Monday, 18 April 2016

Why Reduction in Taxes is Not a Good Idea for Greece at the Moment

There is a growing number of politicians and academics in Greece, who argue that the solution to the country’s economic problems is a mixture of policies, which entail a reduction in taxes and government spending at the same time. Indeed, if we examine these two policy options separately, or apply them in another context, it would make sense. Reducing taxes would aim to stimulate consumption and investment, which could boost economic growth. A reduction in government spending would save money, improving the country’s public finances. However, in the case of Greece, there are several counter-arguments to these claims, which concern the efficiency of this combination.

Even if the Greek government decided to reduce taxes, it is highly unlikely that the demand for consumption and investment would increase. At least, it would be not enough to stimulate consumption. Prices are still high in Greece, mainly due to low market competition. Many firms exercise monopoly power and oligopolies are established in a number of industries. Moreover, taking into account that wages have been cut significantly the last 5 years, even if taxes were lower, the demand for consumption would remain weak.

Regarding investments, there are other factors other than the level of taxes, which discourage potential investors. One of them is the ongoing political uncertainty, which will continue to be the case in the coming months, maybe years. Another factor is the complexity of the tax system and the administrative burden. Also, One should not ignore global factors, which also play a key role, such as the volatility in the stock markets and the weak growth in Europe and other developed countries. Those two have affected investor’s appetite for investments. Finally, Greek banks still have to address a number of issues such as the high level of non-performing loans (34.4% of total loans), which have an impact on the provision of credit to the real economy has not recovered yet.

In the case of Greece, a further decrease in public spending might offset a significant part of a potential cut in taxes. Since 2010, most of the cuts in public spending concerned wages and pensions and it appears that the government’s plans for 2016 and 2017 are similar. Thus, even if taxes were cut, it is most likely that consumption would not be stimulated. Not withstanding the abovementioned, public investment has been also reduced. On the contrary, little has been done to rationalize public spending. This would entail closing down public enterprises, agencies and organizations, which do not offer public services any more, other than being a place where affiliates of political parties can be hired. Last but not least, rationalization would mean reallocation of resources for many government agencies and a stricter control of expenditure.

Greece needs a simpler and fairer tax system, where some taxpayers would not be able to take advantage of its loopholes. Greece should also begin reforming the country’s independent authorities. Authorities such as the Competition Commission should be given more power and independency with a goal to reduce the possibility of being captured by corporate and political interests. According to the OECD and various researchers, stronger and more efficient regulation is also a must. Finally, the authority in charge of auditing the public sector, the General Inspector of Public Administration, should be transformed from a one-man agency to an independent agency with the required technical capacity and expertise such as the UK National Audit Office.

The figures do not look good. Government debt is expected to increase further in 2016 as the economy is still in recession (-0.7%) and it will stand at around 180% in 2017, which means that high growth rates and a high annual surplus are required to bring back government debt to healthy levels within 20 years. Despite recent improvements in unemployment, it still stands at extremely high levels, at around 25%. With low consumption and investment, it seems quite unlikely that this number could fall below 10% in the next decade. Government’s budget deficit has been reduced significantly the last 5 years, but there are still growing risks. The refugee crisis is expected to increase government spending, if EU funds are not absorbed. Possible delays in the implementation of structural reforms will not improve or will even worsen Greece’s public finances.

Panagiotis Asimakopoulos, Economist, Public Policy Analyst

OECD, Greece: Competition Assessment Project, 2014
European Commission, European Economic Forecast, Winter 2016
World Bank Database, 2016

1 comment:

Unknown said...

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