IDB Promotes Fiscal Sustainability of Subnational Governments in Perú

The Inter-American Development Bank (IDB) has approved a $35 million loan to boost the fiscal sustainability of Peru's subnational governments.

The Program for the Improvement of Subnational Public Finance Management for Fiscal Sustainability, which has been approved by the IDB's Board of Executive Directors, will help the Peruvian government coordinate- through its Ministry of Economy and Finance-better fiscal management at the regional and municipal levels. The program focuses on two main obstacles: low self-sourced revenue and high indebtedness among many subnational governments.

Most self-sourced municipal revenue comes from property taxes. However, data from the IDB and the Economic Commission for Latin America and the Caribbean (ECLAC) shows that in Peru, revenue from this source is low compared to the rest of the region and to OECD countries. In 2022, property tax accounted for 28% of Peruvian municipalities' self-sourced revenue. It amounts to 0.26% of the country's GDP, well below the average of 0.4% of GDP for Latin America and the Caribbean and barely one-fifth of the average for OECD countries. One key reason why property tax revenues are so low is the lack of a cadaster for tax purposes where municipal governments can see all properties subject to property tax, as well as their market value.

Regarding the second obstacle, subnational debt is distributed in a highly uneven way across subnational governments. For example, a mere 3% of municipalities hold 51% of total debt. In addition, flawed record-keeping means subnational governments often underreport the true size of their debt. This is especially true with regards to public-sector creditors (social security and tax debts). This weak debt management at many subnational governments, which is linked to a lack of transparency and poor management of obligations, compromises their fiscal sustainability and keeps them from accessing financing for infrastructure.

"When municipal governments collect more self-sourced revenue and local and regional governments manage their debt better, they will be able to provide better public services, to the benefit of the general public. Subnational governments will also benefit from the program's training and technical assistance on incorporating climate change and gender and diversity criteria into their management, which will advance these cross-cutting priorities from the local level," said Axel Radics, a specialist at the IDB's Fiscal Management Division.

The program has three components. The first will help expand local governments' property tax base by financing the development and implementation of a fiscal cadaster system, an initiative that will include a nationwide digital platform.

The second component will improve how local and regional governments manage subnational debt. It will prioritize the most indebted subnational governments, providing technical assistance to help them keep better records of obligations and supporting debt management strategies for restructuring existing liabilities.

The third component will focus on improving the institutional capacity of the General Directorate of Macroeconomic Policy and Fiscal Decentralization, as the agency that coordinates improvements in subnational fiscal management.

This $35 million loan to Peru has a 15-year repayment term, a seven-year grace period, and an interest rate based on the Secured Overnight Financing Rate (SOFR).