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    The tax issue

    Fatih Özatay, PhD31 May 2009 - Okunma Sayısı: 1105


    Let's say that you are aiming to boost domestic demand. What are the tools you have? Tax rate cuts, transfer of a portion of the budget to some sectors (increasing transfer payments) and raising public expenditures. It is obvious that tax cut increases domestic demand. Therefore, this is not subject to discussion. No one says you cannot increase spending via tax rate cuts.

    The issue is: First, if you make a decision that will affect the public budget, you as well have to calculate its impact. If you take this calculation seriously, you can ask this question: Given my goal is to stimulate domestic demand, which tool (tax, transfers, and expenditure) takes me closer to my goal (enables a higher increase in domestic demand)? Therefore, it will be possible to make a ranking.

    You can list all policy measures that will each lead to a 100 unit increase in budget deficit ranking from that to stimulate domestic demand most to least in descending order. But this will not be enough. You might stimulate domestic demand, but the rise in demand might be directed to import. That is, it does not have much effect on the level of goods and services produced domestically; it does not improve growth and employment. In this case, the options must be ranked in descending order from those that will increase demand for domestically produced goods and services most to those that will the least have such an effect. If you have this list, you can shift to the second important step. Ok, option'd' is the most appropriate one to increase domestic demand; however, which sectors of the society does it affect? In this case, it is necessary to re-rank the options in terms of the level of their impact on different sectors. In brief, the measure must not only be directed primarily to the lowest-income group, but also be among the reasons that will most stimulate domestic demand.

    Of course, no one has to think so or no government has to implement such a policy. If it is ready to confront the outcomes, it can ignore income distribution issue. However, this is the way economists must discuss the issue. Then, everyone will pick whatever they like.

    In this context, tax cut directed to automotive sector does not seem significant to me: First, it is not the best option to will improve the demand for domestically produced goods. It is more for the advantage of imports. Second, it has a little impact on low-income groups.

    We must also consider this goal: The crisis has left a lot of people unemployed. The measures to be implemented must be for the sake of unemployed most; I should not make his and his family's life miserable.

    There is another important point concerning policies to stimulate demand. People say that tax revenue has increased in spite of the tax cut. At a glance, it seems correct. But think this way: Let's say that, all over the year, a hundred automobiles and a hundred televisions will be sold in Turkey. And let us distribute this amount equally between halves; fifty for each half. Assume that tax cut is temporary and applies only for the first half. In the second half, the rate will go back to initial level.

    In that case, people planning to buy cars and televisions in the second half of the year will push their limits and try to make the purchase in the first half. That is, the overall number of cars and televisions sold over the year will not change. When solely the first half is concerned, it will seem like both car and television sales and tax revenues increased; nothing will change when the whole year is considered.
    Of course I have given extreme examples to make my point clear. One, as a result of the temporary discounts, can buy a new television though it was not planned; and thus television sales can go up to 103. But if we ignore the details, the essence of the analysis is important.

    If we have come to a consensus on the 'essence', this takes us to this important point: Temporary tax cuts ensure the initial movement to make the economy function. This created action (rise in demand) must continue. Therefore, you have to put in effect the economic program that will ensure the continuance of the action immediately.
    Otherwise, the step you taken will be wasted.


    This commentary was published in Radikal daily on 31.05.2009