Memories of 1996

20th November 2011
The Malta Independent on Sunday

I remember as if it were yesterday.    Going through the Budget for 2012 brought back memories of the Budget for 1996. 

The situation is uncannily similar.    The legislature was due to expire in mid-1997 and the 2^nd Fenech Adami administration, elected in February 1992 could have presented another budget for 1997 before facing the electorate for a refreshed mandate.

The Budget for 1996 was however presented with a strong pre-election flavour giving substantial across the board tax rebates and keeping the budget deficit within respectable limits simply by projecting a spectacular increase in VAT revenues.   VAT was introduced in 1995 and the Finance Ministry projected it could really get into revenue generating gear in 1996 following the teething problems of the first year.

Reality proved otherwise.   VAT revenues were coming in nowhere near expectations.   Expectations were probably unrealistic in the first place but in addition government could not really press hard on the enforcement pedal with an election on the horizon.    By summer 1996 the Finance Minister informed Cabinet of a substantial deficit gap developing in the  Consolidated Fund with obvious connotations of dimming prospects for an upbeat budget for 1997 as a prelude for elections  when due.

The serious financial situation was kept under wraps and an early election was called for 26^th October 1996 without presenting a budget for 1997 and without giving any hint of the financial hole that was well known to the inner circle.    The rest, as they say, is history.

The Budget for 2012 has many parallels with the budget for 1996.     Government has tried to square a circle by prospecting fiscal consolidation, tax reductions and social payments increases by a mixture of two potentially explosive assumptions.   A bold assumption that the economy will continue to grow at 2.3% in real terms and some 4.4% in nominal terms and this when many of our trading partners are suffering from economic stagnation if not downright contraction;  and a series of extremely bold revenue assumptions which are detached from economic reality or from reasonable expectations or from both of them.

In addition to this the Government continues to ignore the explosive debt situation that is building up outside but in parallel to the Consolidated Fund where the government continues to finance several publicly owned companies or corporations through guarantees or similar commitments,  even though it is, or should be,  clear to one and all, that such companies or corporations can never repay such debts, and sooner or later the contingent guarantees will be converted into hard cash expense for the tax payer.

The table below charts the level of debt guaranteed by government sitting outside the Consolidated Fund which till last June exceed one billion Euro ( one thousand million Euro).

Note the downward trend between 2001 and 2006 when the then finance minister John Dalli had announced in the Budget for 2003 that Government will not be issuing further guarantees and would run them down, partly through the process of privatisation.    Note the complete reversal since 2006 when government found it convenient to keep the fiscal deficit looking respectable by resorting to contingent financing.    To give an example as at end 2009 Enemalta Corporation had Euro 449 million of such financing and Water Services Corporation had a further EUR 85 million.  

Can anyone believe that these Corporations, with massive investment plans yet to finance ahead of them and with utility rates already transgressing socially acceptable limits, can in any way generate cash flow to repay these loans?   If you believe that than you can also believe that next year Air Malta will repay the loan of Eur 52 million advanced to them last year and on top up that with Eur 6 million interest.   You would also probably believe in the tooth fairy.

Reality is that electricity and water supply in Malta, with our sort of social structure, can never be economically feasible as a commercial venture.   In the bad old days profits from petroleum sales used to subsidise electricity and water generation.    In the modern good days government takes such petroleum profits as normal revenues through VAT and Excise Duties and then finance electricity and water generation losses through guaranteed bank loans outside the main Budget.

And in the process the government pretends that the deficit is coming within the 3% GDP in according with Euro rules.   Wrong!    If one takes the deficit that is financed through government guarantees the situation is different and still way out of the rules as shown in the following table.

A 2010 Consolidated Fund deficit of 3.60% grows to 5.30% if the deficit financed through Bank guarantees is loaded on.   2011 figures for Bank guarantee financing is not yet available.

What conclusions can one draw from all this?   The main conclusion is that just as in 1996 the government is keeping its options open that if the economic scenario continues to worsen, as it is likely to do given the increasing aggravation of the Euro crisis, the government will go for early general elections without having to be judged on the bold assumptions made in the 2012 Budget .

The other conclusion is that when financial problems are left to fester over long years without being addressed, once an inflexion point is reached the reality bill tends to come in like an avalanche as is happening presently in Greece and Italy.    In both countries politicians have been sent packing and technicians called in to clear the mess left behind by politicians playing for the gallery.

We are no yet there, mostly thanks to our strong thrift culture, but no one should assume that if we continue travelling along this road we will not get there, probably sooner than anyone thinks.   In 1996 the situation was recoverable because the world entered a period of substantial growth from 1998 ( after the Russian default crisis) till 2007 ( start of the financial crisis) and because we still had low level of overall debt.    If we replay 1996 again recovery this time could be unachievable given the high level of debts since accumulated and the frightening international economic scenario which seems to be getting worse from week to week.  The ‘après moi le deluge’ attitude built into the 2012 budget is condemnable!

Alfred Mifsud