martedì 5 febbraio 2013

Tax Credit Certificates to start-up the recovery and to solve the Eurocrisis

Costs and productivity differences between Northern and Southern Europe caused the crisis. Since 1999 the gap has been gradually increasing, reaching an estimated 20-25% nowadays.

Northern Europeans are more disciplined and controlled than Latins: in the past D-Mark, Gulden etc. ongoing revaluation against the lira, the peseta as well as the French franc provided for a continued realignment of competitiveness and prevented trade unbalances. The monetary union makes it impossible today.

Since 2004, those differences caused Northern Europe to achieve annual trade surpluses of € 150-200 bln per year (1,500 cumulated as of today) which not surprisingly are equal to the Southern Europe trade deficits (total eurozone trade is balanced against the rest of the world).

The Southern area piles up indebtedness due to its deficits and this deteriorates solvency. Currently Southern Europe has problems in financing governmental and/or private indebtedness as debt has reached levels unsustainable in the long term, due to their weak production and growth perspectives.


Actions taken to cope with the crisis in troubled countries summarize as follows.

  • Government expenditures are cut and taxes are raised to reduce the high (mainly public) debt.
  • Corporate costs are cut too, to improve productivity and to realign competitiveness with Northern Europe.

Then more taxes, less pensions and social expenditure, reforms in labor laws.

But: (1) the productivity gap was created in 13 years and cannot be significantly reduced in 1-2. Wages are sticky and not easy to reduce due to contracts expiration dates and political protections enjoyed by several pressure groups.

(2) Banks are not willing to extend credit as customers face declining pre-tax income and even more (due to higher taxes) post-tax income and saving.

A negative feedback loop is created: less income and consumption, more taxes, less saving, credit and production. Higher tax rates notwithstanding, GDP falls which prevents the public debt / GDP ratio to significantly improve.


Conventional policies are currently ineffective in troubled countries:

Fiscal policy is ineffective as financing additional spending or tax reductions would be too expensive. On the contrary, debt control forces fiscal policy to be contractionary.

Monetary policy is ineffective: in depressed economies monetary expansion could take place without seriously raising prices. But this would create inflation in Northern eurozone countries, which currently are close to full employment.


Tax Credit Certificates (TCC) are the appropriate policy tool. TCC would be:

·         Issued to residents in the issuing countries.

·         Usable two years after their issuance (not immediately) to pay taxes (or other obligations) due to the issuing country.

·         Negotiable before the utilization date, based on a market discount rate, eg 5% on a yearly basis.


TCC will primarily be issued to employees and employers to reduce the burden created by social costs (the “tax wedge”).

Total 2012 labor costs in Italy are expected to be € 985 bln (818 in the private sector, 167 in the public sector). This includes € 216 bln of contributions paid (one third by employees, two third by employers) to finance the public pension scheme and the national health system. TCC would be issued equal to 70% of contributions (excluding those paid by public sector employers, which are a self-offsetting accounting entry).

Employees and employers will pay euro contributions in the same amount as today (no cash deficit for the government) BUT the burden will be reduced as they receive TCC.

Total annual TCC issued would be € 134 bln which reduces by 16% private sector labor costs, after-tax employees’ income being equal (public sector is not taken account as it mainly produces non-internationally-tradable services).

This strongly reduces the Italy-Germany difference in labor costs per produced unit (approximately 20%) which caused the crisis as currency realignments are no more available to compensate it.

Eg a € 50,000 annual wage corresponds to 32,000 net of taxes and contributions; total cost to the employer (TCE) is 61,500. TCC would increase the after-tax income to the employee by € 2,800 while reducing TCE by 5,600.


TCC could also be used to supplement low-earners’ incomes. Eg € 21 bln in TCC could be issued to the less affluent half of the Italian population (30 millions): € 700 annually per capita (2,800 per four-persons family). This until the economy recovers a good employment status (say two years).

TCC could also finance public expenditure. Interventions mix and size will clearly be a matter of political choices.


2012 Italian GDP is running approximately 10% below potential:

·         5% fall in 2009 due to the “Lehman crisis”

·         minus 2.5% in 2012 due to austerity

·         from 1999 Italian growth was mostly below potential.

Austerity aims at stabilizing the public debt at € 2,000 bln (126% of 2012 GDP): not an easy task. Meanwhile contractionary tax and expenditure policies prevent GDP to recover. Recently the government forecast further contraction in 2013, and growth to be only marginally higher than 1% in 2014-15.

The debt / GDP ratio would fall from 126% to 120% and employment would not recover. Eurozone would stay in a precarious status.

Southern Europe as a whole, not just Italy, is in trouble, which is slowing down the world economy. Further deterioration could easily occur, straining the financial markets and preventing consolidation of public finances to take place.


TCC will change the scenario. Total proposed issue is € 155 bln per year ie 10% of GDP, which increases incomes and purchasing power, and reduces labor costs.

A GDP recovery in the same order of magnitude is likely, which would bring it back to its potential. Assuming the recovery is completed in three years, public debt / GDP falls to 106% by 2015 year-end.

Further, this would occur while production and employment grow strongly, thus ending the depression.


FORECAST - Council of Ministers – September 20, 2012
Real Growth
Price Effect
Public Debt
Higher Growth (*)
Real Growth
Price Effect
Higher GDP
Tax Revenues / GDP
Higher Tax Revenues
TCC issued
TCC applied against payments to the State
Public Debt
TCC outstanding (not included in the public debt) (**)
(*)  Estimated based on the (annual TCC) / (2012 GDP) ratio, achieved in the 2013-15 timeframe.
(**) As they are not to be reimbursed. All other things being equal TCC will reduce future revenues, but this will be offset by the expansionary effect on the economy. Were it not the case, actions on the deficit will be required. However, this does not make TCC a form of debt. Eg hidden public pensions liabilities are not included in today public debt, even if current laws imply a deterioration in the pensions / contributions ratio; rather, they are a factor to be included in future debt forecasts.


TCC makes austerity virtuous. Higher taxes and lower expenditure reduce demand and production. Austerity improves public finances GDP being equal, but GDP gets reduced. This largely offsets the benefit on public debt. Meanwhile GDP and consumptions fall.

TCC allow the State to raise more euro revenues while avoiding incomes and net worth to fall (or, if the fall already occured, allow them to recover). Austerity strengthens public finances while TCC avoids a GDP permanent depression.


TCC will be applicable, two years from their issue, against payments to the State. When this occurs, the recovery will have produced a meaningful increase in tax revenues, offsetting the redemption of TCC.

As GDP potential is much higher than the current level a tool which supports demand and reduces production costs generates a strong recovery and breaks the negative feedback loop of: austerity introduced to reduce public deficit -> lower GDP -> failure to heal public finances.


Last and very important: TCC make the euro system flexible and sustainable. Each troubled country can issue its own TCC in amounts such to reduce labor costs per produced unit and to attain levels comparable to the most efficient countries.

This eliminates the source of trade unbalances and of the excess in Southern European debt. TCC are the appropriate tool to realign costs and productivity in a system where flexible exchange rates do not exist anymore. As each country can introduce them according to its own requirements, they solve the problems created by a single currency used in different countries. In addition, they make it possible to expand demand where appropriate, without inflationary effects elsewhere.

1 commento:

  1. If you are a surplus country, money become your liability. Period.