Taxing and spending

To continue to reduce the fiscal deficit, alleviate poverty, and support climate action, Malta needs to spend better while increasing tax collection and making the tax system more equitable and efficient.

“Collecting More and Spending Better”: that could be a good commitment for any political party to make prior to the next general election. Why? Because, following the Covid pandemic and the war in Ukraine, the fiscal environment has remained challenging.

Public debt remains high — around 11 percentage points above pre-pandemic levels as of end-2023. At the same time, medium-term growth projections are below previous levels by around 3%. And even with inflation coming down, interest rates could remain higher for longer. These challenges constrain government budgets, even as public spending demands rise, including to address climate change and an ageing population.

It is easy to see why. Governments almost everywhere have, quite rightly, ditched fiscal austerity to cope with the combination of severe events that threatened the European economy. In 2023, EU member states were still running deficits equivalent to 3.5% of GDP. Malta’s deficit is 1.5% higher than the average at 5.0% ̶ moderately lower than France’s but lousy compared to Ireland’s 2.4% surplus.

Now that the risk of a severe inflation has receded, it is time to return to fiscal rectitude. This is not to be equated to austerity, which nobody ̶ not even the Germans ̶ are proposing. In this context, mobilising revenue, and spending more efficiently are essential to rebuild a fiscal buffer, prepare for future shocks, and deliver sustainable development. To be most effective, these two pieces must go hand-in-hand.

There is most certainly a need for better tax design, including more fair and inclusive taxation. We have to improve our tax capacity, including through effective policies and well-functioning revenue administration. Collecting taxes is the main way how we can generate public revenues that make it possible to finance investments in human capital, infrastructure, and the provision of services for the Maltese people and businesses.

Last year, the Finance Minister told the Times of Malta that in 2019 just 35-40%of businesses were declaring a profit ̶ this when the economy was growing by 6% in real terms! Fast forward to 2023, and the IRD collected around €120 million that weren’t accounted for. This was the easy part, because the revenue came from all those who had missed payments.

In 2021, the EU estimated the VAT gap (what should be paid versus what is actually paid) in Malta at €345 million ̶ that’s almost one million euros a day. But the extent of the problem can be seen if one calculates the gap as a percentage of GDP. The gap in Malta is 2.3%, compared to 0.09% in Finland.

To continue to reduce the fiscal deficit, alleviate poverty, and support climate action, Malta needs to increase tax collection and make the tax system more equitable and efficient. The Government needs to balance goals such as increased revenue mobilisation, sustainable growth, and reduced compliance costs with ensuring that the tax system is fair and equitable.

Fairness considerations include the relative taxation of the poor and the rich; corporate and individual taxpayers; formal and informal sectors; labour and investment income; and the older and the younger generations. A more efficient tax system is also badly needed in the private sector, where certain economic sectors are indirectly financing other sectors because of discriminatory tax collection.

Taxes on their own, however, will not do the trick. The focus should equally be on better spending. Without public sector performance and good public financial management, the government will not be able to deliver quality services and cope with mounting pressure and demands on public expenditures.

One of the objectives should be to improve budget transparency and accountability. Government departments and entities need to adopt best practices in order to create more efficient, transparent and participatory budgeting and public financial management processes. 

This entails developing a more strategic vision of public expenditures within medium-term expenditure frameworks; better alignment between the budget and policy objectives (e.g performance-based budgeting); and modernising public control and audit frameworks.

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