10 August 2005

The Web

Seeing a turnaround

Parliamentary secretary Tonio Fenech talks about the pre-budget consultation document and gives his views on the current economic scenario.
The parliamentary secretary believes there is a turnaround in the economy even if government remains concerned with the sluggish growth and rising inflation.
Fenech argues that despite negative growth in the first quarter, the GDP has to be analysed according to its components which indicate that government’s control on expenditure has had a negative impact on growth.

Government is asking for reactions and submissions to the pre-budget document but during the press conference that launched the five year plan, the Prime Minister made ample critical references to “opinion makers” who have expressed a negative outlook of the economy. Lino Spiteri made reference to this seemingly contradictory position in one of his writings. Why the criticism of opinion makers?
I don’t think it was criticism, rather the Prime Minister referred to certain remarks made. The Prime Minister talked in generic terms and probably Lino Spiteri took the remarks as reference to his writings. Lino Spiteri is one who adopts a constructive approach when criticising and his arguments even about the pre-budget document raised certain question marks that are understandable.
But government feels that there is a general tendency in the country to look at the negative side of things ignoring the positive aspects. This could be a writer’s personal attitude and I do not believe that in most cases it is the fruit of some hidden agenda.
We have to keep in mind the running joke among economists that if one were to put five economists in a room, the result would be six different opinions. What one economist says does not necessarily represent the whole picture. Given we are a small country, when one or two economists express their negative views then automatically the economy is perceived as going through a bad patch.
The pre-budget plan tries to give an objective overview of the economy and raises issues which are preoccupying government such as inflation. Economic growth which is not what we desire is also an issue of concern but it does not mean that because our GDP has not increased statistically the economy has not grown.
We have to look at the individual components of what constitutes GDP. It is made up of all the wages paid to employees and the profits declared in the country for a particular period. If wages and profits do not increase the analysis will indicate an economy that is not growing. That is an understandable statement on a technical level.
But we have to understand which components are not growing. If wages in the public sector are not increasing economic growth can be hampered. Should government raise public service wages or employ more people simply to increase the GDP?
If we are to be consistent with the objective that government has to reduce its expenditure to give the economy more space to grow and eventually lessen the tax burden, that would in the short term have a negative impact on GDP.

You don’t seem worried by the economic situation. Is it a contained problem?
There are a number of indicators that show there is a turnaround in the economy. For the first six months of the year unemployment decreased by 1,000 and is now established at one of the lowest levels for the past three years. This goes to show that the economy is generating jobs.
Increases in government revenue were registered in the first half of the year from income tax and VAT over projected figures as opposed to year-on-year figures, where it would be obvious that VAT collected this year is higher because of the increased rate.
This is an indication that consumption is up and importation levels are being sustained.
Government finances are also on target as projected in the last budget.
The government is not trying to depict a rosy picture as if we can go on holiday for the next two years, but we have to state all the facts.
Government has adopted certain measures and taken hard decisions but we are also reaping positive results from them. We cannot speak solely of doom and gloom.

Both Lawrence Gonzi and yourself have attributed higher inflation to price rigidities, government-induced costs and rising fuel costs but you have not reacted to the argument that the investment registration scheme may have prompted people to repatriate money fuelling consumption and cranking up inflation in the process. How do you react to this argument?
The recent registration scheme witnessed the registration of around Lm130 million but not more than Lm17 million were effectively repatriated. People opted to register and regularise their position but preferred leaving their money in foreign investments. We do not believe that the inflation over the last six months was brought about because of repatriated funds. The registration scheme closed at the end of June and people left it for late to register their funds. It is not as if they started repatriating funds from the beginning of January.
The inflation in the property market last year may have been caused by the previous registration and repatriation scheme of 2003 with excess liquidity being invested in property.
We have conducted a detailed analysis of the inflation we are experiencing now and there are a number of factors that have contributed including government-induced costs. The surcharge on utilities has had an impact on inflation but it was required to stave off higher fuel costs.
But we also noted increases in a number of products which were not linked to higher fuel costs. We are talking of everyday products such as detergents, shampoos, toothpastes and coffees. Surveying international prices showed us that in some instances products were experiencing price reductions abroad while here in Malta their prices were rising.
There could be various reasons for this but the most probable is that the internal market is not functioning competitively. The pre-budget document states that the office of fair competition should be strengthened to ensure fair competition in a market where price orders are no longer the order of the day.

For the last three months the Prime Minister has consistently expressed his apprehension at rising inflation. Last week Parliamentary Secretary Edwin Vassallo went as far as suggesting the introduction of price orders in certain particular circumstances. What is government going to do about the problem?
The concept of price orders is very difficult to implement unless we want to create other problems. Even the pre-budget document makes reference to this.
I do understand Edwin’s argument and it is true that we have to exercise more control in certain aspects. Strengthening the office for fair competition will help us stamp out abuse in prices. It is not acceptable to have somebody sell a small bottle of water for Lm1 in a tourist area. This is theft and it is causing our tourism sector harm.
In this respect I agree with Edwin that we have to come down with a heavy hand on those who abuse in such a blatant manner. We can do so not necessarily through price orders but by surveying prices and targeting those individuals who are abusing.
But I am talking on a more general level rather than of individual abusers. The office of fair competition has to be empowered to ask for price justification from importers because it can result that a particular importer has effective control of the market for one particular product leading to internal price fixing.
We have to enter into dialogue with importers and operators similar to what happened in Italy when Berlusconi reached an agreement with major supermarkets not to raise their prices.
Unnecessary inflation is detrimental to the country because it causes a ripple effect by triggering wage increases, which in turn will render the country less competitive.

There has been criticism that the document does not contain specific measures. It is useless having a grand vision without knowing how to achieve it; the devil is in the detail. Where are the specifics?
One year ago the criticism was to the contrary. Government was accused of having specific proposals but no overall strategy. The document does contain specific measures in certain areas but it is not the budget. The details will be made known then.

You gave a commitment that the forthcoming budget will not include tax increases. What about the tariffs and fees payable to government departments and authorities, will they go up between budgets?
As a thrust in this budget we are not looking at increasing the level of taxation unless there is an extraordinary circumstance that we cannot foresee at the moment. Such a commitment has to be seen within a context where certain things such as the price of oil are beyond government’s control.
We believe that we are meeting our tax revenue targets for this year and therefore there shouldn’t be a decline in the subsequent year, we are also reducing government expenditure and controlling it and if the economy continues to grow that will help us reap better revenues. In such circumstances we don’t see the need to introduce new tax measures.
As for tariffs and fees the document makes it clear that we want to reduce the regulatory burden on the economy. We have to analyse the fees and any new proposal for fee increases have to be justified at cabinet level otherwise they will be blocked.
The mentality of public entities that their expenses are automatically passed on to operators is not an acceptable concept.

Government has embarked on a restructuring exercise of State-owned companies but there is a wider structure of regulatory bodies and authorities that have mushroomed over the last few years where restructuring has not taken place or is not being seen to take place. When are these authorities going to be restructured?
There already is a restructuring process happening. We set up the Financial Monitoring Unit at the finance ministry and the committee in the office of the prime minister which looks at the deployment needs of these entities. We have recently passed an amendment in Parliament whereby financial accountability of these authorities now lies with the finance ministry. The authority would still remain within the remit of the particular minister’s portfolio but the minister of finance would have the right to give instructions on cost reductions.
The FMU also has the right to carry out cost and operation reviews to identify cost components that need to be controlled, issue directives as regards hiring or purchase of cars, what allowances are being dished out to have consistency.
The regulatory authorities were the product of a policy that sought to distance itself from the pre-1987 frame of mind where everything was concentrated in the hands of ministers. Today we have to be careful that the pendulum does not swing too far on the opposite side, with autonomy meaning less accountability.
We want autonomy with accountability because these authorities are funded by the taxpayer. The work of the FMU is already being felt and it is not the first time that I receive a phone call from the chairmen of these authorities stressing that they are supposed to be autonomous. These phone calls confirm that the FMU is doing its job well.

The pre-budget document speaks of a task force that is to review the taxation system by June 2006. Would this mean a change in the taxation system as early as 2007?
It all depends on the recommendations made by the task force. Over the past months there has been a discussion on whether our taxation system is competitive or not when compared to other European states. A suggestion was floated for a flat rate type of taxation system and similar arguments.
I think that most of the arguments made displayed an ignorance of how our taxation system works. The taxation system as it is today has a very competitive structure.

It is true that profits are only taxed once unlike systems where apart from personal income tax there is also a corporate tax, but the 35 per cent bracket is reached in no time at all…
This is what we have to be looking at. But we are not thinking of dismantling the income tax system to introduce a corporate tax structure. This would be the downfall of our financial services industry. If we look at the report published by Ernst & Young where they surveyed various CEOs of large companies, it is clear that the CEOs found our tax structure very attractive.
I agree that our tax brackets may be too aggressive and so reducing the propensity to earn more.
The document also suggests introducing a scheme for self employed who employ one, two or three persons whereby the tax bands for these individuals would be adjusted according to the number of people they employ.

What is your opinion on a single income tax rate?
I am against the introduction of a second layer of taxation at company level but a proposal to do away with the various income tax brackets and introduce a single rate for income above a tax free band is something that can be considered. It obviously has to be studied in detail to see what revenue government might lose because such a system will have an impact.
What prompted government to contemplate a shift of taxation from income tax to environment-related taxation?
A lot of importance has been given to this matter but environmental taxes can never entirely replace income tax in terms of the volumes that can be generated. We can try to relieve the tax burden on productivity and labour by shifting some of the burden onto activities that are harming or damaging our environment and natural resources. But these will not generate a lot of income. Rather than a huge shift in policy, environmental taxes could be one way of reducing the income tax burden but not eliminating it altogether.
From the list of proposals in the pre-budget document it is the third option out of four proposals and not the first.

Last Sunday John Dalli wrote that foreign direct investment is still hampered by excessive bureaucracy. Foreign investors come here to enquire about the opportunities available but they are left to wait for an answer or not given attention. What is being done to remove these hurdles?
I agree with John’s comment. Anybody who comes here to enquire about the possibility to invest in Malta would have already done his homework on the tax system, the country’s infrastructure, the communication network, the type of human resources available and so on. Our competitive edge at that stage is how fast we can meet the investor’s demands. This is the secret of success in FDI.
We have to be quick in our responsiveness because if others beat us to it the chance for securing that particular investment can be lost.
Unfortunately, this is a cultural issue that concerns both the public and private sectors. How can we instil a culture of urgency in dealing with foreign investors? Malta Enterprise is being effective in this sense but on its own this is not enough. We have to make sure that all entities with which potential investors come in contact with are in tune with the needs of business. There are the more complicated issues such as planning permits but even the simple issuance of a visa for the person to come to Malta is of concern for investors.
On the other hand there is a balancing act to be done. Just because somebody is going to come and build a factory in Malta I cannot throw all environmental caution to the wind and just issue the permit. The issue is timeliness. We have to follow established procedures, where necessary even reduce the time taken to process certain things but more importantly we have to instil the culture of acting on things with urgency.
We are seeing an element of investment that is coming to Malta. Recently there was a pharmaceutical company that pledged to invest some EUR50 million by 2006. There are areas where we are seeing some movement.
Privatisation of the energy sector was mentioned for the first time in the pre-budget document. What is government understanding when it talks of privatising a sector considered by many to be a sacred cow?
Privatisation of the energy sector is not completely new to Malta. There were elements of the energy sector that were in private hands and nationalised by Mintoff in the seventies. Given our small island status the issue is very sensitive because handing over the energy production and distribution to a private contractor may create a monopolistic situation, even if it can still be regulated.
We are widening the vision. There are elements of Enemalta’s functions that will be liberalised by next year such as gas and fuel distribution. As regards electricity generation we are seriously looking at the matter especially if privatisation will hook up the country to the European grid, which will enable us to purchase electricity from other countries.

The electricity surcharge should have been reviewed after six months. Has the review been conducted?
The level of oil prices as is does not justify a reduction of the surcharge. It really depends on how the prospects will be looking when we arrive to the budget. At this stage things are not really looking that good. Obviously this is a very volatile market and the state of play is very much still under review.

Where do you see this country in 2010?
It has to be a country with a growing economy that ensures a high standard of living. I want to see a dynamic economy, with a manufacturing sector dependent on processes that turn knowledge into value. A country that offers a better tourist product more focussed on our historical heritage. And in general we should have a well-skilled population to be able to rise to any challenge.

Tonio Fenech was interviewed by Kurt Sansone

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