Government must get this budget right and not waver

OPINION:The public will have to be convinced of the need for further sacrifice and that the approach is fair

THE BUDGET on Tuesday will represent a huge test of political skill and courage on the part of the Government, but it will also be a test of whether our democracy is capable of responding in a spirit of solidarity to the worst economic crisis since the 1930s, or whether sectional interest will prevail over the common good.

On Tuesday, Minister for Finance Brian Lenihan will have to speak to a number of different audiences simultaneously. He will have to convince the public of the necessity for further sacrifice, while showing them that the approach is fair. He will need to demonstrate to everybody that the Government finally has got to grips with the disastrous state of the public finances.

Reassuring international capital markets that the Government’s approach is tough enough will be vital, but Lenihan also has to guard against killing the goose with too powerful medicine.

On the political front, the Minister will have to avoid mistakes that could generate public and media hysteria and see the budget undermined by a relatively minor issue. As well as neat political footwork from Lenihan, the current crisis will require a mature response from society as a whole, with an acceptance by everybody of the need for sacrifices. In the past few weeks there have been some hints about the broad shape of the emergency budget. For a start, the borrowing target will rise to about €20 billion this year. This is a whopping figure and is clearly unsustainable for any length of time, but the Government has decided that it cannot meet its earlier target of keeping it at €18 billion or 9.5 per cent of GDP.

It looks as if the total size of the package of savings and tax increases on Tuesday will be about €3.5 billion this year, on top of the early €1.5 billion in savings announced in February. That is less than some economists would like and there is a danger that it will not be enough to get the public finances in order quickly enough. An even bigger danger is that the Government will place the emphasis on raising more tax rather than getting its own spending under control.

The EU Commission has accepted that the earlier target will not be met but it will need to see clear evidence of a plan to get borrowing down over the next four years and that will require firm action to cut public spending and deal with the so-called structural deficit in our tax system. Persuading the commission to accept that the structural deficit was the central problem and that the cyclical deficit should be removed from the calculation for the moment was a significant achievement. However, it was also a glaring admission that the Government itself was primarily responsible for the state we find ourselves in.

The Central Bank issued a very clear warning yesterday about allowing the borrowing target of 9.5 per cent of GDP to slip too far. It seems to be worried that the Government’s distinction between the structural deficit and the cyclical deficit could be used as an excuse for not doing enough. So what of the budget measures? For a start income tax will rise significantly. It will manifest itself in the form of more tax levies this year, feeding into increases in the standard 20 per cent and higher 41 per cent rates next year. A new top rate is also a possibility.

Broadening the tax base is now essential and that is what all the talk of the structural deficit is about. It is probably too late this year to bring in new taxes but the Minister is likely to indicate a commitment to introducing a property tax next year and to taking overdue steps like taxing child benefit.

Excise duties on the “old reliables” like alcohol and cigarettes are also likely to go up in the budget. There is an argument that putting more tax on cigarettes will encourage smuggling but the revenue and health arguments are irresistible. Petrol will also go up, although this is likely to be categorised as part of a new carbon tax.

While tax increases are inevitable, almost all economists and outside agencies like the commission would like to see the primary focus on spending cuts rather than more tax as the way out of our difficulties. The problem is governments always find it much easier to tax rather than cut spending. The latest official figures show that on current trends the exchequer will raise about €34 billion in taxes this year but its spending will be more than €65 billion. Serious cuts in spending will have to take place this year and in the years to come to get the two sides of the equation into some sort of balance.

Social welfare spending at €21 billion and rising due to increasing unemployment is the biggest item of Government expenditure.

Cuts in basic rates are unlikely on Tuesday but a strong signal that they will come down next year in line with falling prices will not be a surprise. Some of the more peripheral payments like the early childcare supplement may well go immediately.

After welfare, public service pay is the next biggest item of spending. With the pension levy just sinking in a pay cut is unlikely but a clear signal of pay cuts in the years ahead if things continue to deteriorate may be on the cards. With serious pay cuts across most of the private sector now spreading into commercial State organisations like RTÉ, the case for reverse benchmarking of public pay is becoming overwhelming.

The important thing on Tuesday is that the Government has a clear, coherent plan, and that it holds the line against inevitable attacks from all quarters. There is no room for any further mistakes.