Contingent Liabilities: Issues and Practice; Aliona Cebotari; imf working Paper 08/245; October 1, 2008

Contingency Reserve Funds 
Contingency reserve funds have also been used secure financing when contingent 
liabilities are called. These funds serve as self-insurance against calls on various contingent 
liabilities, including guarantees, natural disasters, unemployment, and commodity price 
swings (Table 1 provides selected examples of such funds). 
• Contingency funds for loan guarantees are usually financed by guarantee fees paid either 
by the beneficiaries of the guarantees or by the public entities sponsoring the guarantees, 
through their budgets (Chile, Colombia, Sweden, U.S.).
• Contingency funds for various insurance schemes provided by the state are usually set as 
insurance corporations and are funded by premia paid by the participants. For example, 
pension guarantee funds have been created in a number of countries in order to protect 
workers from their employers’ failure to honor pension obligations. In the United States, 
concern about the exposure of workers with underfunded defined-benefit pensions led to 
the creation of a government-run and supported guarantee fund in 1974 managed by the 
Pension Benefit Guaranty Corporation (PBGC). Such pension guarantee funds also exist 
in the Canadian province of Ontario (created in 1980), as well as in Sweden (1960), 
Finland (1962, partly privatized in 1994), Germany (1974), Chile (1981), Switzerland 
(1985) and Japan (1989) (Cooper and Ross, 2003).
• In cases where contingency funds aim to provide self-insurance against natural disaster, 
unemployment, or commodity price movements, these are often financed by transfers 
from the budget or earmarked taxes.
• Contingency funds are also set up to meet general budget contingencies, including 
potentially contingent liabilities. Several countries transfer budget contingency reserves 
(discussed above) into general contingency funds, to be used for expenditures that do not 
have approval of the legislature, in anticipation of such approval becoming available. The 
creation of such funds is often authorized in the constitution (Brunei Darussalam, India, 
Japan, Kenya) or in legislation (U.K. Contingency Fund Act 1974). The purposes and 
procedures for which contingency funds may be used are usually spelt out in the law. The 

---

28
funds are generally managed by the ministries of finance (Japan) or by the President 
(India). Advances from the funds are made on request from line ministries, which need to 
provide a justification for their request, and need to be approved by the Cabinet. After 
using the general contingency fund, ministries generally need to report to the ministry of 
finance on how the money was used, and the government in turn needs to prepare a 
comprehensive report on their use for parliament, which gives an ex post authorization 
for the expenditures. Whereas in some countries (Japan) the amount in the contingency 
fund is not specified in the law and the executive determines its size (with approval of the 
legislature), in other countries the size of contingency funds or reserves is specified. For 
example, the U.K. Contingency Fund Act of 1974, which authorizes the making of urgent 
expenditures not yet voted by Parliament, caps such spending at 2 percent of the previous 
year’s expenditures (Lienert and Jung, 2004). In the United States, where all but five 
states set up “rainy day” funds to meet unexpected expenditures or revenue shortfalls, 
most states cap these funds at 2–10 percent of the state’s budget, although a number of 
states have no limit at all.
42