Income tax rates will need to rise - Alan Aherne IT

[jacobmarley]

Strong opinion piece by Alan Aherene. I particularly like the final paragraph.

ANALYSIS: The crisis is unprecedented: the solution – a speedy, once-off adjustment – is preferable to the brutality of slowly soaring unemployment. But the public sector did not cause the problem: property did, writes ALAN AHEARNE .

THE IRISH economy is in the midst of an unprecedented economic and financial crisis. Consensus projections for growth imply that, with possibly one exception, this country will record the largest cumulative drop in national income in an advanced economy since the second World War.

Real GDP may fall below 80 per cent of its trend level, meaning the slump would meet the technical definition of an economic depression. The unemployment rate looks likely to revisit levels experienced in the 1980s, though hopefully only temporarily.

A sovereign liquidity crisis, in the sense that the Government finds itself unable to borrow from private investors at tolerable interest rates to finance day-to-day spending, is a growing risk.

The main cause of the crisis that we now face was the turn of the housing cycle. The inevitable bursting of our housing bubble triggered a severe contraction in economic activity, a collapse of housing-related tax revenues and an accompanying rapid deterioration in the public finances, and a marked weakening in the stability of the banking system. The international credit crisis compounded these problems by adding to the stress on the banks, by pushing many of our largest trading partners into recession, and by precipitating a sharp rise in the value of the euro against sterling and the dollar.

As a small open economy, economic recovery will depend on exports. Faster export growth will spur increased employment and greater investment spending in export industries. Rising employment will, in turn, provide support to consumer spending and, along with actions by the Government, will help to strengthen the public finances.

Our economy is home to many outstanding businesses with huge potential for growth. Such firms formed the backbone of our extraordinary export-led growth in the 1990s. Tragically, this success was hijacked by property interests around the turn of the century and exports faltered.

Two conditions are necessary for a revival in exports: a rebound in economic activity abroad and a substantial improvement in cost competitiveness at home. Most forecasters expect some recovery in the global economy in 2010, supported by extraordinary fiscal and monetary stimulus. The question is how do we boost our economy’s international competitiveness to take advantage of the global upturn.

In answering this question, the key consideration is our membership of Economic and Monetary Union (EMU). For small European countries like Ireland, the experience of the past decade demonstrates that membership of EMU can bring significant benefits.

At no time have these benefits been more evident than over the last 18 months. Notwithstanding domestic banking problems, membership of a large currency union has provided considerable insulation against the turmoil on global financial markets.

These benefits, however, come at a price. EMU is only for the agile. Not having a separate exchange rate as a tool for coping with the shocks affecting our economy means that internal flexibility is required to reverse the loss of competitiveness that the country experienced during the housing bubble.

As shown in the accompanying chart, prices in Ireland (expressed in a common currency) have soared 25 per cent since 2001 relative to those in our trading partners. Some of the faster pace of increase in prices and wages can probably be justified by improvements in productivity, but there can be little doubt that wages – in both the private and public sectors – overshot their sustainable levels during the bubble years.

Put simply, we are living beyond our means.

With low or even negative inflation projected abroad, and little or no prospect of a strong rebound in sterling and the dollar, the necessary adjustment in competitiveness can only be brought about through declines in prices and wages here. The pull-back in average wages and living standards will occur in any event as the housing bubble deflates.

The choice we have to make as a nation is whether the adjustment happens quickly through a co-ordinated, across-the-board cut in nominal wages, or slowly and brutally through downward pressure on wages stemming from soaring unemployment.

A once-off adjustment is clearly preferable because it will promote a recovery that will eventually restore living standards.

One issue is the difficulties that wage reductions may create for households with large mortgages and personal debts. International evidence shows that the main cause of debt defaults is unemployment. Keeping as many people in employment as possible through wage reductions will minimise financial distress. Reducing average public sector pay will go some way towards addressing the situation in the public finances. But an often overlooked point is that even large-scale public sector pay cuts would only have a moderate effect on the fiscal deficit.

A 10 per cent reduction in public sector pay and pensions, for example, would reduce Government spending by €2 billion. But when account is taken of the associated loss of tax revenues (both direct and indirect), the net reduction in the budget deficit would be a little more than €1 billion.

Comparing that figure to the €16.5 billion in spending and tax revenue adjustments that are required to restore fiscal balance by 2013 underscores the enormity of the task facing the Government. Reducing public sector pay is a necessary part of the effort to improve Ireland’s cost competitiveness, but fiscal consolidation will require many other adjustments.

I suspect that much of the rhetoric in the media about public sector pay and reform is an attempt by some of the least well-informed commentators to distract attention from the main source of our economic woes. The mess in which the Irish economy finds itself largely stems from the house price bubble, not from problems in the public sector. It is probably not a coincidence that some of the most vocal critics of the public sector today were among the most conspicuous cheerleaders for the housing boom.

That is not to say that major public sector reforms are unnecessary. During the boom, surging tax revenues from the property sector allowed the Government to meet the increased demand for public services without major improvements in productivity.

The meltdown in the public finances means that a more radical programme of reform is needed if spending cuts are not to translate into excruciatingly painful reductions in services. Parts of the public sector are wedded to archaic structures and systems that act as barriers to improvements in efficiency and sap employee morale. A more agile and entrepreneurial public sector is sorely needed. With our backs against the wall, there is surely no better time for an overhaul of the system. As the new White House chief of staff Rahm Emanuel put it, “One should never let a good crisis go to waste”.

The international experience provides evidence about how best to approach fiscal consolidation. Studies suggest that consolidation is unlikely to be successful if it relies on reductions in productive capital spending. Cuts in current spending and transfer payments usually result in a faster escape from the fiscal doldrums.

More specifically, I find compelling the arguments put forward by Jens Henriksson, a former official at Sweden’s ministry of finance and colleague of mine at the think-tank Bruegel, in a recent essay. The Swedish government engineered an extraordinary fiscal consolidation following that country’s banking and property crisis, shrinking the budget deficit from more than 11 per cent of GDP in 1993 to less than 2 per cent in 1997.

How did Sweden do it? For starters, the government provided unambiguous signals that it was committed to do something about the deficit. The prime minister took the lead and put his job on the line. Goals were set and the government stuck with them. A flat 11 per cent was taken from all government spending categories, with only a few exceptions.

This approach seems to me to be preferable to the complete elimination of some programmes while other expenditures remain untouched.

Second, the consolidation programme was designed as a comprehensive package. Presenting the consolidation measures in one package made it clear to all interest groups that they were not the only ones being asked to make sacrifices.

Third, the government communicated honestly with the public while the programme was running. As a result, the public knew that large sacrifices from everybody in society were required.

Along with spending cuts, substantial increases in taxes will be required to restore fiscal balance.

There is a strong argument for broadening the tax base using a residential property tax, as recommended recently by the National Competitiveness Council. Income tax rates should not have been cut during the boom when the economy was overheating, and will now need to rise. The higher tax band will likely have to be increased to a level well beyond the 48 per cent rate favoured by the Irish Congress of Trade Unions if the current budget deficit is to be eliminated by 2013.

Public acceptance of this painful medicine is critical if we are to avoid the social unrest that is occurring in Greece and Iceland. The public will presumably not be willing to put their shoulders to the wheel unless the burden-sharing associated with the fiscal consolidation is perceived as equitable. That means requiring those who benefited most from the property bubble to make the largest contribution.

Extraordinary gestures of sacrifice from our political leaders and other figures of authority who oversaw the bubble and whose misguided policies contributed to the current crisis would be helpful in securing social solidarity. Finally, a line cannot be drawn in the sand in relation to the behaviour of property interests and bankers during the boom. Those who are responsible for the horrible economic morass in which we find ourselves must be held to account.
Alan Ahearne lectures in economics at NUI Galway and is a research fellow at Bruegel, the Brussels-based think tank. He is a former senior economist at the Federal Reserve Board in Washington DC

irishtimes.com/newspaper/opi … 67061.html

[superpiper]

It reads very well.

I can’t help think that the VI’s within the government will fuck it all up for generations to come.

[Poacher]

Good article. Unfortunately, that type of logic is likely to go unheeded by our leaders as they endeavour to insulate the primary beneficiaries of the Property Boom from the consequences of their largesse. Remember this…

You might have thought that FitzPatrick would have exited stage left blushing. But incredibly, just a few days after the taxpayer was forced to bail him out, FitzPatrick was quoted in the Irish Times advising the government to cut corporation tax and tackle the sacred cows of universal child benefit, state pensions and medical cards for the over-70s.

archives.tcm.ie/businesspost/200 … y36598.asp

The Divide and Conquer tactics of the establishment in highlighting the Public Sector Pay issue has dominated debate in the news media as well as here on the Pin for months now.

Alan Aherne has laid it on the line quite starkly in the above article. Saving a billion odd through such paycuts, although necessary, is a mere drop in the ocean when viewed in terms of the enormous deficit which has arisen as a result of the ending of the Property Bubble.

Its time that the likes of Seánie Fitz and the other bubblistas who have raped Ireland for the past decade were made pay their fair share. After that we can begin to approach nurses, teachers and Gardaí with a view to seeking sacrifices on their part.

[Tyler]

tax rates of well above 48% will result in black economy and our best and brightest emigrating to a country where the government doesn’t take more from your wage packet than you do
it is immoral for any government to try and take more from my earnings than i do

[kerrynorth]

A new 48% tax rate will just kill initiative and a willingness to work and take risk in business. A much better solution would be to standard rate all tax reliefs as well as eliminating a few of them and cutting the Personal/PAYE allowance to bring at least some of the minium wage into the tax net. That is a fairer distribution.

[spqr64]

@Tyler

tax rates of well above 48% will result in black economy and our best and brightest emigrating to a country where the government doesn’t take more from your wage packet than you do
it is immoral for any government to try and take more from my earnings than i do

So after all we got from Europe in terms of cheap finance and an opportunity to use that for our betterment its F***ed up and we’re back to square one dodging bullets and nixers all over the place.

“Welcome to Oirland, give us yer money, now f*** off”

[StoppedClock]

@Tyler

tax rates of well above 48% will result in black economy and our best and brightest emigrating to a country where the government doesn’t take more from your wage packet than you do
it is immoral for any government to try and take more from my earnings than i do

Hear hear.

I have drawn my line in the sand and it looks like I will be having to follow through quicker than I imagined.

thepropertypin.com/viewtopic.php?f=15&t=17894

Pity but at least I may beat the rush.

[geckko]

With PSRI etc. that will leave marginal tax rate going over 50%, for me an inequitous threshold. YoOu can’t even keep half of any additional income you might (aspire) to earn.

Unfortunately, I can’t see this being avoided given the political realities in Ireland.

I would prefer to see a revenue accretive reform of indirect tax. VAT levied at something signficiantly less than the current 21.5% on everything (yes, including children’s clothes and food).

Also a revenue accretive replacement of stamp duty (reduce it to a flat 2% say) with a system of rates.

[Pill]

Oh man, it’s just going backwards! Tax children allowance for starters. All income should be taxable.

[Poacher]

@Tyler

tax rates of well above 48% will result in black economy and our **best and brightest **emigrating to a country where the government doesn’t take more from your wage packet than you do
it is immoral for any government to try and take more from my earnings than i do

Who are the ‘best and brightest’ referred to above? All I saw over the past ten years was the ‘best and brightest’ running around buying numerous apartments in the middle of Longford.

Our country is ruined, and for a large part its them that describe themselves as the ‘best and brightest’ who have ruined it. If the ‘best and brightest’ are only willing to stay here in times of bubble, let them fupp off and good riddance too. And I hope they take Seánie Fitz with them.

[geckko]

@Pill

Oh man, it’s just going backwards! Tax children allowance for starters. All income should be taxable.

Why have it at all?

[Pill]

@geckko

@Pill

Oh man, it’s just going backwards! Tax children allowance for starters. All income should be taxable.

Why have it at all?

Absolutely agree!

[kerrynorth]

@Pill

@geckko

@Pill

Oh man, it’s just going backwards! Tax children allowance for starters. All income should be taxable.

Why have it at all?

Absolutely agree!

At least the early childcare allowance looks set for the chop. The most pointless payment ever made and a clear example of how government spending got stupid in the bubble years. It started off as a payment to working parents to defray childcare costs but so as not to piss off stay at home mothers they made it a universal payment. Absolute lunacy!

[Open_Window]

yes good articel. I’ve mentioned to some that the following might be a interesting start:

1. Reduce VAT to 15% and Merge existing 13.5% & 21% into one band.

2. All Government Dept. & State Bodies purchases & sales to be VAT “Exempt”

3. Gov Payroll exempt from Income TAX in return for major reduction in Wage bill at least using a range of 1-80%.

4. Remove Income tax on anything below 30K

5. Temporarily nationalise all unoccupied residential, commercial, industrial property & land. Immediate commandeering by Gov of this vital resource hearlding a new process of land use. (Far more effective than a Property Tax!)

6. An oldie but a Goldie, walk away form Kyoto. There are more effective ways to deal with pollution.

I believe measure 1,2 & 3 Woudl help to alleviate a myriad of cash flow problems in public and private sector. Remember Gov have a total input to all cost with VAT. Reducing this reduces pressure and make pay reduction and unemployment more manageable. I mention this before well in advance of the UK announcement so it snot a new idea. VAT in Ireladn is onerous.

Why should the Gov pay VAT? Why should schools pay VAT? its all about control I know I kow but tbh tweill be the end of us all

[superpiper]

@kerrynorth

At least the early childcare allowance looks set for the chop. The most pointless payment ever made and a clear example of how government spending got stupid in the bubble years. It started off as a payment to working parents to defray childcare costs but so as not to piss off stay at home mothers they made it a universal payment. Absolute lunacy!

+1

But i think the government should encourage mothers to stay at home, and encourage people to have kids.

the’re the future!

[sharper]

@Open Window

3. Gov Payroll exempt from Income TAX in return for major reduction in Wage bill at least using a range of 1-80%.

The only way I see that ending with our savvy government doing the negotiating is with the income tax being removed and wages staying the same.

5. Temporarily nationalise all unoccupied residential, commercial, industrial property & land. Immediate commandeering by Gov of this vital resource hearlding a new process of land use. (Far more effective than a Property Tax!)

Good god

Please give me a heads up if this looks likely to be implemented so I can start claiming asylum somewhere else.

[ray]

If Brian Cowen had balls he would:

• cut his own salary in half
• cut ministerial salaries in half
• cut the number of junior ministers
• rationalise the expenses system, no more unvouched expenses
• cull the number of committees, no additional pay for sitting on those that remain, it’s part of your job
• Garda drivers and cars gone.
• Any other easy money schemes that they are in on, such as free parking
• Admit that they have fucked up bad
• Elaborate on a plan to get us out of the shit
• kill crazy schemes like Metro North
• review the NDP and promote those schemes that give real value or create significant work

If the opposition had balls they would be calling for:

• TD’s salaries to be cut in half, i.e. their own salaries
• expense rationalised
• additional pay gone

Now the standard excuse that is used is that these savings are a drop in the ocean compared to the savings required, they may be a drop in the ocean but it is the right place to start. Fianna Fail taking the high moral ground would be nigh on impossible but they need to do these things to gain any credibility.

Next, they need to lay out in a clear and concise manner the sort of shithole that we have fallen into. No need for exaggeration or wailing or screaming, just tell it like it is. We are taking in x, we are spending y. Lay out the plan that is going to be enacted to try and get us out of this mess. Pay must be cut, taxes must be raised but not to a prohibitive level.

Kill partnership, it really wasn’t a success, the governments gave, the partners took. There is nobody involved in the partnership process that represents the majority of the people bar our elected representives. The “partners” are VIs, they have a more immediate loyalty to who they represent than the country as a whole. Bar them all from government buildings for the foreseeable future.

The Public Service pay bill must be tackled, it is not a sacred cow. Please do not spin the line that you gained nothing from the boom. The pay levels stack up well to international comparison. The PS must be tackled as a whole and expenses cut but the elephant in the room is pay. Pension arrangements must be changed to a more realistic offering. This is a burden that the country can not carry.

Workers in the private sector are already suffering, job losses and pay cuts. However, we have to accept that there will be some level of tax increases. I would propose that both the top rate and the standard rate are raised to some degree. Property taxes should be applied to second homes, as introduced but at a higher rate. If as it seems, we are in a deflationary spiral then the minimum wage could possibly be reduced. I have mixed feelings on this one but I think it is necessary to gain competitiveness.

The public at large must sign up to the fact that in the short term services may be affected by these changes. This is going to be tough but in this case, needs must. I would hope that services for the poorest or most vulnerable would be protected but that is unlikley to happen as they will probably bear a significant portion of the burden.

I genuinely fear for this country.

[The_Unwelcome_Guest]

Is this suddenly the hare brained schemes thread?!?

[Open_Window]

@The Unwelcome Guest

Is this suddenly the hare brained schemes thread?!?

We did one about a year ago. Its time for some more!

[superpiper]

Is doing nothing a grand plan?

'Cause it looks like FF are doing just that