THE FEDERAL GOVERNMENT'S FISCAL DILEMMA
A long and dark budgetary winter has begun. As the economic crisis opens up gaping public deficits, public debt has resumed its upward trend and could soon break through the 100% of GDP barrier.
Countries can cope with high public debt, but only if their monetary credibility and saving capacity are good enough. Faced with a sluggish economy for about twenty years, Japan's repeated stimulus plans pushed public debt to 225% of GDP in 2010.
Nevertheless, unless one assumes public borrowing can remain at excessive levels indefinitely, debt must eventually be reined in, if not repaid. The situation is even starker considering that public debt consists of two elements, existing debt and future debt, the latter of which has yet to be accounted for. In Belgium, this future debt mainly represents the cost of ageing, estimated by the IMF at an annual rate of 6% of GDP on the 2050 horizon. The IMF has also warned Belgium that the fiscal shock of ageing will be greater than that of the banking crisis.
So, how is public debt repaid? Most economists have forecast a surge of inflation a few years down the road. In my opinion, moderate monetary erosion will probably end up shaving off chunks of debtors' debts (including state debt) and savers' assets. Currencies are the counterpart of public debt for accounting purposes, which means debt depreciation results in the dilution of a currency's value through inflation. The latter is especially necessary because implementing austerity plans during periods of low growth is absurd and a temporary increase in debt is preferable to ill-timed cuts.
Nevertheless, at least initially, our economies are ill-suited to inflation for several political and sociological reasons (an ageing population, overcapacity, productivity gains, a lack of imported inflation, possible recessions, etc.). Without inflation, taxes will have to be used to put public finances back in order.
Now, the question is: how long should this fiscal effort last, and according to which strategy? It is an extremely complex issue. A premature tax hike would negate the effects of any stimulus plan, which would be based precisely on the Keynesian stimulus of demand. In other words, it would be counterproductive to stimulate consumption and investment while raising taxes at the same time, as fiscal austerity would stifle the economy.
On the other hand, spreading the tax burden over too many years would be unfair. Future generations could rightly dispute the inheritance of old debt. Moreover, deferring the debt would soon become useless due to an ageing population. Future generations will be proportionally smaller and less able to pay for a rising number of inactive people.
In our opinion, it is therefore difficult to spread the tax burden over more than two generations. These fiscal realities will need to be anticipated over the next twenty to thirty years.
With this in mind, how can we devise a budgetary strategy which can both plug existing deficits and hedge against the cost of ageing? Will political powers have the necessary discipline to build up long-term reserves (which they have been unable to do so far) in order to do so? Will our governments have enough margin of manoeuvre to cut spending instead of succumbing to the temptation of tax hikes? None of these questions has been answered yet. The actual outcome will likely be a mixed bag of taxes and fiscal stimulus measures.
On the other hand, there is no doubt that our country needs to start by appraising the fiscal burden on the economy. Taxes and incidental taxes on labour are already too high. Even if it flies in the face of contemporary thinking, it may be necessary to slash professional and corporate taxes, especially considering our economy's openness and the fact that it has little geographical protection. Therefore, it needs to be fiscally competitive and attractive, which it is not when it comes to labour. We can envisage positive feedback effects arising from labour tax cuts.
An ageing population will limit the taxation of earned income while raising the question of taxing deferred income, whether from personal savings or from fiscal transfers (pensions, etc.). Will some focus on raising taxes on capital, i.e. on income from movable and immovable assets? This cannot be ruled out, although it is not in the least desirable in order to avoid falling in the same pitfalls as in the 1980s. It needs to be a carefully thought out ideological decision. Higher taxes on income from assets would result in double taxation, which would tremendously hurt savings, which have already been eroded by the stock market crises and battered by the weakness of the banking sector.
The ageing of the taxpayer base should instead lead to the development of fiscal incentives for individual precautionary savings (purchases of real estate or pension-savings). This process would also be related to the gradual (yet, for budgetary reasons, unavoidable) breakdown of the deferred income redistribution system in favour of a capitalisation system.
From the same perspective, a sideways move of the fiscal burden to tax consumption (i.e. a flow) instead of savings cannot be ruled out, as broad-based taxes cause less distortion and are collected more effectively. Along this line, the concept of social VAT could be developed to fund part of social charges through an increase in VAT.
In short, defining a new approach to taxation is a pressing issue. The budgetary situation makes tax hikes likely, but our government faces a dilemma: the crisis makes it necessary to stimulate consumption, whereas state debt makes it imperative to stimulate savings. Yet money saved cannot be spent, and vice-versa. The crisis will make taxes redistributive, whereas it should turn them into an incentivising tool. The next few years will be decisive, as the CSF has stigmatised the failure of the strategy to hedge against ageing. Fiscal policy will shape our fiscal landscape for the next generation, with the caveat that the errors of the 1980s will be unforgiving this time round.
