April 2012
Expert’s opinion
Author: Prof. PhD Petar Ivanović
Taxes Should be Reduced, not Increased! The fact that less income than expected has come in than was originally budgeted for, has recently sparked a number of heated arguments. The resulting dilemma is: should taxes be raised or not? The Ministry of Finance estimates that, at present, there is a deficit in the budget of €30 million and that such an amount could be retrieved by increasing, in the first place, value added tax from its current level of 17% to 19%. Since the Ministry does not have the courage to directly propose this, the responsibility for such a proposition must be passed to the International Monetary Fund, and presented to the public with some level of pressure. It is a frequently overlooked fact that loans are not usually imposed, but are rather independently sought after of requested! Therefore, the safest way to resist “pressure from international financial institutions” is to not request loans from them in the first place. One of the principles of economic liberalism is to advocate for low tax rates. Judging by comments that one reads at the present time, the number of people who support economic liberalism in Montenegro is on the increase. That is great! I hope that the same principles and arguments will be also be used during future discussions concerning other issues. Regarding taxes, I object to them being increased for at least ten reasons: First, a tax increase would slow down economic development. Tax in the economy is the same as fat in our blood vessels. Blood cannot flow through veins nor can it carry the oxygen needed for the development of any individual if it encounters obstacles such as fat. Businesses cannot work smoothly and generate profit, without which function a society cannot develop, if they face obstacles such as high taxes. I don’t know any top athletes who have fat in their blood. If we want a top level economy, we have to cut taxes; we cannot increase them! Second, the problem is not about the percentage figure, but about the base level. In order to attract a higher level of income into the budget, economic growth should be higher; in other words, people need to work harder and to earn more! A number of research projects that have been carried out show a negative correlation between tax increases and economic growth, and vice-versa; that there is a positive correlation between tax decreases and economic growth. The expectation of increasing the budget by increasing taxes, without the economy feeling any consequences, is rather like a skier looking down a hill as an avalanche approaches from behind, or like a pedestrian looking to the right down a road as a lorry approaches from the left. We are presently looking the in the wrong direction! Our focus should not be on tax increases, but should rather be on the issues that are preventing us from achieving more. And many of the reasons that are preventing us from achieving more can be found within the jurisdictions of the institutions whose existence requires tax increases. Third, an increase in taxes would reduce Montenegro’s competitive advantage. Montenegro has been the leader in the region, measured in terms of the speed of company registration, requirements for founding capital, a stable currency, low taxes etc. Due to the fact that Montenegro was more competitive than other countries in the region during the last five years, it managed to attract €3.7 billion in direct foreign investments. More recently, however, its competitive advantage has started to fade as others have become faster and more efficient. If this component of its competitiveness (relatively low taxes) is lost, its future expectations will diminish significantly. Fourth, an increase in taxes would not diminish the informal economy, but would have quite the opposite effect. Prohibitions, restrictions, complicated procedures and high taxes, are the most common causes of an informal economy. With the elimination of prohibition, the simplification of procedures and a reduction in taxes, the causes of an informal economy are removed. If our real goal is to abolish the informal economy, then let us cut down on taxes! Fifth, an increase in taxes would protect unproductive jobs whilst endangering productive jobs. An analysis of numerous institutions shows that administrative costs in Montenegro are both high and
excessive. Such administrative costs are financed through the budget. Is it more important to preserve productive or unproductive jobs for the sake of Montenegro’s future economic development? What is more important: administration or entrepreneurship? To protect those who consume or to protect those who produce and generate? Sixth, an increase in taxes would cause an increase in the level of inflation. This statement is not even opposed by those who support an increase in taxes. However, the dangers brought by inflation are very well known. Seventh, an increase in taxes would attack the spending power of every individual citizen. Citizens would not only pay more for products, but would also be able to buy less as their purchasing power would drop; they would have to give up buying some products or services. Overall, the total level of demand would decrease. Eighth, an increase in taxes would reduce company investments in Montenegro. There is a great difference between VAT and sales tax. If VAT were increased, the price of all products would increase; production costs would also consequently be much higher. If we add a decrease in demand to growing costs, it is not difficult to conclude that the revenue of many companies in Montenegro would fall as a result. As a consequence companies would find it difficult to repay loans, and would find it even more difficult to invest into new projects. Ninth, the proposed tax increase represents a growth of 11.76%, not just of 2%. An increase from 17% to 19% is not “just increase of 2%”. In that case the level of tax would be 17.34%, but this is actually an increase of 11.76%! An increase of 11.76% in taxes is a huge hit, a shock, and a massive disruption; it is not just a meaningless increase. Tenth and finally, an increase in taxes would not solve any of the essential problems in Montenegro, but would only postpone them. Before making any decisions, economists, even politicians, must make a full cost-benefit analysis. Their decisions will be considered as meaningless if the result does not create greater benefits than it does costs. That is why it seems to me that all of those in favour of raising taxes are misled by their own failure to understand economics, by their failure to understand the problems associated with sustainability and with the development of the economy, by the numerous losses and irreparable damage that would occur, and by the fact that such damage would go way beyond any shortterm benefits that may be achieved; even if that achievement were simply self-satisfaction, such as: “We have accomplished our goalthe budget balances!” Source: Daily news Pobjeda (March 18, 2012)
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