What it means
Chile earns a large share of its export income from copper, and the price of copper can swing sharply from year to year. When prices are high, the government collects extra revenue, and when they are low, revenue drops.
A stabilisation fund exists to stop spending from rising and falling with every price swing. The fund was set up under the country's fiscal responsibility rules, building on an earlier copper stabilisation fund.
Surpluses are paid in when the government's budget is in surplus, and the money can be withdrawn to cover deficits or to pay down public debt. The fund is overseen by the finance ministry, and a central bank typically acts as its manager.
Investment of the money is conservative, because the purpose is to keep the funds available rather than to chase high returns. Holdings are generally in highly rated bonds and money market instruments, with a part in other assets over time.
The policy is published, and the fund reports its results regularly. For businesses and investors, the existence of a stabilisation fund is a signal about a country's fiscal strength.
A government with a savings cushion is less likely to cut spending or raise taxes sharply in a downturn, and lenders may view the country as a safer borrower. Credit rating agencies take such buffers into account.
Because the letters can mean other things in different contexts, readers should always check the source. The glossary entry here concerns the Chilean sovereign fund, and other organisations may use the same abbreviation for entirely different purposes.
If a document does not define the term, ask the author what is intended.
In practice
Real-world examples.
Example
A government collects $2,000,000,000 more tax than planned in a year when its main export commodity price is high. It places part of the surplus into its stabilisation fund. The money is held for use when prices fall.
Example
During a global downturn, export income drops sharply. The government withdraws funds from its stabilisation fund to cover a budget deficit. It avoids having to borrow at high interest rates or cut public services.
Example
A credit analyst at a bank compares two commodity-exporting countries. One has a stabilisation fund holding savings equal to several months of spending, and the other has none. The analyst rates the first as a lower credit risk.
Case study
Seen in the real world.
Valdoria is an illustrative, fictional country that earns most of its export income from a single metal. When the metal price doubled, its government spent the extra revenue on new programmes, and when the price later collapsed, it had to borrow heavily and cut spending. Its economy was strong but exposed to the global price of a single product.
A new finance minister set up a stabilisation fund, with a rule that revenue above a long-run price assumption would be saved. In the first six years, the fund built up $5,000,000,000 in assets. Parliament approved clear rules so that future governments could not easily spend the savings.
In this illustrative story, a price collapse followed, and the fund covered a $1,500,000,000 deficit without new borrowing or sudden cuts. The government said that the fund had cost nothing in the good years, because the money would only have been spent unwisely, and it proved its value in the bad years. Public debt stayed stable, and the country's borrowing costs did not rise.
Watch out
Common mistakes.
- Assuming ESSF always refers to the same thing, when abbreviations can mean different things in different documents. The sentence around the term usually shows which meaning is intended, but it is safest to ask.
- Treating a stabilisation fund as a source of unlimited money, when its balance can be used up if deficits last long. A fund that is drawn down quickly can be empty just when it is needed most.
- Confusing it with a development or pension fund, when its main role is to smooth government finances during economic swings. Other state funds are set up to build wealth for future generations or to pay pensions.
Questions
People also ask.
What is a sovereign wealth fund?
It is a state-owned investment fund that holds and invests a country's savings, often funded by commodity revenue or budget surpluses. Examples exist in many countries, and they vary widely in size and purpose.
Why do commodity exporters need stabilisation funds?
Their revenues move with commodity prices, and a fund helps keep spending steady through the cycle. Without one, governments tend to overspend in booms and cut deeply in busts.
How is the money invested?
Typically in conservative assets such as high-quality bonds and money market instruments, so that it is available when needed. Governments publish investment policies so that the public can see how the money is used.
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