A few days ago, the Directorate-General of Budget, Accounting and Statistics announced that the government’s general budget for next year would be cut by 8 percent — the biggest budget cut the nation has ever experienced. How much worse can the nation’s fiscal situation get? A few figures may suggest an answer to this.
First, the ratio of tax revenue to GDP fell on an annual basis from 20 percent in 1990 to 12.8 percent in 2011, and the ratio of the net annual revenue of all levels of government to GDP fell from 25.8 percent to 16.9 percent over the same period.
Second, the government has made various legal amendments and provided all kinds of tax relief and exemptions over the years aimed at attracting domestic and overseas investment, and these measures have greatly eroded the tax base. The most recent statistics show that corporate tax in Taiwan only represents 2.7 percent of GDP, which is much lower than in China and Hong Kong. A survey published by CommonWealth Magazine shows that the average effective tax rate paid by 24 Taiwanese listed companies whose annual profits exceed NT$10 billion (US$334 million) is just 9.1 percent, which is lower than the rate of individual income tax paid by ordinary white-collar workers.
Third, Taiwan is becoming a tax haven for the rich. Several years ago, the government, worried that the rich might move abroad and hoping to attract capital flow back to the nation and thus increase tax revenue, cut the rates of estate tax and gift tax to a flat 10 percent from a maximum of 50 percent, but this only resulted in a fall in tax revenue. The business tax was also cut from 25 percent to 17 percent, but this did not create more job opportunities — even indirectly.
The nation’s broadly defined government debt (government bonds plus borrowing) stood at NT$608.4 billion, or 14.5 percent of GDP, in 1990. The government initiated fiscal reform, but affected by the 2008 global financial crisis, the ratio of deficit of all levels of government to GDP rose further. Last year, broad government debt reached NT$6.9975 trillion, or 49.85 percent of GDP.
Borrowing can make a positive contribution to a country’s capital formation and economic growth in the short term, but when it reaches a certain threshold, it will affect monetary policy and even generate inflation. Furthermore, the burden of paying interest on debt and repaying the principal could drain the economy, so that the allocation of the nation’s resources becomes less effective, thus holding back economic growth. Growth in the US, Portugal, Italy, Ireland, Greece and Japan has clearly been impeded as a result of having outstanding debt in excess of 100 percent of GDP.
For many years, Taiwanese politicians have been doling out welfare in an irrational way as a way of winning votes, and this has turned Taiwan into a small country with respect to tax revenue, but a big one in terms of welfare spending. Among expenditure categories in this year’s budget, social welfare takes first place at NT$438.9 billion, or 22.6 percent of the total, while spending on economic development comes fourth at NT$272.6 billion, or 14 percent. This makes it difficult to stimulate the economy through public-sector investment, and the additional budget cuts scheduled for next year will only make matters worse.
The nation needs to build a sound tax system, remove legal tax loopholes for the rich, and implement a fair, just and secure system of taxation based on the ability to pay. If it fails to do so, and instead keeps cutting taxes for businesses, it will be hard put to increase revenue and cut spending. In that case, government finances cannot be stabilized and Taiwan will sooner or later stumble over a fiscal cliff.
Lee Wo-chiang is a professor in the Department of Banking and Finance at Tamkang University.
Translated by Julian Clegg