected to drop from over 3 to closer to 2 between 

1998 and 2040. While several analysts that we interviewed expressed some 

concern about population aging, they were fairly sanguine about its likely 

impact on the government’s fiscal situation, especially when compared to 

the outlook for other nations. While one factor in the United Kingdom’s 

comparatively better outlook is slower population aging, another important 

reason is the major pension reforms enacted over the past two decades. 

These reforms have significantly reduced the government’s future 

commitments. 

While pension spending appears to be under control, population aging is 

expected to increase pressure on health care spending in the future. 

According to a Treasury analysis, demographic factors could add about 

0.7 percentage points to the annual growth rate of public health spending, 

which accounted for about 5.7 percent of GDP in 1997, over the next three 

decades. However, analysts we interviewed from the United Kingdom’s 

National Health Service told us that they consider population aging to be a 

less significant source of future cost pressure than improved technology 

and public expectations.

The current Labor government has acknowledged the need to use a 

long-term fiscal outlook to evaluate the sustainability of future policy and 

consider intergenerational equity. Specifically, the Code for Fiscal Stability 

requires the government to publish budget projections for a period of at 

least 10 years. In the March 1999 budget, the Treasury published 30-year 

projections that show that current policy is sustainable under their main 

assumptions. It is important to note, however, that the government has 

recently announced several policies−such as welfare, pension, and labor 

market reforms−to help ensure the sustainability of public finances in the 

long term. In addition to its own long-term analysis, the Treasury is 

supporting research on generational accounts that is being conducted by 

the independent National Institute of Social and Economic Research.
Page 206 GAO/AIMD-00-23 Budget Surpluses in Other Nations

Conclusion The United Kingdom experienced a period of budget surpluses in the late 

1980s and early 1990s that was largely the product of a booming economy. 

Upon achieving surplus, the United Kingdom’s fiscal strategy was to return 

to a balanced budget over the medium term. Influenced by overly 

optimistic budget projections, the Conservative government in power at 

that time chose to cut taxes substantially and increase spending as part of a 

strategy of phasing out budget surpluses. As the British economy slipped 

into recession in the early 1990s, the fiscal situation deteriorated rapidly 

and large deficits emerged. These deficits resulted from both the recession 

and policy choices made during the period. With the benefit of hindsight, 

the current Labor government focuses more on the budget’s structural 

position to adjust for the impact of the economic cycle. The Treasury now 

publishes estimates of the budget’s structural position and includes a 

pessimistic projection along with its baseline forecast to help convey a 

sense of the risks involved if budget forecasts prove overly optimistic. The 

United Kingdom achieved a small budget surplus in fiscal year 1998-99 due 

to deficit reduction efforts and a strong economy. The government’s main 

fiscal policy is to maintain its net debt to GDP ratio at a “stable and 

prudent” level, allowing for some borrowing to finance capital investments.
Page 207 GAO/AIMD-00-23 Budget Surpluses in Other Nations

GAO Contacts Thomas M. James, (202) 512-2996

Bryon Gordon, (202) 512-9207

Acknowledgments In addition to those named above, Andrew Eschtruth, Mindy Frankfurter, 

Richard Krashevski, and Tuyet Quan Thai made key contributions to this 

report.

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