UNCTAD Virtual Institute for Trade and Development
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Sovereign Asset and Liability Management: An E-Learning Training Course
II. Rationale
III. The Conceptual Balance Sheet
IV. Contingent Liabilities



Contingent Liabilities

Contingent explicit liabilities are legal obligations of the government to make a payment if a particular event occurs.

Contingent implicit liabilities are not contractual or legal obligations of the government but obligations the government may allocate resources for in order to advance policy objectives, mitigate social pressures, and/or a perceived “moral” obligation to act.

Contingent Liabilities

Explicit Liabilities

  • Guarantees for borrowing and for obligations of subnational governments and public or private entities
  • Umbrella guarantees for various loans (mortgage loans, student loans, agriculture loans, small business loans)
  • Guarantees for trade and exchange rate risks
  • Guarantees for private investments
  • State insurance schemes (deposit insurance, crop insurance, flood insurance)
  • Public private partnership arrangements



Implicit Liabilities

  • Defaults of subnational governments and public or private entities on nonguaranteed debt and other obligations
  • Bank failures (support beyond state insurance)
  • Failures of nonguaranteed pension funds or other social security funds
  • Default of central bank on its obligations (foreign exchange contracts, currency defense)
  • Environmental recovery, disaster relief, military financing

Source: The World Bank Poverty Reduction and Economic Management Notes, 1998




“Contingent liabilities represent some of the greatest fiscal risks to sovereigns, yet they can be completely unaccounted for or not reasonably estimated.  Budgets regularly use cash accounting, which is one of the causes of substantial growth of contingent liabilities in some countries as they appear to be a cheaper source of financing when compared with subsidies or direct loans” (Currie and Velandia, 2002).  Financing mechanisms that fail to disclose the potential costs of initiatives and projects upfront often only result in greater financial outlays for a sovereign when contingencies come due.  Contingent liabilities often pose some of the greatest fiscal risks to sovereigns due to their costs. Some of the most costly include:

      • Banking crises
      • Natural disasters
      • State-owned enterprises bailouts
      • Subnational government bailouts
      • Legal claims
      • Guarantees
      • Public-private partnerships

The reason for the cost of these contingent liabilities is often the result of the nature of the contingent liabilities themselves.  For example, in banking crises the central government might be required or expected by the public to intervene to the absolute extent necessary to restore the financial sector.  This expectation leads the central government use whatever resources are necessary to stabilize the situation which can damage even economically sound nations.  “South Korea and Thailand had relatively sustainable fiscal policies prior to the [1997-98] Asian crisis.  However, the long-term bailout cost of their financial sectors amounted to an estimated 30-40 percent of output in both countries.  This was financed by public borrowing.  This large increase in debt deteriorated the countries’ fiscal accounts.  Governments in both countries were forced to increase taxes and cut social spending to free resources to pay the debt” (Valderrama, 2005).

There is also the tendency for sovereigns to overlook contingent liabilities if it is perceived there is not a reasonable manner in which to determine the probability and cost of these events.  Natural disasters are often viewed as completely random events that cannot be reasonably estimated.  While this may be true in many instances, some natural disasters are often recurring in particular regions. “For example, hydrological data for the city of Corrientes [Argentina] reveal that flooding takes place in two of every three years…of the major 11 floods in Argentina since 1957, three of them have caused damage in excess of $1billion” (Kreimer, 2002).