Berlin's Budget Plans: German Austerity Program Offers Chance for New Beginning

• Print
• E-Mail
• Feedback

Take value-added tax. When it was introduced at the end of the 1960s it was still an easily understandable tax designed to secure stable tax revenues. There was a single rate on most goods, and only food and important consumer products were subject to a reduced rate. Forty years on, the tax has grown into a bureaucratic monster, a jungle that even perplexes tax experts.

The Finance Ministry's list of products exempt from the standard 19 percent rate amounts to 200 pages. Mules for example are taxed at a lower rate than donkeys, for some reason. And why is there a reduced VAT rate for truffles, goose and duck liver and meat products from beavers, whales, frogs and tortoises?

The previous government introduced a reduced VAT rate for ski lifts. The new center-right government recently cut the rate for hotels and camping sites in a move that will reduce tax revenue by €1 billion this year.

Existing government programs aren't having the desired effect. Germany spends more money on family policy than most other nations and gets precious little in return. Researchers at the University of Frankfurt calculated that Germany has 150 different benefits for families and children, distributed by 40 separate authorities, which amount to €150 billion per year. There is no evidence that this money has achieved a significant reduction in the number of children living in poverty, or an improvement in their education prospects.

According to the government's annual report on poverty, the number of children judged to be dependent on state benefits is rising steadily. State benefits designed to encourage people to have children aren't having much effect in increasing the birth rate, either. The average number of births per woman has stagnated at the low level 1.38.

A radical overhaul of state spending is also needed in other areas of government, for example in transport policy. Whenever it comes to trains, planes and automobiles, politicians are in their element. Sometimes the subsidy is intended to improve public transport, sometimes to help the environment or boost competitiveness. The fact that these goals sometimes contradict each other rarely deters politicians.

Rampant Subsidies

The tax on gasoline is around 65 cents a liter while diesel tax is 47 cents. But that doesn't apply to farmers -- they only pay around 26 cents in tax for their liter of diesel. The tax breaks for diesel fuel cost the state more than €6.4 billion in lost revenue each year. It's one of many examples of rampant subsidization involving fuel. Aviation fuel has been exempt from tax for more than 30 years to protect German airlines. So is diesel for ship's engines.

Michael Thöne, the head of the Cologne Center for Public Economics, and Clemens Fuest, an economics professor at Oxford University who is an advisor to the German Finance Ministry, have proposed a way to save significant sums of public money in the medium term. It involves the state examining the standard of public service it achieves for the money it spends and comparing the results with those of other nations. Sweden and Japan, for example, have scored better than Germany in the OECD's "Pisa" surveys of international education standards, yet they spend less on education.

Fuest and Thöne suggest that Germany should follow the example of countries that spend their public money more efficiently. The aim is to spend less and get the same or even better quality of public service. They see considerable scope for saving not just in education, but in the health service, infrastructure investment, public administration and social welfare programs too.

Copy Japan, Spain, Denmark and Switzerland

They see Japan as a model in some areas and Spain, Denmark and Switzerland in others. If Germany's national and regional governments reached the same price-performance ratio as those countries, the nation could save up to €80 billion, the economists have calculated.

Despite Schäuble's insistence that he won't increase taxes, Fuest believes he will have to in 2013 or 2014 at the latest. He expects the VAT rate to be raised by one point to 20 percent and the reduced VAT rate to rise by three points to 10 percent. That would yield extra revenues of €12 billion and provide the government with significant breathing space.

Germany's inheritance tax, which currently only brings in €4.5 billion a year, could easily be increased without hurting the poor.

One particularly easy way to boost revenues would be to enforce the existing taxes more effectively by hiring more tax inspectors. Dieter Ondracek, head of the German Tax Union, which represents the staff of Germany's fiscal authorities, estimates that stricter enforcement could boost revenues by €10 billion per year. Ondracek says Germany needs an extra 15,000 tax inspectors and that they would easily recoup their salaries. A tax inspector collects around €1 million in revenue per year but only costs €80,000, he said.

Schröder, the former chancellor, showed that it is possible to achieve a better balance between tax revenues and public spending by reforming the welfare system. Schröder cut pensions and tax breaks and revamped the labor market by reducing benefits for the long-term unemployed. It was an unpopular program, but it was successful. The reforms created around a million new jobs and boosted revenues for the welfare system.

Gifts for the Voters

But instead of continuing in that vein, Merkel soon succumbed to the temptation to please voters by boosting benefits during her first term in office between 2005 and 2009. As economic growth improved, the grand coalition reversed important elements of Schröder's reforms. And once the financial crisis struck in late 2008, the public deficit crept back up to the pre-Agenda 2010 levels.

Merkel should tackle benefits for the country's army of privileged civil service retirees whose retirement benefits are 50 percent higher than those of average private sector employees. So far, successive governments have balked at the task as the figures show: ordinary pensioners have faced a succession of cuts that civil service retirees have been largely spared.

The challenges Merkel's government faces in reforming the budget are huge, but so are the potential benefits:

• cutting tax subsidies would lead to more than €10 billion in savings

• raising taxes that are low by international comparison, such as inheritance tax, could also yield significant sums

• reforming the welfare system would have the twin benefits of alleviating the budget and reducing welfare contributions

• scrapping superfluous defense projects and family subsidies that don't work would also save many billions of euros

All these measures need not hurt the economy. On the contrary, the removal of questionable subsidies would enhance economic growth in the long term.

Former Finance Minister Hans Eichel, who faced overwhelming opposition from vested interests while trying to scale back the budget deficit under Schröder, recalls the outraged reaction from florists when he tried to raise VAT on cut flowers. Even attempts to raise VAT on cat food provoked angry hisses.

One of the main problem, Eichel says, is that no government can radically cut public spending unless it has the backing of the 16 regional states which have huge taxation and spending powers. A broad "social consensus" is needed to carry out any rigorous program of savings, says Eichel, adding that it tends to works in Scandinavian countries.

And in Germany? "As long as the principle of linking spending to revenues is still frowned on in this country, I'm not optimistic, to be honest," says Eichel.

MATTHIAS BARTSCH, ULRIKE DEMMER, MARKUS DETTMER, ALEXANDER NEUBACHER, MICHAEL SAUGA, CHRISTIAN REIERMANN, MERLIND THEILE, JUDITH VOSS

• Back
• 1
• | 2

• Part 1: German Austerity Program Offers Chance for New Beginning
• Part 2: VAT Ís a Bureaucratic Monster