Wednesday, 20 November 2013

Who's the client?

ideal clientA lot has been said about the citizenship scheme technically known as Individual Investor Programme (IIP).

Critics have divided themselves in two camps.   Those who oppose the scheme as a matter of principle, whatever the terms, whatever the conditions.   And those who seem to oppose whatever innovations come from  government's side but are quite willing to support the scheme on the lines proposed by the PN opposition.

For those who oppose the scheme as a matter of principle I have nothing but respect.   My only addendum would be that if they think that citizenship should be strictly reserved for people born in Malta and their offspring,  they should also oppose current schemes offering citizenship to foreigners who marry Maltese citizens and reside here for five years and other such schemes which extend citizenship to people other than those with Maltese blood in their veins.

As to the others who would not oppose the scheme on principle but feel that government's model is too lax I understand that they would only support the scheme if it carries the following conditions:

  • strict disclosure accompanied by rigid KYC procedures to ensure access to citizenship  is denied to unsavoury characters who think their money can buy anything. 
  • obligation to make investments in Malta to promote economic development
  • minimum residency obligation.
The first objection has already been taken on board and government has announced that although full disclosure would reduce the marketability of the scheme ( some potential clients would not wish the authorities in their country of birth to know of their choice to acquire a second citizenship) it will adopt full disclosure following robust due diligence procedure.  Government also confirmed that the final decision on whether or not to grant citizenship will not be outsourced and will only be taken by the government.

Regarding the other two conditions,  in an ideal world they ought to be taken on board too.  But this is not an ideal world.  Far from it!

So before suggesting this or that condition one should ask who are the clients of the IIP scheme.  Only when we have a clear idea of the attributes of potential clients can we make an assessment of  what maximum conditions would keep the scheme marketable.

In banking circles banks have frequently been accused of willing to give loans and credits to people who do not need them but refusing facilities to borrowers who actually need finance.   That's the paradox of this world.   Banks want to lend to clients with high credit status who don't need to borrow but are afraid of lending to people with low credit status who actually need to borrow but represent high risk.   Obviously there has to be a compromise between these extremes so that banks lend to customers who need financing but on terms and conditions that reward the banks for the risk involved.

For the citizenship scheme we have a similar paradox.   If we make conditions regarding investment and residency we may be addressing our offering to people who do not need it.   People who make such investments can gain right of residency and if desired tax domicile in many countries.  By offering what the Opposition seems to be insisting upon we would be largely making our scheme unsaleable.  It's like when the then Minister Tonio  Fenech suddenly decided to change the rules for acquisition of property with right of residency by non-EU nationals, and cold turkey, he killed a market that was flourishing.   Do we want a repeat of that?   Do we want to kill the IIP before it is born?

The question is who needs citizenship and is prepared to pay a million dollars for it?  Note that I said pay not invest.  Investment means clients can get their money back once they decide to cash out their investment.   But paying  a million dollar to acquire citizenship under the IIP scheme is a one way payment.  It's a fee.  It's not refundable.

So who needs such expensive rights to a second citizenship and are prepared to subject themselves to tough due diligence process?

According to my sources such citizenship would interest successful businessmen in countries which suffer political instability due to external threats or internal problems.   They have no immediate intention of leaving their original country of birth or acquired citizenship where their business is still evolving.  But they need an insurance policy that if the perceived threats turn real they would need to relocate to a country they can still call home.

Imposing investment and residency conditions to such potential clients would mean they are blocked out.   Awarding citizenship to such clients on current conditions subject to rigorous due diligence would mean that these clients will be willing to pay one million dollars for the privilege, they will probably visit  regularly on holiday and will probably be interested to buy real estate here to enjoy the annual holiday they will start taking here.   And gradually as Maltese citizenship grows on them they will start looking for business opportunities to deepen their roots.

First you have to understand who is the client before starting to suggest conditions, unless the intention is to kill the baby before it is born.

Sunday, 17 November 2013

Citizenship, Budget and EU oversight

This article was published in The Malta Independent on Sunday - 17.11.2013

I have nothing in principle against the citizenship scheme. I have reservations about some of the details, which I hope the government will fine-tune in an effort to gain better acceptance by the population at large, if not by the Opposition.
I have nothing against it in principle because, as a member of the EU, Malta has already agreed to share whatever a citizen can do, except vote in a general election, with hundreds of millions of other EU nationals and this without the ability to screen and refuse the given rights. We have already agreed to give citizenship to any foreigner that marries a Maltese national after a certain period of residency (the residency condition only applicable since 2000), and this again without any real screening and without any precautions to ensure that such new citizens can actually support themselves. We have given such citizenships in their thousands and many have failed to fulfil their social obligations without in any way putting their citizenship at risk.
So I can have no objection in principle to our granting a few score of such citizenships for economic reasons – after proper due diligence regarding screening – to people who can contribute at least one million dollars to our exchequer. It is normal to use whatever one possesses to deliver income streams that support economic activity and standards of living, and those that have resources, exploit them. Those that have technology cash on it by adapting it to deliver convenient products that meet or stimulate consumer demand. Our assets are our country, our culture, our people and the quality of life we can offer to those seeking security and peace of mind. I see nothing wrong in leveraging our assets to generate wealth that can then be further leveraged for economic development without incurring borrowing or levying taxes.
Those who object to such a citizenship scheme as a matter of principle must be respected, but consistency demands that they would also be (indeed, more so, given the larger numbers involved) against in principle all forms of granting citizenship to non-Maltese. Otherwise their objections on principle would appear insincere.
As to the details, I have reservations. Firstly I have problems with its name. The title ‘Individual Investor Programme’ (IIP) does not faithfully represent its contents. Paying taxes does not make one an investor. The ‘Economic Citizenship Programme’ would have been a more apt title. Secondly, the non-disclosure of the names of successful applicants seems unnecessarily suspicious. If we are welcoming new members into the family, we should know who they are. And lastly, given the extraordinary nature of these revenues and the risk of our being perceived as desperately trying to raise funds for ordinary budgetary expenditure, I would have preferred them to be allocated, in their entirety, to a local version of a Sovereign Wealth Fund to leave an endowment legacy to future generations.
Even if these reservations are addressed, the government still has to work to persuade one and all about the rigour of the due diligence process to safeguard the Malta brand and filter out unsavoury characters from accessing such programme. The unnecessary secrecy is mitigating government’s effort to re-assure about the integrity of the screening process.
As to the Budget, there is little to criticise about it. Reducing taxes on the economically active, offering social payment increases to the non-economically active (including students and pensioners), cutting down utility rates leading to substantial purchasing power enhancements to households’ budgets, increasing investments in infrastructure, stimulating through incentives the changeover from dependency to active economic participation, offering incentives for more female participation in the labour market, addressing young age dropouts from the education system and making substantial increases to education and health budgets – and all this wrapped up in a plan to reduce budget deficit further to just 2.1 per cent of GDP for 2014 – is the stuff fairy tales are normally made of.
The EU Commission clearly cannot understand how this can happen. It doesn’t understand how income tax revenue can actually increase by more than the projected nominal economic growth rate whilst concurrently awarding tax rate cuts. Judging by how often the previous government used to miss their budgetary targets, one could hardly blame the Commission for expressing doubts and asking for more details on the budget contents.
The new Labour government in general, and Minister Edward Scicluna in particular, are staking their credibility credentials on the proper execution of the budget plan to deliver as promised. Their first test will come when the actual deficit for 2013, projected at 2.7 per cent of GDP, is crystallised next spring. Further progress in budgetary discipline while executing the projected measures will largely depend on four factors:
  • Harsher tax enforcement to address tax evasion and collect back taxes.
  • The continued growth of international activities, including international gaming, processed through foreign companies based here, generating additional tax revenues.
  • Achieving growth somewhat better than the real 1.7 per cent projected for next year.
  • Strict expenditure control as projected in certain budget votes which are destined to experience real cuts in their allocation.
None of this is impossible. If concessions for tax compliance are coupled with strict measures to punish persistent defaulters, the government should achieve a substantial increase in its regular income receipts. International activities still seem moving on with the wind in their sails. And economic growth projections of 1.7 per cent seem pretty unchallenging, considering the release of consumer demand and business investment which had been suppressed by election uncertainty, and the additional demand that will be generated by the budget measures themselves. In particular, I mention the attractive offer for first time-home buyers to take the plunge in 2014 and save the duty on the document charge of 3.5 per cent. Expenditure control depends on cabinet support and teamwork: the Finance Ministry cannot do it on its own.
The Budget for 2014 is like no other before it. Rather than rolling back in the initial years of the legislature to release the feel-good factor in the later years, this Budget raises the bar straightaway. It can only be considered politically savvy if the government feels confident that it can execute and deliver consistent economic growth much closer to the economy’s potential in order to maintain the momentum uninterruptedly until the next time it has to seek a refresher of its mandate. Suggestions that the EP elections in 2014 have anything to do with the budget strategy would appear far-fetched, as incumbent governments generally accept that they have to drop something on the way between general elections.
As the saying goes, the proof of the pudding is in the eating, as much as the proof of the budget is in the execution.

Friday, 8 November 2013

Not enough!

Although many were surprised that the ECB this week cut its intervention rate to 0.25% from 0.50%, I was not!   True, the ECB had not explicitly prepared the market for it, but the new data showing that inflation in the Euro area had fallen to 0.7% left the ECB no real choice.

In fact this is what I had said in my post dated 1st November, 2013 titled "Europe flirts with disinflation":

'This risk needs to be addressed by the instant adoption of much looser monetary accommodation by the ECB. Reducing interest by a further quarter point would be quite irrelevant from a monetary stance but it helps to reduce the exchange value hardness of the Euro to enhance the export competitiveness of the countries performing structural adjustments. But real solution demands additional monetary stimulus beyond the provision of cheap liquidity to EU banks.'

Indeed the rate of exchange responded immediately with the Euro falling some 1.5% against the US dollar almost instantly the decision was announced. But I continue to argue that this is not enough.  The ECB needs to do more.

The problem is that Germany is enjoying the crisis - today again Germany announced record exports in October 2013.    They continue to live on Cloud 9 detached from and disinterested about the problems their policy is causing to other Euro countries, especially those that are undergoing restructuring to regain competitiveness.   It is an open secret that the Deutsche Bundesbank representative on the ECB voted against the interest rate cut and it had to be the determined personality of ECB President Draghi to overrule the German objections.

Draghi should now take his battle to the next round.   Europe needs a deep one shot monetisation to re-capitalise its banks.   Unless this happens and in abundant shock and awe quantities, even if interest rates stay at zero till hell freezes over, we will not get anywhere near solving chronic unemployment in problem countries.   On the contrary disinflation could slide into deflation from where only God can extract us, without undergoing hostilities that Europe experienced in the first part of last century.

Too horrific even to contemplate.

Tuesday, 5 November 2013

Don't blame the Commission

One should not blame the EU Commission for not taking Malta's word through the Budget presented this week for 2014 when the Minister for Finance re-iterated that the deficit for 2013 will be 2.7% of the GDP as planned, and next year this will go down to 2.1%.

Normally the Commission would take Malta out of the Excessive Deficit Procedure (EDP) once we fall below 3% in the budget deficit in relation to the GDP.   But the Commission would not and should not just take our word for it.   They want to wait until the actual result for 2013 will be confirmed somewhere next April.

Why?  Because last year the then PN government when reading the failed budget just 33 days before the end of the year 2012 had promised to close the year with a deficit of 2.3% but in April it was discovered that the real deficit was in fact 3.3% and that landed us back in the EDP from where we had just exited.

For the Commission the Malta government is the Malta government and they do not care that it has changed, whether it is PN or PL, blue or red.  The government represents the country and the country is still the same.

The Commission is also having problems in accepting the budget deficit reduction progress planned for next year.   The Commission unfortunately uses economic models which do not take account of local realities and invariably they find it hard to accept that our income tax revenue increases at far higher pace than the nominal economic growth.   But time and again events proved that the government was right and the Commission was wrong - but still the Commission uses a standard model without sensitivity to local realities.

Consider this.    In 2012 the Income Tax revenue was Euro 866 million.   This year its was estimated to increase to Euro 928 million an increase of 7% well above the nominal rate of growth of some 4%.  This in spite of reduction of income tax rates from 35% to 32% for a good part of the upper  middle class.  Yet the original income tax revenue estimate for 2013 has been revised further upwards to Euro 959 million,  meaning that not only we managed to realise the 7% projected increase in income tax revenues but actually pushed it further up to nearly 11%.

The Commission can't understand how this happens.   So it cannot accept that income tax revenues for 2014 is expected to increase again to Euro 984 million up a further 2.6% on the revised estimate for 2013. Now 2.6% growth is conservative compared to the 11% registered in 2013 and merely covers the planned economic growth of 1.7% plus 1% inflation.    I am sure we can do better than that given our past performance and the emphasis government is making on fiscal morality to address tax evasion.

But don't blame the Commission for not understanding how our tax revenue increases more than economic growth.  The Commission does not share our best kept secret that a good part of the tax revenue growth comes from international business which is not captured by and makes no contribution to our GDP growth. That has to remain our best kept secret.  Better spend and extra year under the EDP rather than share our secret.

A lot of hoopla was made by budget critics about the increases in indirect taxation and other non-tax revenue.   But wait a bit.   VAT is expected to generate EUR 35 million more than 2013 up by 6% which is just nominal economic growth plus 2% from better enforcement.  No VAT rate increases or base expansion is involved.  So what's the problem?

Customs and excise is increasing by Euro 30 million but of this Euro 23 million is petroleum related which we are informed will add little to nothing to the retail price as it will be funded mostly from better procurement prices.   The remaining Euro 7 million comes from the usual suspects, cigarettes, tobacco, spirits and cement which is what normally happens in every budget.  So again where's is the problem?

Licenses and fines are on a net basis expected to increase by just Euro 2 million although one expects a shift to impact more environmental offensive uses and subsidise green uses.  Road licenses are going up but registration taxes are coming down so all in all the effect is quite neutral on government revenues.   So where is the additional burden of taxation?

The highest increase is in fees of office, for charges government raises for services it delivers which is increasing from Euro 39 million to Euro 60 million.   But this increase of Euro 21 million mainly consists of Euro 15 million from the International Investor Programme which will no no burden on local taxpayers.

Bottom line is that whilst government tax revenues will in toto increase by Euro 169 million next year most of this is additional revenue from economic growth, better enforcement and very marginally from increases in excise taxes which are then well compensated by utility tariff reduction.

Those who criticise the 2014 Budget on this score is because they have to criticise something and really there is not much to criticise.

For me the main cause of criticism is that the Budget  is too conservative on economic growth and government financial position should be better than projected as I would be disappointed if next year we will not register real growth of at least 3%.  

Monday, 4 November 2013

Selling the brand

This article was published in The Malta Independent on Sunday - 03 11 2013
Successful businesses control strong brands.   The brand value, although not found anywhere on the balance sheet or financial statements, is along with technology and intellectual property rights, the most treasured corporate asset.

Just see what length corporations go to promote their brands, to enhance their appeal and protect their value from attacks by official competitors and counterfeiters.

According to a survey conducted by Brand Finance the following is the table of the most valuable ten global brands:

Ranking 2013
Ranking 2012
Brand Value Estimate in millions USD
General Electric – GE
Coca Cola

In 2006 Coca Cola was the top brand and Apple, Samsung and Google, now the top three global brands, were not even in the top ten league.  Nokia was the 6th most valuable global brand back in 2006 whereas in 2013 it had to be rescued through a take-over by Microsoft.

Brands matter!  If the Apple brand is estimated to have a value of more than USD 87 billion which is not on its balances sheet,  that amounts to some 20% of its market capitalisation and its value has to be nurtured and protected.   Nokia slept on its laurels and did not smell the challenge as Apple launched its first I-phone in 2007.

Brand building is a very long process demanding timely investments, research and development in quality products which not only meets but anticipates client needs, and huge investments in aura building through promotion and advertising which make clients proud of carrying the product or consuming the service even if they have to pay premium prices for it.   It is the reason why yuppies want to be seen carrying an I-phone in one hand and a Starbucks cup in the other as they enter their hedge fund offices with a Luis Vuitton handbag/man-bag hanging from their shoulders.

Malta needs to invest in its brand.   It will help us attract more and better quality tourism.  It will put us more frequently on the shortlist of investors considering where to place their next project. It will help us compete to attract financial services that presently restrict their functions to London, Luxembourg and Dublin even though we have the elements with which to compete, bar the track record.

The on-going controversy about government’s proposal to launch of an Individual Investor Programme has to be considered in the context of whether it helps or hinders the building of the Malta brand.   Government is proposing to offer citizenship to a very restricted international clientele who pass strict checks on their suitability for citizenship and who are prepared to pay nearly one million dollars for acquiring Malta citizenship for their own and their immediate family.

Government is leveraging our soft assets as good housekeepers should.   Every country tries to make the most of the resources it is endowed with.   Oil countries build their oil industry, technology countries build brands like Apple and Google which were mere garage operations a couple of decades ago.   Switzerland built its successful economy on financial services and pharmaceuticals in the context of a stable neutral country in the heart of Europe.  So there is nothing untoward in government’s plan to leverage our asset as a peaceful and stable location to generate revenues which can then be used for further development.

The Opposition is being highly critical of the Programme; so critical that one has to make an effort to understand whether they are against it as a matter of principle and should not be launched whatever the conditions, or whether they agree with the principle of drawing economic value from citizenship awards but are not agreeing with the proposed specific mechanisms of government’s scheme.

Assuming that in spite of pronouncements indicating the contrary, the Opposition is not against the scheme as a matter of principle, then one finds three major objections that have been raised by Opposition members, at least as I understand their criticism:

1.       That the Scheme as proposed renders Malta as a disreputable tax haven attracting shady characters to launder their ill-gotten riches through Malta’s brand.

2.       That the Scheme has no conditions regarding minimum residency and clients can acquire Malta citizenship without any obligations to live here.

3.       That the scheme bears no conditions to make other investments in Malta beyond the payments necessary for the acquisition of citizenship.

The government would do well to open up further consultations with the Oppositions to re-assure that the first objection is based on misplaced fears and that the due diligence process would be robust and would help to build rather than devalue the Malta brand.

As to the second and third objection, whilst desirable, such limitations would exclude a large swathe of prospective and desirable clients from considering Malta citizenship.   The typical  applicant would be a successful and fully law-abiding entrepreneur in a rather unstable country, or in a country whose stability is being threatened by exogenous or indigenous events, who plans to continue his business in his native country, but requires an insurance policy to have a place they can still call home in case the perceived threats materialise.

If the Opposition is genuine in its objections there should be no major difficulty in government giving the necessary assurances to ensure that they back the Programme or at least do not object to it.    However there is enough reason to conclude that the Opposition’s objections are not based on  genuine reasons; that their objections are mostly because they cannot accept seeing government exploiting an opportunity which they did not smell and are uncomfortable seeing government acquiring financial resources which would permit it to deliver on its electoral promises.

This is  a fair observation considering that the Leader of Opposition made a statement in the House last Wednesday which is shocking and which attacks the very foundations of our democracy.   He is reported to have stated in parliament that “a future PN government would review the citizenship scheme being introduced by government and may even withdraw citizenship awarded to foreigners”.

This is a scorch earth policy at its best.   It is the style of pseudo- democracy which pays homage to the Tea Party in the US Congress that the minority view has to prevail on the will of the majority even if it means bringing the country to a standstill.   It is absolutely no way to expect to gain genuine consultations from the majority.

When in government the PN will have all the power to stop or change any Programme introduced by its predecessor.   What it does not have a right to do is to disown any obligations properly contracted by the Government of Malta.  Just imagine what would happen if the present Labour government disowns any contract signed by the last PN government, including the BWSC contract, no matter how much they disagree with it.

Irrespective of whether a future PN government would have any constitutional right to withdraw citizenship without reason as laid out by law, it is very damaging to the Malta brand for such loose talk to be made by the Opposition Leader in parliament as it creates instability and seeks to de facto impose the minority view on the majority.     It is irresponsible loose talk that really makes us look like a banana republic.

Friday, 1 November 2013

Europe flirts with disinflination

In October 2013 inflation in the Eurozone fell to 0.7%.  This is a million miles away from the ECB target of close to but below to 2%.  It is clear disinflation territory and uncomfortably close to  outright deflation.

Economic managers and monetary authorities fear deflation much more than inflation.    The last thing Europe needs is a Japanese style lost decade of deflation which increases the heavy load of the debt and condemns Europe to eternal shocking levels of unemployment, with all the social problems that this would entail.  

Deflation is a spiral.  If prices start falling consumptions drops as buying tomorrow will be cheaper than buying today.  The downward momentum will build on itself. Breaking the spiral will be as difficult as running uphill just as you are sliding down the slope.

One gets the impression that Europe is in an institutional paralysis, unable to take the necessary measures to address the slide to deflation.  Germany and France who ultimately have the final say in the EU are unable to work together to find a real solution.  Not just that, but they are also failing in giving the ECB, the only institution that can act with the speed guaranteed by its autonomy, the necessary backing to take extraordinary measures that are justified by these extraordinary circumstances.

Germany is so out of touch with the existential problems of the EU and the Euro that they had to be publicly warned by the US Treasury.    Germany has been a net beneficiary of the Euro crisis so much so that the country is now sitting on a Balance of Payments surplus which in nominal terms is bigger than China's and which runs up to some 7% of the GDP.   This is disequilibrium at its best.    Structural surpluses require adjustment as much as structural deficits and deficits can only be addressed if surpluses are reduced.  Simple maths!

But the Germans just do not get it.  Rather than give heed to US criticism they deny the obvious by replying:

" The German current account surplus is no cause for concern, neither for Germany, nor for the Eurozone or for the global economy.  There are no imbalances in Germany that need correction."

This is quintessential self-denial and delusion.   Of course the German structural surplus is a cause for concern.   It is particularly a cause for concern to the Euro countries in distress that can only address their deficits if Germany opens up and stimulates domestic demand to reduce its surplus.   Otherwise their sacrifices will prove futile.  We cannot have all Euro countries in surplus.   Attempts to do so challenge the basic laws of mathematics.

But even if Germany were to convert and adopt looser policies which have been demanded by the IMF and now by the US, that would be a long term solution which offers little comfort to the immediate threat of sliding from disinflation to deflation.

This risk needs to be addressed by the instant adoption of much looser monetary accommodation by the ECB.    Reducing interest by a further quarter point would be quite irrelevant from a monetary stance but it helps to reduce the exchange value hardness of the Euro to enhance the export competitiveness of the countries performing structural adjustments. But real solution demands additional monetary stimulus beyond the provision of cheap liquidity to EU banks.

Given the difficulty for the ECB to adopt QE on the lines adopted by its counterparts in the US, UK and Japan ( because the ECB, unlike the other Central Banks,  does not have a single Treasury that issues the securities of one central government) the ECB has to think further and go beyond QE or OMT, which has so far remained unused as too complicated to adopt.

The ECB has to consider outright monetisation to recapitalise the ESM on a large scale so that the ESM will have the ready resources to fund recapitalisation of European Banks.    Not until European Banks are generously recapitalised will they start to honour their true function to oil economic growth with supply of credit to private companies and SME's.    And without properly function credit markets periphery economies in the EU will never shake off their distress,  especially if Germany continues in denial and insist on their right to enjoy their surpluses.

Europe must act before sliding into dangerous deflation territory.