Increase in indirect taxes is part of formula needed for Brussels

The new Socialist PASOK government may be willing to hand out some money to thousands of low-income individuals and cut taxes for those earning up to 30,000 euros per year but should also be prepared to provide the EU with a list of new measures to bring in a lot more tax revenues to plug the big budget gap. An increase in indirect taxes in the form of a higher special consumption tax on gasoline and/or value-added tax (VAT) rates should be among them. In 2004, the then newly elected conservative government claimed it had inherited «torched earth» from its predecessors, meaning state finances were in a mess, and proceeded with an audit of public accounts. That audit revised the budget deficit to 7.5 percent of gross domestic product and led to an upward revision of the previous years’ budget deficits, putting them above 3 percent of GDP. The damage to the country’s reputation was insurmountable, since it did not satisfy the fiscal criterion for eurozone entry. But the conservatives found a good excuse to buy time and revert to the future promises of tax cuts and pay raises by blaming it on the Socialists. The irony is that the outcome of the audit was partially correct, as the biggest boost to the deficit came from a change in the accounting rules for recording military expenditures, which no one asked for. Since then, Greece’s eurozone partners are known to examine the country’s fiscal data with suspicion and it looks like they will be vindicated once again. The budget deficit figures the new socialist government is likely to unveil when Finance Minister Giorgos Papaconstantinou visits Brussels to meet with other EU finance ministers and EU officials will be astonishing. According to the central bank and various Finance Ministry sources, this year’s budget deficit may exceed 10 percent and even be as high as 14 percent of GDP. This will be attributed to both a shortfall in tax revenues and spending overruns, along with a larger- than-expected drop in GDP in the second half of the year. Different sources are pointing to a drop of real GDP in the order of 3 percent in the second half of the year, which will shrink the economy by about 1.5 percent in 2009. So it looks certain that the budget-to-GDP ratio will turn out to be the highest since the country joined the eurozone earlier this decade. To be fair, the new socialist government has not yet used the term «torched earth.» However, it is also clear it is working hard to make sure that the budget for 2009 will be burdened with all kinds of further expenditures, making the deficit as a percentage of GDP much bigger than even the pessimists have projected. It is the only way the PASOK government can start its tenure with a clean plate. Politically speaking, it can only hope to score political gains and buy time by blaming the poor public finances on its conservative predecessor, which undoubtedly bears the main responsibility for it. The rest of the blame goes to the worst international economic crisis since the 1930s. Greeks are likely to be very receptive to this kind of argument, as they were in 2004, and will most likely give the new government time to implement its economic policies and rein in the budget deficit while directing the economy back toward growth next year. However, Papaconstantinou should not hope he will find the same understanding in Brussels. Suspicion about Greek data runs high. The fact that the EU executive Commission has given other countries a three-year extension to cut their budget deficits to below 3 percent of GDP is a strong card as well for Greece, although it has been partly neutralized by its consistent failure to meet earlier budget deficit targets. Under these circumstances, it is logical to assume that the other eurozone finance ministers and the Commission will ask Greece for concrete measures to prove it means business. Since Brussels has already heard about measures for combating tax evasion and cutting primary expenditures to no avail, it is likely to ask for something more concrete to reduce the deficit. The new finance minister cannot offer a new freeze in the wages of civil servants, since his government has promised pay increases above inflation. But he can offer a package of tax increases for individuals earning more than 30,000 euros, more revenues from taxing real estate property, a windfall tax on bank profits and the closing of tens of tax loopholes for individuals and companies. Some of the latter measures may partly please the Commission and our eurozone colleagues. However, it is highly unlikely they will suffice. So, Papaconstantinou has to be prepared to offer more, and since the only revenues the government can start collecting immediately are indirect taxes, an increase in the special tax on gasoline or VAT tax should be part of his package.