You Can`t Handle the Truth

26^th October 2007
The Malta Independent - Friday Wisdom

This is what Jack Nicholson told Tom Cruise in the movie A few good men when Kaffee (Cruise) was interrogating Colonel Jessep (Nicholson) in a court marshal trial of two marines who obeyed orders to administer a code red (unofficial punishment) on a colleague who was not capable of physically performing up to the expectations of the colonel.

It is this quotation that sprung to my mind as I continued to dissect the budget for 2008. It feels that this government is telling us, the governed electorate, that we cannot handle the truth and that we have to be fed a few good lies and half truths in order not to get hurt by being tempted to elect Labour in government come next elections.

Let me start with the COLA increase of Lm1.50 which is Lm1 more than what should have been paid under the tri-partite COLA mechanism in operation since 1990. Would this have happened if this was not an election budget? And perhaps more importantly how sensible it is to continue with this out-dated system of legally enforced across the board COLA increases when we are entering the rigidity of a monetary union? We are giving up the economic tools of monetary, interest rate and exchange rate policies and government has pretty little room to manoeuvre within fiscal policy given its commitment to balance the budget by 2010.

As has been repeated ad nauseam, we can only remain globally competitive if we continue to restructure, and without the economic tools that will be sterilised by the monetary union, such restructuring has to take place directly in the real economy. But how can this happen if we continue to legislate across the board COLA increases totally unrelated to productivity? Or are we still thinking that monetary union is some free lunch?

Why can’t we be told the truth that in the context of a monetary union wage indexation, that is legally enforced irrespective of productivity, is a recipe for disaster? This is so especially when we are joining in the monetary union a currency that has become irrefutably and fundamentally overvalued against all major currencies, not least the US dollar, Japanese Yen and dollar pegged currencies of emerging countries in Asia and South America including China, India and Brazil.

How else are we being denied the truth we are presumed unable to handle? Consider this. Income tax revenue in 2006 was Lm598 million. Income tax revenue projected for 2008 is Lm728 million. An increase of Lm130 million in income tax revenue over two years when in each of these two years the government has increased tax allowances to the value of Lm12 million i.e. Lm24 million forfeited income tax revenue over two years. So added to the increase of Lm130 million, this is really a gross increase in the tax take of Lm154 million which is 26 per cent of the 2006 tax base.

Even the most optimistic “Supply Side” economist will question the realism of such an increase in the tax take when the economy is growing by less than four per cent per annum in real terms and six per cent per annum in nominal terms, which at best may explain about half the projected increase in the tax revenue. Where is the other half, a whopping Lm77 million coming from and what contingencies are being made in case this fails to realise itself?

We have been here before. Roll back your memory to another election budget for the year 1996 when the government again made very generous income tax concessions in expectation of substantial increase in indirect tax revenue through the then newly introduced VAT system. The expected increase in revenue from VAT proved to be overly optimistic and the result was a harrowing actual 1996 budget deficit which we continue to nurse till this very day. Now that we are seeing the budget deficit reduced to sustainable figures, the government, for pure electoral exigencies that have no place in good financial housekeeping, is again making optimistic assumptions for tax revenues to justify distributing the goodies before the bacon is delivered.

Is this 1996 all over again? 11 years ago to this very day a Labour government was elected to find that a projected budget of Lm32 million was in fact running in excess of Lm100 million without a single word of warning being uttered about it in the election campaign.

Is the government once again gambling the stability of public finances, gained the hard way over more than a decade of oppressive tax increases, for the sake of political convenience? Does this contain the unbelievably selfish argument that if this works the PN will be back in power with a five-year term to patch things up and if it does not work they will ensure that a new Labour government will find it tough going having to nurse public finances back to health and thus being unable to deliver on the many promises being made on the basis of inheriting a strong public finance situation?

I wrote this piece before I had the opportunity to examine the Opposition Leader’s criticism of the budget. Dr Sant once defended himself from some politically inconvenient truth I had mouthed saying that I tend to reason like a banker not a politician.

I don’t regret it and presumably that’s why I did not make a career in politics. But Labour is no less guilty of avoiding the economic truth. Too little too late may be politically convenient but economically it is a non-starter. It sounds not merely gambling but doubling the odds.

Can’t we be trusted to face the truth that it is too risky for our own good to upset public finance stability in the context of a monetary union rigidity and that tax credits should not be given before we are reasonably certain that the projected inflows will in fact materialise? Can’t we be trusted to handle the truth?