IN A FEW days time, Belgium’s Presidency of the EU Council will be concluded. The small kingdom at the heart of Europe shares with Greece and Italy the not-so-enviable position of having the highest debt to GDP ratio in Europe; it is also running a budget deficit of around 5 per cent of GDP.
For the past few years now, the country has been going through an unprecedented period of instability in its history, and currently is run by a caretaker government. Yet, Belgians are managing to take some drastic fiscal consolidation measures that could serve as an example for other countries.
Having said this, like Greece, Portugal or Cyprus, Belgium has not escaped the watchful eye of rating agencies. However, possible future downgrades will be linked to the absence of functioning governments rather than the absence of effective policies, as is the case in Cyprus.
Belgium, like other EU member states, is following a strict cost-cutting policy through the following measures: a) an immediate increase in the pensionable age; b) substantial cuts in civil servants’ pension benefits and salaries; c) reduction in the size of public employment; d) measures to contain costs of the social security and health care system; e) unchanged personal and company taxation, combined with rising indirect taxation (VAT, tobacco, alcohol, and energy consumption).
In Belgium, the government’s payroll represents 25 per cent of total government spending. This compares rather favourably with the situation in Cyprus; here public payroll and pensions are expected to rise 5 per cent yearly to 2.8 billion euro, making out almost one third of total spending.
The growth of this payroll far outstrips the growth of the economy, which is leading the Cyprus economy to a dead-end, as we all know. Despite being in a better position than Cyprus, Belgium sees that compared to its neighbours, it still needs to trim down 0.7 civil servants per 100 inhabitants in the near future if it wishes to remain competitive. There is also a growing understanding that the nature of services provided by the state has been changing gradually, and an increased number of tasks can now be outsourced to the private sector, which is more cost effective.
Belgium’s second most important challenge is reducing social spending, which has been increasing faster than economic growth and is not sustainable in the long term. For decades, Belgians have enjoyed one of the best welfare systems in Europe, with quality health care for all and (over) generous income support for those out of work. In contrast, these problems are not affecting Cyprus yet. Here social spending has been relatively low and will remain almost unchanged in 2011 at 1.3 billion euros. But then, Cyprus is notorious for being the only EU member state that does not offer universal health care to its population and social provisions for those living at the margin of society (notably the elderly) are minimal.
Instead, successive governments have preferred to continue wasting substantial chunks of public funds to pay above-market-rate rewards to a class of privileged citizens, the employees of the public sector. In my view, these are not choices compatible with of a modern European society and may reflect the relative poverty of political debate with a resulting lack of social equity.
On the income side, there is little else that the government of Belgium can do since direct taxation is one of the highest in the Union and nobody sees how this figure could be pushed up. Belgians are already the champions of high taxation; there is an enormous spread between the cost to the employer and the net pay received by the employee. Belgium’s marginal taxation rate is extremely high and currently stands at 45 per cent. What makes Belgium particularly special is that this marginal tax rate already applies for an annual income of just above 20,000 euro. In Cyprus, the situation is very different, and many Belgians would still prefer to pay their taxes here. However, increased tax hikes may put Cyprus’ position as a regional financial centre at risk; the temptation to increase revenue through higher corporate or property tax rates could prove counterproductive in the long run.
The idea of the Belgian index-linking systems is to prevent the erosion of salaries and social benefits; employers cannot offer less than what has been agreed at the collective bargaining table. However, prices of tobacco, alcohol and transport fuel are excluded from the calculation. Automatic wage indexation is annual and concerns private and public sector employees, as well as beneficiaries of the legal minimum salary.
The protection of the purchasing power of employees does not happen at any cost: the state closely monitors the automatic indexing of wages in order to prevent an upsurge in relative labour costs, which could threaten competitiveness. To this effect, the forecast of increases in foreign hourly labour costs among Belgian’s main trading partners (that is France, Germany and the Netherlands) serves as an upper limit to wage increases.
Despite these limitations, one of the problems that has been identified with the system is its lack of flexibility in facing economic shocks as well as its inability to adapt to changes in regional employment growth (not all regions are equal and wage differences are needed to compensate varying productivity levels within the country).
Coming back to Cyprus, the idea to restructure the Cost Of Living Allowance (CoLA) is not new; it has been recommended on several occasions by the International Monetary Fund and various European and local bodies as it triggers second round inflation and an erosion of competitiveness in the long run. Far from being ideal, the Belgian model which allows for contained growth of earnings within the range set out by the main trading partners, may offer some inspiration in this context.
Belgium and Cyprus each have to tackle their own specific problems and fiscal consolidation strategies are not easily transposable. Having said this, Cyprus may gain from implementing a more balanced and effective allocation of its limited resources to achieve improved social equity and thus maintain its long-term economic attractiveness.
Bernard Musyck is teaching economics at Frederick University.
