A closer look at Budget 2007

By Edmund

The budget statement debate concluded last Thursday. This article ponders over some issues raised as well as those which were not.

How is the government financing the budget deficit?

In my previous article I mentioned that given the constitutional bar against the current government dipping into the surpluses built up by previous government, the new government would be motivated to run a budget surplus at the start of its term to build up a fiscal buffer for the remaining years of its term.

I was wrong, going by the projection for the overall budget position for FY2007. The PAP government is running an estimated budget deficit of $0.69 billion for the coming fiscal year.

It is true that the “deficit” is in “accounting only” – as the government do not include in its overall budget position capital receipts, mainly from land sales, and at least 50% of the net investment income. In fact only $2.02 billion of the estimated $7.75 billion investment income was budgeted. The expected capital receipts of $3.19 billion and the remaining $5.73 billion of the investment income will go directly to the reserves.

In the previous budget debate for FY2006, in explaining how the government would pay for the large deficit of $2.86 billion without dipping into the reserves {2}, PM Lee revealed that the government had received $2.51 billion from the previous government as the change of government took place in the middle of a fiscal year and another $2.45 billion from statutory board in the years 2002 to 2005.

This gave the government a total $4.96 billion in extra income, which it could draw on and the sum was more than enough to pay for all the deficit it had incurred over its term which added up to $4.23 billlion.

This raises the question how this government is going to fund the deficit given that it has not accumulated any budget surplus, unless it intends to dip into the reserves. Another unanswered question is why the government budgeted only $2.02 billion, and not $3.88 billion, of the net investment income, which would put itself in a surplus position of $1.17 billion?

Is the GST hike used to pay for social spending?

According to the Second Finance Minister Tharman Shanmugaratnam, GST increase would be used to fund social spending, while the relaxation of the definition of net investment income would be channeled to longer-term investments for the future.{3}

According to the Budget Highlights {4} report by MOF, the increase in the GST by two percentage points would increase tax income by $1.5 billion and the cut in corporate tax rate would reduce revenue by $800 million. The reduction in other taxes would shrink the revenue by a further $390 million, and the overall net impact is an increase of $310 million.

On the expenditure front, the government is increasing its operating revenue by $1.45 billion and its development expenditure by $2.45 billion compared to the previous fiscal year. Classified under special transfers, the much-touted workfare income supplement scheme is expected to cost the government only $400 million annually, and $200 million in FY2007.

Given the above, it would suggest that the increase in GST is largely used to finance the corporate and personal income tax cuts as in previous GST hikes, rather than to fund social spending.

Will the Workfare income supplement scheme increase the income of low-wage workers?

Workfare is a newly-introduced long-term program to supplement the income of low wage workers, and it is marketed as the fourth pillar of Singapore’s social safety net.

The Workfare benefit is based on three factors: one’s age, earnings, and occupational status.

The largest payment will be for employees above 45 years old earning $500-$1,000 at $1200 annually (split into Cash and CPF according to the ratio 1:2.5). This would mean an increase in monthly income of $28.57 and in CPF of $71.43.

Singapore labour supply for the lower-end workers is highly elastic given the liberal foreign worker policy. There are close to half a million non-domestic workers in Singapore working in jobs that pay less than $1,800 a month.

With an increase in labour supply brought by Workfare, the highly elastic supply curve means that the employers are unlikely to reduce wages of their workers but the additional employment created is likely to be small.

In fact wages for the lower-end local workers are largely kept above those of the cheaper foreigners by the foreign worker levy. With the reduction in the foreign worker level by $30 a month in this budget, it will put pressure on the wages of the local workers and undo the effects of the Workfare scheme to increase their take-home pay.

Who benefits more from exempting GST on basic items?

The Second Finance Minister Tharman Shanmugaratnam said that removing GST on basic items benefits the rich more.{5} He gave four reasons to make his case:

- The low-income group does not spend a lot on essentials;

- The GST from essentials comes mainly from the rich and foreigners;

- To make up for lost revenue, the GST on other items would have to go up; and

- The difficulty of deciding just what is an essential item.

On the first point, he revealed that according to the Household Expenditure Survey, the low-income households spend just 5% of their expenditure on the eight essential items.{6}

Even after adding other non-cooked food items (9%) and utilities and public transport (13%), the total is only about a quarter of their expenditure. Although some families may spend a big part of their income on school and medical fees, these are already exempted from GST.

A chart that he used is reproduced below:

On the second point, he said that the GST collected by the Government on essentials comes mainly from the high-income group and foreigners.

He is wrong on both counts.

Firstly, someone needs to let Mr Tharman Shanmugaratnam, who is also the Minister of Education, know that our government universities and polytechnics do charge GST on their tuition fees. Not only that, our town councils and government hospitals charge GST too.

I re-categorised the same household expenditure data and present them in the table below: {7}

If one were to exempt GST on non-cooked food, fuel & utilities, public road transport, education & stationary, and health care, it would cover 39% of the expenditure of the low income group. Excluding housing accommodation, it would cover 48% of the expenditure.

Second, the criteria on who benefits more should be based on the tax savings as a proportion of one’s total income/expenditure. Though the rich may consume more in absolute terms, the poor spend much more as a percentage of their income on basic items.

The MOF needs to balance benefits of having GST exemption on basic items against costs of doing so. The benefits of doing so increase with each GST hike.

References:
2. No Need to dip into reserves to pay for deficit; Budget shortfall won’t hurt financial health, says PM Lee, Straits Times, 2 March 2006.

3. GST hike needed to pay for social spending: Tharman, Straits Times, 2 March 2007

4. Budget Highlights – Financial Year 2007, MOF, 15 Feb 2007

5. Zero-rate GST for essentials will benefit the rich most, Straits Times, 2 March 2007

6. The eight ‘essential items’ are rice, salt, sugar, edible oil, soya sauce, vegetables, flour and fish

7. Table 14A, Report on the Household Expenditure Survey 2002/03, June 2005, Department of Statistics, Ministry of Trade & Industry, republic of Singapore