The Annual Report of the Bank of Israel for 2010, submitted by Governor of the Bank of Israel Stanley Fischer to the government and the Knesset Finance Committee today, hints that the government will find it difficult to combine a reduction in the fiscal deficit and in its debt, tax cuts, and greater public spending, as the new fiscal rule requires. The report obliquely criticizes the government's intention to persevere with cuts in direct taxation: income tax and companies tax. According to the report, combining all three measures will only be possible with growth of 5% or more, otherwise, "the deficit will be below the ceiling only if the government postpones the continued implementation of planned tax reductions, or if it suspends some of the increases in expenditure permitted under the new fiscal rule."
The Bank of Israel warns against pinning too many hopes on tax receipts from oil and gas discoveries, since they will amount to only NIS 5 billion, and only from 2020 onwards. "These are not receipts with a significant macro-fiscal effect," the report states. On the government's attempt to raise indirect taxation, the report says, "According to the proposed budget, an increase in the taxes on gasoline was planned for the beginning of 2011 and again in 2012. However, public opposition following the actual implementation of the tax increase in 2011 led to its cancellation. This is an indication of the government’s limited ability to adjust indirect tax rates and to finance the path of expenses dictated by the budget under the present structure of direct tax rates."
The report points out that the rate of direct taxation in Israel is low compared with the OECD average, while indirect taxation is high. The Bank of Israel also criticizes the two-year budget, arguing that the lower than planned deficit in 2010 can be explained by a very conservative growth estimate. "This is one of the outstanding disadvantages of the two-year budget: the longer the forecast range, the greater the uncertainty," the report says.
The report gives favorable mention to the steady drop in the ratio of government spending to GDP in the past two years. However, there is also criticism of the fact that defense spending was much higher than originally budgeted in 2010, arousing fears for the success of fiscal strategy in the coming years, which is based on a reduction in the proportion of spending on defense, under the Brodet guidelines.
The report also warns about growing inequality. "There has been a continuous increase in the indicator for inequality in Israel over the past decade. This is the result of stability in the inequality of (gross) economic income and a decline in the government’s efforts to reduce inequality through taxes and transfer payments," it says.
Published by Globes [online], Israel business news - www.globes-online.com - on March 30, 2011
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