Are the middle class paying too much?

Speaking to me this week during an interview
at the GRTU offices in Valletta, Mr Farrugia highlighted two areas that require
urgent and serious attention if Malta’s economic situation is to improve. The
first is easing the tax and fiscal burdens on the middle classes. The second is
reducing public expenditure dramatically, something government has stated many
times it is committed to, and produced a number of plans to achieve, the latest
announcing cuts of Lm10m across the Public Service, having been publicised last
week following the critical EU report on Malta’s (and several other new EU
member countries’) financial situation.

I asked Mr Farrugia for his
comments on the newly announced government plan to cut expenditure by Lm10m. He
was sceptical.

“Well, they have been saying they plan to cut expenditure
since 1998,” said Mr Farrugia.

“It seems we are very good at devising
targets and writing reports to impress the Commission, but not so good at
achieving them. There is no reason this plan is any different from the others.
I’ve been sitting through meetings and discussions at MCESD for 10 years, as
well as a host of other forums and discussions – I’ve been hearing all this
commitment to reduce expenditure, but I am not convinced. I can’t see any
drastic determination to cut expenditure.”

The problem, Mr Farrugia
continued, is that despite warnings and advice from international institutions,
individual economists and fiscal policy experts as well as organisations like
the GRTU over a long period of time, public expenditure continues to rise,
rather than fall.

“This is our first problem: that the public sector is
growing rather than diminishing as it should be,” he said.

“An incredible
53 per cent of GDP goes to the public sector, including the extra budgetary
units. Even without the EBU’s government’s total expenditure still absorbs a
massive 50 per cent of GDP – Malta is the only country in Europe with such a
high rate. In efficient modern economies the general government total outlays,
as a percentage of GDP, should be no more than 35 per cent… in the UK this
ratio is 36 per cent, Japan 38 per cent and the US, probably the most successful
economy today, the ratio is 29 per cent.”

Past commitments to reduce
public expenditure have failed, he added, because politicians on both sides of
Parliament have used expenditure cuts to gain political advantage, thus
condemning any real initiative to eventual failure.

“Why don’t I believe
that plan to reduce expenditure will work?’ he asked. “Well, because the two
sides of Parliament must sit down and come to agreement on this issue, not just
jump on each other every time there is an attempt to reduce expenditure. If they
don’t sit together in the House and say, we can’t keep expenditure at 53 per
cent of GDP, if they don’t agree in Parliament that they have to solve this
monster of public expenditure, it can’t succeed.”

“What happens every
time?” he continued.

“They commit themselves to a reduction in
expenditure, then the government workers want a raise and the next thing we
know, an election is on its way and we hear of a new collective agreement being
signed. And it’s the same in everything, they keep doing it, and my belief is,
even if they eventually manage to close the budget deficit, they won’t be able
to maintain that situation. They will just open it again.”

The cries for
consensus between the two parties on issues of national administration and
urgency have been echoing across the island for years now. Attempts to achieve
consensus on many key issues have generally failed, and finger-pointing is
practiced by all involved. However, as more and more initiatives are stalled
around intended consensus-seeking tables, the number of voices calling for key
issues to be resolved outside the partisan arena is growing. Many of us outside
the fray are astounded to hear of one failed attempt after another, but as each
situation is exacerbated and worsened by the delay in finding and implementing
solutions, it is clear that solving issues must be the foremost priority of
those involved.

The GRTU’s ideas on how Malta’s current economic problems
should be resolved centre around reducing public expenditure by eliminating
wastage and ensuring public investment is carried out in a cost-effective
manner.

“Frankly, people no longer trust government in certain things,”
said Mr Farrugia. “They are sick and tired of government’s wastage of their
money – look at roads: we are taxed Lm75m a year through car registration and
licence fees, taxation on fuel, and so on. What does government do? They spend a
lousy Lm7m to Lm10m a year on roads. Is that the way to give people fair return
on their money? Take the new hospital – was that planned economically? I think
we all know by now that it was not done in a cost efficient manner. Then we have
Authorities mushrooming all over the place. Take just the Malta Maritime
Authority as an example. It used to be the Ports Department, a small, efficient
outfit that used to make money. Now it is a huge organisation and of course, all
sorts of new charges had to be created to sustain this huge
Authority.”

The question of new charges being introduced across the board
to sustain new Authorities, Commissions and other government entities is one
that has been raised by industry representatives across the board, however, it
is M Farrugia’s contention that they hit small businesses harder, and small
businesses are already carrying a heavy burden. This is what has prompted the
GRTU’s petition to government to ease the burden on the middle classes.

“The majority of people we represent in the GRTU belong to the middle
classes,” explained Mr Farrugia.

“The average self-employed person in
Malta takes home the equivalent of the pay of someone in middle to senior
management. Over the years this is the class that has been suffering the burden.
No longer taking any benefits from government like children’s allowance or
family benefits, they tend to pay charges for services that lower income people
do not. The State keeps taking more money from them, with a crudeness that is
not immediately obvious. For example, the change in the tax bands four years ago
squeezed the disposable income available for the middle classes, and once you
hit the pocket of the middle class you hit the other side of the economy. It is
their expenditure pattern that sustains local business. It is the middle classes
who eat in restaurants, purchase VAT-able goods and services and keep the
economic wheels turning. People with lower incomes pay little or no tax, they
take benefits from government, free schooling and medical care, and their
consumption pattern tends towards spending on non-VAT-able goods. The middle
classes, who saw the change in income tax bands shoot their taxes up from 25 per
cent to 30 or 35 per cent, are also the same people who are purchasing VAT-able
goods and services. We now have a higher ratio of people paying at the higher
rates of income tax, and that should not be the case.”

The GRTU
represents more than 7,000 self-employed and small businessmen and women, who
collectively run a total of some 12,000 enterprises. The self-employed and small
business sector consists in total of some 20,000 individuals, who collectively
employ some 55 per cent of those working in the private sector, that is, more
than 50,000 people. These people constitute a large portion of Malta’s middle
classes, and Mr Farrugia is convinced that alleviating the financial burden on
this sector of society is crucial to solving Malta’s economic
problems.

“Government is following a fallacious economic strategy,” he
said, “in increasing taxation to cover excessive expenditure, and taking always
from the same middle class, who are basically sitting ducks. The middle classes
have become the main whipping boys of government and the economic consequences
of this are that as long as the disposable income of the middle class remains
squashed, demand for goods and services will remain dampened and the economic
cycle remains unstimulated. These entrepreneurs cannot afford to invest in new
ventures or introduce new technology as a result and the effects of that are
very evident today.”

So what does the GRTU see as the solution, I
asked?

“Luxembourg recognised the importance of the middle class to
economic progress to the extent that it now has a minister for the Middle
Class,” replied Mr Farrugia.

“In Austria, where they went through a
similar post-accession situation where businesses faced the same belt-tightening
and restructuring that we face now, they slashed the highest rate of income tax
from 35 per cent to 25 per cent, and this proved a very successful initiative.
So we believe that government should do something different here. At the moment
they are frightening people out of their wits, people are afraid of what is
going to happen with pensions, with welfare – all these issues are scaring
people. What needs to be done is to create a feel-good factor in the local
economy. Ease the burden on the people who will invest, and as soon as we take
one step forward, this investment will follow and we will see an immediate drop
in unemployment. The psychological impact on the economy cannot be stressed
enough, and today this is having a negative effect that we can all see, hear and
feel.”

While government’s latest plan to meet its deficit reduction
target was reported as being based on expenditure cuts and not increased
taxation, sceptics are already questioning this statement. Mr Farrugia is going
a step further and calling for taxation to be reduced, concurrently with drastic
expenditure cuts, as a means of stimulating consumer confidence and spending,
and providing the impetus for further investment.

“The message from the
Austrian government to their people when they slashed income tax by 10 per cent
was that they believed in the people enough to leave money in their pockets,”
said Mr Farrugia. “They were proved right and I believe the Maltese government
should believe in its people enough to leave money in their pockets
too.”