Missing links and many holes. We need more answers, Mr Leung

SCMP March 3

The Hongkong Budget is fine as far as it goes - which is not far at all. It is a curious mix of good sense, evasion and wishful thinking. Financial Secretary Antony Leung Kam-chung deserves some praise. He has, at last, begun to reverse the erosion of the direct-tax base.
That was started by Hamish McLeod and continued with ever increasing recklessness by his successor, Donald Tsang Yam-kuen, who oversaw a massive rise in allowances, but tried to engineer the economy in favour of the property developers and the upper-middle class, by providing tax relief on mortgage interest.

A reduction in allowances and adjustments in tax bands and marginal rates is fair, sensible and politically quite bold, although one detects Chief Executive Tung Chee-hwa's timidity in the decision to phase it over two years. As a result, Mr Leung has had to apply the same two-step process for unincorporated businesses and income from property, but the increase in profits tax on corporations - from 16 per cent to 17.5 per cent - takes effect immediately. It is hard to see the logic in this - or indeed of maintaining the differential between profits and other direct taxes.

Although Mr Leung is moving in the right direction, direct tax will have to continue to rise if, through force majeure, Hong Kong is unable in the future to tax citizens through land price inflation. Effective rates are still extraordinarily low for everyone - except the maids whose long hours and low pay provide a huge effective income subsidy to Hong Kong's spoiled top 15 per cent or so of households.

It is odd that while increasing some direct taxes, Mr Leung is allowing yield from property rates to fall, by not compensating for a decline in rateable values with an increase in the percentage. Rates are the simplest, most neutral tax available, spreading across all classes and economic activity. Failure to use this tax tool effectively looks like another surrender by a "business friendly" administration to its property-developer friends.

Mr Leung may be optimistic in expecting to raise $1.5 billion from football betting. If the Jockey Club monopoly offers poor odds, punters will continue to use offshore centres.

Significantly, he made no mention of the shameful and racist tax on maids.

The bottom line of Mr Leung's tax proposals remains very disappointing. The operating deficit, even after investment income, is forecast at $53 billion for the coming year, not much of an improvement on 2002-2003, and equal to 35 per cent of revenue - remarkable considering the books balanced just five years ago, and previously generated a large surplus. Even on Mr Leung's perhaps optimistic assumptions about the economy, he does not foresee the operating balance being restored before 2007.

In the short run, a deficit of 4 per cent of gross domestic product ($52 billion) may be justified by economic circumstances. For sure, deflation would be worse and unemployment much higher but for the deficit. But it is the lack of a convincing road map to get to a balance which is disturbing. On the spending front, this year Mr Leung is doing no more than hold steady. The civil service is still much better off than its recent bleating would lead us to believe, both in terms of salary and staffing levels. Mr Leung admits the need for more revenue sources in future, but makes no indication of what these will be. Have we not had enough discussion of the options - higher direct taxes, broad or selective consumption taxes - to lay the groundwork, provide a declaration of intent? Personally I prefer direct taxes. But given the narrow base of income tax there is clearly a case for more consumption taxes.

Another missing link in Mr Leung's story is capital spending. First, he sees land revenue rising to $13 billion in 2004-05 from almost nothing now and to $19 billion in 2005-06, and the sale of $112 billion of government assets over five years. But can assets be sold without the radical restructuring of pricing of fares and facilities? The issue has not been addressed. The government can also sell loans, but what is the difference between selling a loan and selling down fiscal reserves? It is just a book-keeping exercise unrelated to the real issue - revenue.

On the capital spending side, the government juggernaut moves on, regardless of budget constraints. Billions remain allocated for environmentally destructive reclamation projects, while Kai Tak and other major sites sit idle. The Cyberport is providing taxpayer-financed subsidies which are damaging the private sector, and the government remains hell-bent on wasting public money on its self-important harbourside headquarters. This is madness and suggests Mr Leung has scant control on the spending departments.

Welfare spending is largely determined by the ageing population and unemployment levels, but capital spending is much easier to control. Of course, infrastructure is an investment in the future. But given the low population growth and skill, and service orientation of the economy, how urgent is the need for many more roads and government offices, or even schools now that the school-age population has peaked? Mr Leung also shied away from fees and charges, due to be unfrozen at the end of this month. Surely decisions on charging should have been made by now and taken into account. Why not, Mr Leung? Please fill in the many holes in your Budget.




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