How shifting the country’s fiscal mix will help the Greek economy
The current administration came to power with a mandate to shift the country’s fiscal mix toward a lower tax burden. However, tax cuts are not an objective in themselves, because they don’t come for free.
If tax cuts are not implemented as part of a well thought-out plan, they carry the cost of either reduced government spending or higher debt. As such, tax cuts, when proposed and implemented, need to be based on solid macroeconomic foundations. Ultimately, a key objective of changes in taxation is to influence relative prices, thus indirectly impacting the relative allocation of economic resources and agent behavior.
The government was called to serve three main economic objectives:
First, to accelerate economic growth and to create new, well-paying jobs. This means prioritizing tax relief on labor and capital, not consumption and wealth.
Second, to reduce tax evasion. Tax evasion is not only socially unjust, but also leads to a lower economic growth rate, because it creates distortions in the allocation of resources.
Third, high growth rates that do not unduly burden the country’s external balance. Greece cannot devalue its currency. As such, tax policy needs to be indirectly supportive of exports, and act as a headwind to imports.
Our tax (and economic policy more generally) has been developed in those three directions.
The first objective of the government is supporting legal salaried employment. This is why we prioritized a reduction in social security contributions, which is one of the most efficient tax shifts. It acts as an incentive for the creation of new jobs. It reduces the attractiveness of tax evasion. And it is not burdensome toward our external balance.
The reduction in social security contributions by nearly 4 percentage points to date is an emblematic policy shift of the government. Additional interventions might be required when the necessary fiscal space emerges, possibly also involving a lowering in the so-called contribution ceiling.
The temporary relaxation of fiscal rules during the pandemic has allowed the government to implement its policies faster than would otherwise be the case, also creating the conditions for an applied study of the fiscal and economic impact of such changes. It is my strong belief that the reduction in social security contributions will end up having a much smaller fiscal cost than a simple, arithmetic calculation would suggest, as was also concluded by a recent Bank of Greece research study.
Let me also highlight here another reform that did not, in my opinion, receive its due attention, and that is the so-called Vroutsis reform delinking social security contributions from declared income for those self-employed, thus removing incentives for tax evasion and boosting declared income.
Salaried employment is also being supported by other structural reforms. The transition, for example, in the second pillar of the pension system toward a fully funded defined contribution model. And the upcoming flagship labor market reform bill.
Another emblematic tax reform of the government has been the suspension, and ultimate abolition, of the so-called solidarity income tax surcharge. A tax that was imposed during the crisis, it acted as a headwind toward the creation of jobs that form the backbone of any large inward investment, thus indirectly negatively impacting those lower on the income ladder, while also incentivizing tax evasion. We expect the ultimate fiscal cost to also be smaller than first envisaged.
Let me also mention the flat tax rate that was introduced for stock options and restricted stock units as part of variable employee compensation, a framework that is especially important for startups and tech companies, while also better aligning employer and employee incentives.
Three tax regimes were introduced to attract non-residents: First, the introduction of a non-dom regime, as well as the recent introduction of a framework for family offices targeting global wealth. Second, the new regime for non-resident pensioners. And thirdly, the incentives for the relocation of employment into the country.
There has been the occasional criticism that such regimes are unfair because they do not apply to local residents. However, attracting non-residents can only have a positive impact on tax revenues since, by definition, such tax revenues are nonexistent today, particularly in the context of the country’s large brain-drain. This, in itself, creates additional fiscal room. In our view, all of this is low-hanging fruit whose adoption only ideological stubbornness had prevented in the past.
After labor, let us now move on to capital. The government moved swiftly in lowering the corporate income tax rate as well as the dividend tax rate. We have also created a framework for superabsorption (tax credits) for three categories of capital expenditure: research & development, green and digital. All three areas are key priorities of Greece’s Recovery and Resilience Plan which will be presented in its totality in April.
Climate change remains one of the biggest challenges, also for tax policy, at a global level. Significant tax changes are likely to be required over the medium term if our planet is to achieve its ambitious climate objectives. Let me conclude by highlighting some additional challenges for tax policy in the coming years. The below reflect to some extent my own personal opinions, and not necessarily those of the government.
First, the continued battle against tax evasion. There is no magic wand to wave. Rather it requires a lot of small, and larger, changes. Each change feeds into the others. For example, the experience of other cities around the world teaches us that the use of credit and debit cards as means of payment on public transport will increase card penetration in other areas too. This is in the process of being implemented.
In 2021 we legislated the requirement that 30% of individuals’ income is spent using electronic means. Electronic payments could be extended to other areas, for example the payment of rent.
Obligatory electronic invoicing and electronic bookkeeping is another flagship reform, which, in itself, requires digital investment and also digital training. This will unfold throughout 2021. Among others, we are also planning for the use of artificial intelligence and big data in the design of tax audits.
Second, incentives for declared employment. The marginal effective tax rate leads toward negative income when shifting from undeclared to declared work for lower income levels. The so-called Pissarides report has some very interesting proposals in that regard. It is an issue of economic development, but primarily an issue of social justice. We have the obligation to help and support those who want to climb the economic ladder.
Third, increasing the average size of Greek enterprises. Half of employment in our country is created by firms that employ up to nine employees, the highest share in the whole of the European Union. This has a negative impact on productivity, on the ability to export, to fight tax evasion, to secure financing, and even to promote best labor practices, whether to fight workplace discrimination or to observe labor laws more generally.
Encouraging cooperation, mergers and acquisitions, as well as truly supporting micro and small and medium-size enterprises in their desire to grow is of paramount importance. Populism keeps our economy down and ultimately works against the interests of those more vulnerable.
Lastly, I would also like the external account to feature more in our public debates. Lowering consumption taxes on goods that are primarily imported does not make sense.
I end my comments on an optimistic note. The changes that have been implemented in tax policy are, in my opinion, widespread and important. The global pandemic and the freeze in some economic activity have, to a large degree, muted their impact. However, as soon as the post-pandemic economy emerges, I have no doubt that these structural tax changes will flourish, leading to significantly faster economic growth.
Of course, our relentless drive to transform and reform our economy has to continue, and will continue, always based on economic fundamentals, and always driven by solid theoretical principles.
Alex Patelis is chief economic adviser to Prime Minister Kyriakos Mitsotakis.
