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

A. Frameworks for Dealing with Risks from Contingent Liabilities 
Decisions to enter into contingent liabilities should follow a well-established process, 
ideally incorporated within a broader framework that guides their justification and 
puts in place safeguards against associated risks. The objective is to ensure that decision-
makers understand the nature of the risks associated with the contingent liabilities, provide 
guidance on when contingent liabilities are an acceptable or preferable form of support, and 
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For example, the fiscal cost of the banking crisis was about 21 percent of GDP in the Dominican Republic 
(2003), 31 percent of GDP in Turkey (2001), 23–52 percent during the East Asian crisis of 1997–98 (Korea, 
Thailand, Indonesia), and 55 percent in Argentina (1980). Note that these are estimates of the net fiscal costs 
that reflect recoveries.
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Standard & Poor’s, “ Sovereign Risk Indicators,” July 18, 2008. Implicit liabilities associated with the 
financial sector are estimated on the basis of a systematic assessment of the potential for a systemic crisis and 
the cost of a financial system bailout in case of such crises. For a detailed discussion see Standard & Poor’s, 
“Sovereign Credit Ratings: A Primer,” October 19, 2006 or “S&P's Banking Industry Country Risk 
Assessments: Global Annual Roundup,” August 9, 2007. 

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require a proper record of all decisions to take on contingent liabilities for accountability 
purposes.
Some countries have put in place frameworks to ensure early and comprehensive 
attention to risks associated with contingent liabilities. Australia, for example, developed 
guidelines on when the government should enter into arrangements involving the issuance of 
guarantees and other contingent liabilities.
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The guidelines require, in particular, that the 
government not enter into these arrangements unless there is an explicitly identified risk; the 
expected benefits objectively outweigh the level and cost of the risks; there is a demonstrable 
need for the government to accept such risks; alternative options for managing these risks 
have been fully explored (including the provision of commercial insurance); agencies have 
assessed the specific risks to be covered; potential losses have been rigorously investigated 
and identified; the state is adequately protected; the price of the risk being borne by the 
government has been factored into the value-for-money consideration of the proposal; and 
appropriate risk management arrangements are in place. Canada has also introduced a set of 
principles to regulate the risks incurred by the government when it issues loans or loan 
guarantees. These principles require that: the sponsoring department demonstrate that the 
project cannot be financed on reasonable terms and conditions without a government loan or 
guarantee; the cash flow be adequate to cover repayment of debt, interest and operating cost, 
as well as yield a satisfactory rate of return; and where the government is requested to bear 
significant downside risks, considerations be given on the upside should the project prove to 
be successful (Schick, 2002; Currie, 2002). In the European Union, the European 
Commission has developed a framework for state aid (including guarantees) that only allows 
the provision of guarantees to a limited set of activities in order not to impair competition. 
The state aid rules determine where the money can be spent, how much can be given to an 
individual project, and exactly what the money can be spent on.