The Chairman of the Parliamentary Budget Office (PBO), Giuseppe Pisauro, testified today before the Budget Committees of the Chamber of Deputies and the Senate as part of the preliminary examination of the budget measures for 2019-2021.
In his remarks, Chairman Pisauro analysed the contents of the budget measures, discussing the PBO assessment of their overall structure, of developments in the main public finance aggregates, of the main measures proposed and their effects.
Very briefly, the key points addressed during the hearing were the following.
Macroeconomic scenario – The economic slowdown already under way at the time of the presentation of the Update to the Economic and Financial Document has become more pronounced. The forecast of GDP growth in 2018 given during the endorsement exercise for the trend scenario is confirmed, while further downside risks are emerging for the coming year. According to the PBO’s short-term projections, the carry-over for 2019 would be equal to 0.1 per cent, making the objective for GDP growth next year (1.5 per cent) even more ambitious than that already noted previously.
The budget and the public finance scenario – The budget package causes the deficit to increase, both compared with the trend deficit and, for 2019-2020, compared with the expected outcome for 2018, which in the plans of the Government would only be achieved again in 2021. The reduction in the deficit in 2020 and 2021, however, would only be attained by maintaining part of the increases in VAT rates and excise taxes envisaged in the safeguard clauses, equal to 0.7 per cent (€13.7 billion) and 0.8 per cent (€15.6 billion) of GDP.
The public finance targets of the Government appear to be exposed to risks (weakening of macroeconomic conditions and the impact of recent developments in interest rates) and uncertainties (the effectiveness of measures to rationalise spending, the timing of the implementation of the rules for the “citizens’ income” and the reform of the pension system, and the effective achievement of the policy targets for investment spending).
In the PBO’s most recent assessments, which incorporate the budget measures at their face value, general government net borrowing would amount to 2.6 per cent of GDP in 2019. More specifically, the divergences with respect to the forecasts in the Update and those recently released by the European Commission can be ascribed to differences in the forecasts for economic growth and the impact of the widening of the interest-rate spread on interest expenditure.
The new tax regime for VAT number holders and changes in corporate taxation ‑ The budget contains provisions that will have a significant impact on business income taxation (the elimination of the entrepreneurial income tax (IRI) and abolition of the allowance for corporate equity (ACE)) and taxation for VAT number holders with turnover below €65,000 and between €65,000 and €100,000, which would affect about 80 per cent of the self-employed and sole proprietors.
The new tax provisions (which are expected to increase the tax burden by €6.1 billion in 2019 and reduce it by €0.5 billion in 2020 and €1.8 billion from 2021) produce even greater fragmentation of the tax system and introduce a number of major structural changes. Although an optional tax regime, the IRI would have introduced greater fiscal neutrality in the choice of the legal form of an enterprise. Its abolition and the introduction of the new system for self-employed workers and sole proprietors bases the different possibilities of taxation not only on the legal nature of a business but also on its size, essentially creating three tax systems: the progressive IRPEF regime (which applies to sole proprietorships opting for ordinary accounting rules and partnerships) and the proportional IRES system (which applies to corporations) are now flanked by an additional proportional tax scheme for sole proprietorships and self-employed persons based on a withholding tax.
“Quota 100” and the pension reform fund ‑ A detailed assessment of the adequacy of the resources in the pension reform fund to meet the objectives of the reform of the system (€6.7 billion in 2019 and €7 billion as from 2020) will only be possible after approval of the criteria for the implementation of the possible new retirement option. If pension eligibility under this option were determined on the basis of achieving a possible “quota 100” as the sum of an age of at least 62 years and at least 38 years of contributions, the measure could involve up to 437,000 active taxpayers in 2019. If the entire pool of potential beneficiaries opts for this channel as soon as they meet the requirements, gross pension expenditure could increase by nearly €13 billion in 2019 before essentially stabilising in subsequent years.
This estimate is obviously not directly comparable with the resources appropriated for the pension reform fund for various reasons, ranging from the rate of replacement of potential retirees with new active workers to other factors, both subjective (health status or disutility of work) and objective (rate of substitution between income and pensions, prohibition on combining pensions and other incomes, other penalties). The fact remains that, according to PBO estimates, those who opt for the quota 100 system would incur a reduction in their gross pension compared with what they would receive if they retired at the earliest possible opportunity under the current regime ranging from about 5 per cent if they stopped working only one year early to more than 30 per cent if they retired more than 4 years early.
Measures to revive investment – Reviving public investment is one of the priority objectives of the Government’s strategy, which wants to return investment spending to its pre-crisis level of 3 per cent of GDP. To achieve this, the budget package allocates resources for investment and investment subsidies totalling about €1.4 billion in 2019, €6.5 billion in 2020 and €7.6 billion in 2021, divided into two funds, one for central government and another for local authorities. The package also envisages changes to the regulatory framework (in particular, amendments of the Public Procurement Code and the budget rules of local authorities) with simplification and corrective measures. It also introduces tools to remedy the technical and organisational deficiencies of government entities, especially local governments, in planning, designing and assessing public investments.
The objectives are a welcome step, even if their achievement appears ambitious in the light of recent experience, which in 2017 saw investment expenditure decline further to €33.8 billion, more than €20 billion less than in 2009. For 2018, the Ministry for the Economy and Finance (MEF) expects public investment to have contracted again, to around €33 billion.
Local government finance ‑ A significant part of the budget package is aimed at increasing the spending capacity of local governments, helped in part by the revision of local finance rules, which, in line with Constitutional Court rulings, allows them to use surpluses from previous years (“avanzi di amministrazione”). The amount of surpluses that could be used more quickly than assumed by the Government with previous legislation appears to be large, albeit uncertain (about €16 billion, compared with €22 billion in surpluses potentially available for spending recognised in local government accounts), especially considering the fact that they would be used for projects long postponed during the spending squeeze in previous years. A geographical analysis of the impact of the measure reveals differences between the various areas of the country, with a greater concentration of surpluses available in the North.
In the Budget Bill, each authority is also allowed to finance investments with new borrowing, with the only restriction that the debt repayment plan must be sustainable. The measure would allow an acceleration of investment expenditure already financed by loans, through the free use of the “Constrained Multi-year Fund” (“Fondo Pluriennale Vincolato”) financed with debt, but would result in new borrowing starting from the very first year, with an immediate impact on the general government deficit and debt.