IMF recommends smaller tax cuts for Finland

Moderate reduction in income tax, but no lowering of VAT on foodstuffs; IMF anticipates Finland will ride out crisis easier than many

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The International Monetary Fund anticipates that the Finnish economy "will grow by no more than half a per cent next year". The country's Finance Ministry and the Research Institute of the Finnish Economy volunteered predictions of 1.8% earlier this autumn. The figure given in a recent EU economic forecast is also more optimistic, and is slightly above 1% for 2009 (see linked story).
      The head of the IMF's Finnish mission Lorenzo Figliuoli was in Helsinki on Monday to present the IMF's views on the Finnish economy and on what course ought to be taken in the present choppy waters.
      Figliuoli noted that Finland was not an island in the current economic crisis, but that said that the country was likely to emerge in better shape from what lies ahead than many other EU member-states.
     
"Finnish financial markets and banks have been remarkably resilient to the global turmoil so far, but the spillovers from the persistent upheaval will take a severe toll on 2009 growth", argues the IMF in its Concluding Statement on Finland.
      In a weakening economic climate, the IMF - famous for its adherence to tight fiscal discipline - is willing to see "a modest fiscal loosening".
      "Current policies, including a cut in labour taxes and in the VAT on food, would result in a fiscal stimulus of about 1 per cent of GDP", the report goes on.
      However, the IMF takes objection to the current government's plans for a cut in VAT at least. In spite of the need to inject some fiscal stimulus into the economy, the budget should be kept in surplus to the degree that Finland can, if need be, step in to bail out its banks as others have had to.
     
Hence the IMF would restrict the loosening of the purse strings to around 0.5 percent of GDP, or rather less than the 1% the government has envisaged.
      Next year's planned cuts in income tax meet the IMF's criteria for the right kind of stimulus package - something that will work quickly, can be reversed when the worst is over, and will not hang around the economy's neck like a millstone.
      A tax break would encourage higher labour force participation and spur growth, said Figliuoli, at the same time throwing himself into the ongoing debate over a lessening of the tax burden.
      Last week the Speaker of Parliament Sauli Niinistö (National Coalition Party) put forward a moderate line on income tax cuts, after which Prime Minister Matti Vanhanen (Centre) and his Finance Minister Jyrki Katainen (National Coalition) both weighed in with a spirited defence of the government's own proposals.
     
The IMF comes down heavily against plans to reduce the VAT on food, "since the VAT is among the least distortionary taxes and revenue losses must be minimized for sustainability's sake."
      By contrast, the IMF says the VAT base should be expanded, "considering that its effectiveness is barely at the OECD average, owing to special treatments for a relatively large share of goods and services. At the same time, it would be useful to increase property taxation, low in international comparison."
     
Figliuoli sees some clouds on the horizon in spite of the relative stability of the Finnish economy: a country once at the bottom of the pile in inflation tables is now closer to the top.
      "The recent decentralized wage negotiations led to pay raises much larger than in the previous round. In some cases, including in the public sector, salary adjustments paid little heed to productivity gains. Combined with the price spikes for food and energy throughout the summer, inflation has thus exceeded the euro area average for the first time since 2002", states the report. Finland's huge need for energy for its industrial base is well-known, but the implication here is that competitiveness-eroding wage-hikes have been the prime spur for the upward inflationary spiral.
      In addition, the financial crisis will bring uncertainties, slower growth is in prospect, the population is ageing, productivity is slow to improve, and labour participation needs to be increased.
      The sustainability of the national economy is under threat in the longer term, and actions taken to carry the country safely through the present financial upheaval must not be allowed to jeopardise long-term prospects.
     
Full details are given in the link below.

More on this subject:
 EU economic forecast: Outlook for Finland better than for most countries in euro area

Previously in HS International Edition:
  Research institutes predict stagnation of economic growth next year (30.10.2008)
  Economists: Finland better prepared for economic problems than in early 1990s (8.10.2008)

Links:
  IMF: Full Mission Concluding Statement on Finland, 3.11.2008

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