Veteran economist calls on Labour to ditch “foolish” income tax cuts

The European Commission could have been convinced not to start the Excessive Deficit Procedure against Malta if new Finance Minister Edward Scicluna had presented a "mini budget," contends veteran economist Karmenu Farrugia.

The mini budget should have spelt out clearly how the government intends to reduce the deficit from the 3.3% at the end of 2012 to 2.7% by the end of the year as projected in the budget approved in April.

In his first budget, Scicluna retained the measures contemplated by his predecessor Tonio Fenech in December last year but revised the deficit target from 2.2% to 2.7%.

But Farrugia insists that retaining the framework of this budget is not wise.

One measure which should be reconsidered is the reduction of the highest tax rate from 35% to 32% in the next year and to 25% in the next three years, for those earning less than €60,000 should be scrapped.

"I simply do not agree that we have reached a state where we could reduce the top rate of income tax... while there is a strong case for widening the bands, it is clear that current circumstances do not permit a reduction of revenue."

Moreover, the reduction of the top rate of income tax is not conducive to economic growth, because this will not result in a substantial increase in spending.

"Simply any increased revenue from taxing increased spending will not make up for the loss of revenue."

He notes that while an increase in the minimum wage will contribute to growth as these low income earners are likely to spend all or most of their income, high income earners are more likely to save than spend their increase in income.

"The decision to cut the top rate of income tax is a political issue and has no positive economic bearing... Nobody is not investing in Malta because of the top 35% income tax rate."

Describing the tax cut as "foolish" in the present circumstances, he insists that such a reduction in taxes can only be contemplated after the budget is balanced or more so if Malta has a favourable balance.

Farrugia argues that had the government taken over in October it might have made sense to carry on the budget of the previous government for a couple of months, but it does not make sense in the present circumstances to carry on the budget made by another Minister for another year.

He also points out that circumstances have changed drastically because the previous government had ended 2012 with a deficit of 3.3% instead of the projected 2.3%. 

Contributing to this increase in the country's deficit were a number of collective agreements with civil servants. The changed circumstances strengthened the case for a mini budget, contends the veteran economist.

"This is like a Minister accepting to drive someone else's boat for nearly a whole year. It is also a question of pride for Edward Scicluna."

Farrugia is confident that Scicluna, whom he praises for his competence, would have made a very convincing case in Europe had he presented a mini budget. "The fact that the commission has started the excessive deficit procedure means that Scicluna failed to convince the commission otherwise," Farrugia says.

He also presents the argument for a mini budget as one of accountability.

"The citizen has a right to know how the government plans to decrease a deficit of 3.3% to 2.7% by next December."

He describes the decision of the EU to commence the Excessive Deficit Procedure on Malta as a "big slap on the face" and something which cannot be taken lightly "as it will mean having EU officials checking our every move".

Farrugia also questions the legacy of the previous government.

"It is impressive how PN governments were not able to reach their own targets."

According to Farrugia, Edward Scicluna's choice is limited between increasing revenue through new taxes, which is unlikely for political reasons or decreasing expenditure. Postponing capital expenditure projects could be one option, but Farrugia warns that this would have a negative impact on growth due since big projects have a multiplier effect on growth. 

This leaves the government no choice but to cut its recurrent expenditure.

"It is obvious that the previous government used to over spend... but would a decrease in recurrent expenditure suffice to bring down the deficit from 3.3% to 2.7%? This is why a mini budget was necessary to explain how this can be done."