The Moorish Wanderer

A 5-year Austerity Package The Government Wouldn’t Dare Think About

Posted in Dismal Economics, Flash News, Moroccan Politics & Economics, Morocco, Read & Heard by Zouhair ABH on August 14, 2012

It is plain clear now we are headed toward the end of an expansionary cycle that dates back to late 1990s. Government stimulus cannot do much about it, and we have to bite the bullet. Not only that, but the “if it ain’t broken don’t fix it” policy about Morocco’s structural problems has taken us down the dark path of debt. Austerity, as I have mentioned before several times, is necessary to pre-empt any draconian conditions if we ever fall short.

From BKAM annual report, 2011. The Compensation Fund has reached historical levels, and threatens more than just budget balances.

The austerity package, like all austerity packages -but unlike the present course of action down here- involves both sides of the balance sheet: revenue enhancement as well as expenditure. The single biggest budget problem, I would argue, has a lot to do with the subsidies: in the name of stabilising prices (and preventing social unrest) the Compensation Fund exploded in absolute and relative terms, to threatening levels to the budget and foreign trade.

Taxes: Close Loopholes, Simplify the Tax Code, Broaden the Tax Base

In effect, these principles call for a radical re-alignment of tax sources: the treasury relies too much in indirect taxes, stamp duties and other discretionary revenues, which either denotes of an institutional weakness to extract taxes where it needs to, or chooses to pick easy targets (read: the middle class) rather than confront powerful special interests. From a personal point of view, I can hardly find economic (and quantitative) argument behind allowing farmers and real-estate developers generous tax breaks, and even subsidies even as their profits are going sky-high.

This is an opportunity to assert an economic-oriented fiscal policy, instead of the daunting pile of bureaucratic regulations, with no economic justification whatsoever: why would we make individuals pays VAT on some of their subsidized consumption? And why would we keep the arcane progressive taxation system (designed some 150 years ago when Teddy Roosevelt was President) when we have much more sophisticated (and simpler) taxation systems? Not to mention the chaotic fiscal structure: the academic body of evidence is overwhelmingly in favour of keeping the overall fiscal pressure constant over time, and it clearly isn’t.

a little more than 40% of total major taxes come from consumption. Guess why the Government cannot commit to a serious subsidies reform?

Let us look like at the numbers: the total fiscal receipts for the 2012 Budget is expected to be 170.67Bn MAD: that’s the total amount of taxes expected to be collected from VAT, Corporate Tax, Income Tax, Customs and miscellaneous stamp duties. To give you an idea of how much that broad measure of fiscal pressure, think of it as the Government’s share in every good and service produced in this country, and that is GDP: 21.2% of it goes into the pockets of government – and that is not enough. They borrow money too, but that’s another question. Incidentally, you can find the best evidence explaining why the past governments and the current one cannot commit to a serious reform on the subsidies system: about 40% of the main taxes come from consumption, that is a third of total fiscal receipts. this mainly VAT-funded receipt has a perverse link to the subsidies: the higher consumers buy subsidized goods, the higher VAT receipts are going to be, and the better the treasury will feel about its primary balance. A defiant reform  of the Compensation Fund would mean the instant denial of a lucrative resource to the budget.

Obviously, there is nothing wrong with the existence of a government funding itself through taxation – for those interested in the theoretical argument behind it, there are some papers worth looking into (don’t get sidetracked by the Maths, the conclusions are rocking) but, the present structure is flawed: 14.35% of these fiscal receipts are coming from discretionary taxes. So the main course is the so-called distortionary taxes, i.e. those who affect the behaviour of all agents, consumers or businesses: VAT, Corporate and Income Taxes. The optimal fiscal policy is actually far simpler than the arcane tax code we currently have: we first look at the contributions of each aggregate component to GDP, then produce at a long-term rate the respective average rates for labour, taxes and consumption; We know for instance that Capital relative contribution to wealth creation (that is, GDP) ranges between 33.5% and 32.7%, while that of Labour captures the remaining to 67% to 66.5% (the odd discrepancies, around 0.16% is left to technological progress) – assuming a long-term average maximum fiscal pressure of 19.2%, total primary fiscal receipts should be around 151Bn dirhams (against the current 123Bn for the 2012 Budget) with Consumption and Income Tax accounting for 96Bn and Corporate/Capital tax for the remaining 54Bn. These are moderate tax increases considering the present levels, but then again, the effective tax rate on the capital stock is less than 2.6%, and total taxes on the labour force around 11% (consumption and production). Why so? First, these discrepancies belie the unequal distribution in both income and consumption, and second, Morocco is a developing country, so the effect of taxation on low capital stock per capita (181,759dhs) can hamper growth. Note that I referred to the capital stock, and not its distributed dividend. Taxes on labour and consumption are further split into respective 48Bn – an effective tax rate per household of 7% (recall the pure income tax from an earlier post) and 11% per household consumption (that new consumption rate I might post something about).

Based on a pessimistic 4.3% annual growth (average growth since 1999) all the way up to 2022, this should be the expected level of fiscal receipts from the proposed tax system.

All in all, without boring you with the details, this fiscal revamping should be a net tax cut of 12Bn, down from 171Bn to 159Bn(we make room for various discretionary taxes worth 1% of GDP) what is more, the broader definition of fiscal pressure is brought down below 20% of GDP, the closest I can get to the Hauser ceiling.

These computations are based on the aggregate number of households, including the agricultural sector – this reform effectively ends the subsidy where fewer than 15% wealthy farmers benefit from a tax break on potentially as much as 90Bn worth of agricultural products. In the process, fiscal equality rewards other sectors and agents by cutting their taxes and/or simplifying them. Finally, I would like to point out these figures are computed on the basis of a 4.3% annual GDP growth with historical volatility, which means the uncertainty factor has already been taken into account.

Expenditure: Freeze, Cuts and Postponements

This is always the least popular item in the austerity package (as if austerity wasn’t already a killjoy), especially when there are talks of cuts to public service pay-wage and related items. And if any serious fiscal consolidation were to take place, it will do something about the 94Bn expenditure on human resources, especially the higher echelon.

Though cutting expenditure is not on the table, it would be interesting to see how a freeze on half the civil service – and a 2% annual increase for the lower echelon. Let us not forget that for the last couple of years, the average annual salary was 192.000dhs per annum, i.e. 65% more than the average annual income per household, and about 3 times more than the median income per household. If anything, the average income where at least one breadwinner is working with the civil service could be earning more than 83% of all the households in Morocco. Fairness dictates some of these civil servants need to see their taxpayer-funded salaries trimmed a bit.

The other juggernaut is the Compensation Fund: never, since the early 1980s, has household consumption been so heavily subsidized, and yet the large gap in consumption and standard of living creeps in, stronger than ever. A complete overhaul of the fund will have an initial negative effect on household consumption, but then again, it should not last no less than 10 quarters (based on domestic exogenous shocks) or 15 quarters if exogenous effects from foreign trade are taken into account; this means any unpopular reform needs to be undertaken at the very first year, until the negative effects eventually die away before election season. My plan subsidizes about 20% of the median consumption basket to the benefit of 60% Moroccan households, costs in 2012 about 25Bn and is indexed to household consumption growth. The poorest 10% receive an annual cash relief between 7,200 and 9,500 dirhams. Incidentally, it cuts subsidies twice its current budget and insures strategy-proof allocation of subsidies to those who genuinely need it, and does not harm middle class standards of living.

The Debt, Rates and PSBR

This whole austerity problem is not out there to serve a sinister right-wing dogma: our fiscal house was quite in order for the past decade, and yet we did not bother to push for continuous reforms; instead, the past government chose an unnecessary large tax cut (from 4 to 7Bn in 2007-2008) to the wealthiest while nothing was done to close loopholes and tax breaks for the privileged few. Obviously, these tax cuts and preferential treatment were funded by increasing public service borrowings: it went from 51Bn in 2007, to 65.7Bn in 2012, and that number can be expected to increase even further.

What the government fails to understand -and so would Paleo-Keynesians in the process- is that public borrowings are crowding out small businesses and individuals; this is even more perverse as these small companies in business with public service procurements are punished twice: the budget pays at later terms, and takes away the existing liquidities from M3. Big business is secured in its day-to-day financing; it is the small guy who takes the fall for the growing public debt.

Accordingly, there is a need to introduce a ‘debt ceiling’ mechanism, where over-borrowing is subject to a floor vote in Parliament, and conditioned by commitment on behalf of ministerial departments to cut or freeze spending over the same period of time the newly issued debt matures; for instance, a 5-year treasury bond has to be matched with spending cuts/freezes whose effect is likely to last 5 years as well. In this particular example, The expected borrowings cannot go beyond 5% of M3, or 47Bn in 2012.

Bottom Line: What Will You Bring Us, Mr Moorish?

Blood, Toil, Tears and Sweat. Well, almost. Unfortunately, making the deficit disappear while fighting government debt is mission impossible; if anything, there will be a large deficit in 2012 (about 7% of GDP) but that gradually disappears, with the first surplus reached by 2020. If anything, the effects of this 5-year austerity plan show around 2018, too late for the 2016 general elections. On the other hand the size of government relative to GDP would have shrunk from the current 44% to 25% by 2021, with all public services and welfare mechanisms in place. The deficit for 2012, projected to be 55Bn, would gradually go down until it reaches 20Bn surplus – or 12Bn if 8Bn dividends are not taken into account. We would however left by then the danger debt zone, with projected overall public debt ratio of 50% by mid 2014 to 2015, not to mention a robust 3% growth in public investment.

“The path Of Prosperity” vs “The Light at the End of the Tunnel”

If anything, the Moroccan economy would look at lot healthier by 2018: lighter, better and fairer government touch, lower tax burdens, lower rates and sustainable deficits and public debt. As always, any of these reform proposals assumes incredible courage among our elected officials, and a sheer willingness to take on special interest, lobbies and established rents. And most of all, an unwavering sense of social justice, because fiscal consolidation, whatever its initial motive, tends to fall harder on the weak, and treat harshly the middle class.

Only a keen interest in keeping suffering at the lowest possible level can bring about the broadest consensus around austerity; for this like so many other policies, a sense of purpose is needed, and carried by committed responsible politicians.

One Response

Subscribe to comments with RSS.

  1. […] always difficult to convey cautionary tones, or even urge pre-emptive moderate austerity measures (from my own point of view, anyway) when both sides of the pond are screaming Armageddon. But the fact remains levels of debt stock […]


Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s

%d bloggers like this: