How to support the growth of the Czech economy without increasing the deficit

You have probably noticed that estimates for Czech economic growth are falling again. While at the beginning of the year, GDP growth forecasts for this year were mostly around 2.5%, most estimates now point to below 2%. At the same time, the long-term growth potential of the economy also appears to be declining, as indicated, for example, by adjustments to the Czech National Bank's model.

What can be done about this? In this situation, it is appropriate to divide the discussion into options for supporting growth in the short, medium, and long term. I have already addressed the support of long-term growth in other articles. This time, we will focus on the possibilities in the short term. If the economy is below its potential – which is currently the case – the central bank and the government should implement a stabilizing economic policy. The CNB is slightly behind in loosening monetary policy, but the change in interest rates is a step in the right direction. The economy now needs lower rates.

However, fiscal space has been largely exhausted by the high public deficits of recent years. Last year's fiscal consolidation slowed the economy slightly; this year's budget is roughly neutral in terms of its impact on economic growth. Nevertheless, we have still not put public finances on a sustainable path. Nevertheless, there is a way in which fiscal policy can help without worsening the budget balance. Let us take an example – let us call it a tax swap. Different types of taxes have different effects on the economy. Direct taxes (such as personal and corporate income tax) have a multiplier in the range of -0.4 to -0.6, while indirect taxes (VAT, excise duties) usually have a lower multiplier, roughly -0.1 to -0.3.

What does this mean? If we reduce direct taxes and lose CZK 1 billion in revenue, but collect the same amount by increasing indirect taxes, the budgetary impact will be neutral. However, the impact on GDP will be positive – the positive effect of lower direct taxes will outweigh the negative impact of higher consumption taxes.

In the latest consolidation package, however, the government did the opposite – it increased direct taxes and reduced VAT collection. For the sake of completeness, it should be added that property taxes and other types of taxation should also be included in considerations of the tax structure.