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Govt underestimating economic crisis

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Deputies have approved the state budget for next year. Its biggest flaw rests in that it is based on a GDP growth estimate of 4.8%, while the latest estimates put economic growth for next year at a maximum of 2% (forecasts are somewhere in the band of -1% to +2%).

Instead of the approved CZK 30 billion, the budget deficit can reach a “disastrous” level of CZK 140 billion. And lower tax revenues stemming from a reduced economic activity are not the only major reason. If there is a fast unemployment growth next year, it will result in a sharp increase in mandatory social expenditures of the government (this is roughly what economists call “automatic stabilisers”). We can find some comfort in the fact that if inflation does not grow, or even if there is deflation, other mandatory expenditures, such as pensions, will grow at a slower-than-expected pace.

The question is how it came about that the government presented to the lower house a budget based on totally unrealistic estimates.

1. First, the structure of the budget is set in the spring, long before politicians and state officials leave for holidays (but this is done in many other European countries and it is nothing unique after all).

2. Another reason is that the Czech Republic does not have a developed system of the so-called leading economic indicators (investor confidence, business, self-employed, consumer, industry confidence indices etc.). These indicators are subject to thorough analyses in big markets like Germany and the USA. As early as July and August, the indicators suggested a sharp, harmful and huge fall in confidence in the neighbouring Germany.

In our country, we still relied on two-month-old official data and thought we were not in danger. The disadvantage of a major publicity of leading indicators (threatening headlines on newspaper front pages and in evening newscasts) is the fact they themselves predetermine (worsen) the market sentiment, that is, the actual economic activity.

But I dare to say that if we had had sufficiently developed and sophisticated leading indicators, we would have known about the huge impacts on our economy a long time ago.

3. Among Czech cabinet members, there is not a single experienced economist with a prestigious education at western universities and with a sound international reputation, but what is even worse: there is no economist at all. As a result, the government underestimated the impacts of the global financial crisis and subsequently of the economic crisis. What has prevailed here is a sort of a navel-of-the-world Czech ideological nationalism and big words about how perfectly we are protected from the crisis.

But nothing is just black and white: everything has its costs and revenues. Economy is based on confidence and psychology to a great extent. As I have once written in this place, releasing bad news in dozes – appeared (unintentionally) as a well thought-out strategy.

4. For cuts will be necessary in the budget, the government did not want to resort to them before regional and Senate elections. Cuts are unpopular and would provoke fights within the government coalition. But according to the election results, it did not have much of an effect.

5. Next year, the government will not have to consult the actual reductions, postponements and shifts in expenditures with the lower house so much (if at all). The power of the cabinet will reinforce at the expense of the parliament and that is what suits the government.

And what would be the actual deficit? Everything will depend on the European (EU) context. If the crisis is very serious, the European Union might completely reconsider its stance on the stability pact and on the Maastricht criteria.

But anyway, three years ago a clause was introduced that enables a temporary deficit increase beyond the limit in the event a country faces a very difficult economic situation. And that may concern us soon.

However, things will develop in an opposite direction anyway. On the one hand, the government will have to cut spending owing to overestimate revenue forecasts. On the other hand, it will spend money within a rescue package to recover the economy (this will be a dictate of political demand). What it means in practice is clear.

Translated with permission by the Prague Daily Monitor.

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