Imagine the frustration. You are the Minister for Finance or the Minister for Public Spending. The budget figures are way ahead of target. There is a general election coming up. But you can’t use a lot of the money for budget “giveaways” because your hands are tied by EU budget rules.
Welcome to the world of post-crisis budgets. Like other euro zone countries, Ireland must now comply with EU budget rules which are designed to ensure that, when times are good, countries do not use the leeway to spend more and tax less.
This is so that they will be able to ease up a bit when there is an economic downturn, allowing government policy to support a weakening economy.
In economic jargon it is called “counter-cyclical” policy – which means that when times are good, the budget is kept tight and visa versa.
It is also counter to the Irish political psyche, however, and is a complete reversal of what we expect to happen.
Charlie McCreevy may have summed it up in his “ when I have it, I spend it” analysis of budgetary strategy, but it is simply the way things have always been done here.
The government of the day calculates what it can afford and then goes and spends it on budget day – or in bad times takes it away via spending cuts and tax increases.
Economic cycle
Now all has changed. EU rules – and particularly the requirement to reduce the structural budget deficit, which is the deficit adjusted for the state of the economic cycle – means that the surge in tax revenue will not create more room for manoeuvre in next month’s package.
As the money pours into the exchequer, it is now clear that the targets for this year are going to be well beaten. Already tax returns are €1.4 billion ahead of target and this figure could rise to €2 billion by the end of the year. It could even be more if the key October self-employed tax returns are strong.
Last October, presenting the budget for this year. Minister for Finance Michael Noonan, targeted borrowing of 2.7 per cent of GDP this year. In the spring statement the forecast was revised down to 2.3 per cent of GDP. Now the likelihood is that the out-turn will be below 2 per cent, though the need to provide some supplementary funds to the Department of Health has still to be factored in.
Now put yourself in the position of Noonan or public spending minister Brendan Howlin. They will be faced inevitably with blank stares as they try to explain to their ministerial colleagues in the spending departments, and those clamouring for tax cuts, that EU rules limit their leeway.
Back in April the scope for tax cuts and spending hikes was estimated to be a net €1.5 billion at most. This may drift up by a little, but not by a lot.
Already the position-taking has started.
“Health are getting in early,” was the weary response of one senior Government official, as reports surfaced that the health service was looking for an extra €2 billion for next year.
It has no chance of happening, a fact clear to the Department of Health and HSE bosses. Yet in the old Irish budgetary game, the tactic is to hold on to what you have – all of it – and try to grab as much of the additional cash as possible.
The battle, as another insider put it this week, focuses on the additional money to be spent, rather than on the vast sums spent – and taxed – already.
The problem, in trying to stick to the EU rules, is twofold.
First is the economic reality that we are emerging from a deep crisis which was fixed with emergency tax rises and spending cuts. Because our debt and deficit levels are still out of line, the rules impose specific obligations on us. In turn this makes it difficult to unpick the tax rises and spending cuts made during the crisis.
This is where the second problem – the political reality – comes in.
How can you sell a budget which is clearly not going to meet a lot of the demands to undo painful cuts, “ abolish” the Universal Social Charge and so on, while at the same time people read about a booming exchequer.
Nor do the rules allow much leeway.
In fact, the Irish Fiscal Advisory Council, an independent body set up to advise the Government on budget policy, said in June that it had “ serious concerns” that, as things stand, the plans outlined for 2016 would breach at least some of the new EU guidelines, including the one which obliges us to reduce borrowing each year at a certain rate.
It also warned that the Government was not taking the idea of a spending ceiling seriously – choosing to adjust it each year – and that forecasts for the next few years did not take enough account of commitments already made and inevitable demographic and cost pressures.
This presents some key challenges for budgets in the next few years. One is how to deliver improvements in public services. At the moment the figures show spending continuing to fall as a percentage of GDP and staying roughly constant in cash terms up to 2020.
How on earth can this be managed while cutting hospital waiting lists, improving education services and meeting the myriad other demands on the exchequer?
To achieve this and stay within the rules the only options are either to improve the way services are delivered or raise taxes.
Also lurking in the background is the need to increase the level of public investment – capital spending on economic and social infrastructure which was completely hollowed out during the crisis. The price of these investment cuts is now being seen in the housing crisis and will be seen in many other areas in years to come.
The EU rules do allow a bit more scope for investment, and an imminent Government plan will outline a State investment programme for the years ahead. Some “imaginative” tools using off-balance sheet finance could also be employed, and if the EU Commission rules they are a ruse, by then the election will have come and gone.
This is the story of Budget 2016 and possibly of a few more to come – a battle between the demands to cut taxes and increase spending, the limited resources to do this and the need to stay within EU budget rules. But of course “we complied with the medium-term expenditure benchmark” is not going to be an election rallying call for Fine Gael and Labour.
The strong tax figures will give them some cover – tax revenues are likely to be €2 billion ahead of target this year, but the budget will add less than that to 2016 borrowing. Strong tax trends should also support the figures next year, provided there is no major economic shock.
There will be enough room to deliver on a lot of the budget targets, but the gains to individuals will still be modest enough – and the conundrum of how to deliver better public services will remain.
It will be presented as a mix of prudence and populism. We are underpinning the future but giving something back.
The job of Ministers now as they return to their desks is to choose which are the few priority areas to hit – because they surely will not be able to afford everything on their “ to do “lists . A further rise in child benefit is widely anticipated – a €5 rise was already promised and it may be more. Some other specific benefits are also likely to rise and there will likely be extra help for pre-school children.
Budget hint list: what's being eyed-up Ministers have not been shy in suggesting what might happen in the budget. Here are the main hints so far: A CUT IN THE USC This looks like a nailed-on certainty and has been directly referred to by Mr Noonan. The likelihood is that the main 7 per cent rate, which applies on earnings from roughly €17,500 per annum to just over €70,000, will be cut by at least one percentage point. This will be the biggest tax measure, with every one point cut costing over €250 million. Measures to exclude more lower earners from the tax are also expected.
MOVEMENTS IN TAX CREDITS/ BANDS There may not be a lot of scope here if a lot is spend on USC but a rise in the standard rate band, the amount you earn before entering the higher rate, can be expected.
MEASURES FOR THE SELF-EMPLOYED The self-employed on higher incomes pay more USC and there are calls for new or reformed reliefs to help this group.
CHANGES TO INHERITANCE TAX Capital taxes have increased sharply in recent years and the 33 per cent rate on inheritances is particularly controversial. The Government can take one of two routes: it can increase the allowances which apply, meaning more of the inheritance is tax free, or it can follow the example of the last UK budget and introduce special relief for the family home.
INCREASE IN THE OLD AGE PENSION This was floated recently as a possibility. It will be in the mix but it is not yet clear if it will happen as it is expensive.
INCREASE IN BENEFITS A further rise in the child benefit is widely anticipated – a €5 rise was already promised, and it may be more. Some other specific benefits are also likely to rise and there will likely be extra help for pre-school children.
NO BAD NEWS Above all, there will be nothing nasty in the budget. Nothing. A freeze will be promised on property tax until 2019, there will be no new charges or levies or significant spending cuts. After the water charges, the Government will not present any other hostages to fortune.
