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The importance of fiscal prudence and economic growth

Those who tend to follow developments in the Italian political scene would know that some days ago there was a difficult situation for the Berlusconi government with regard to the position of Economy Minister Giulio Tremonti.

Essentially, Mr Tremonti is seeking support within the government for his intended economic reforms and would like to present a budget for 2010 that does look at stimulating economic growth, but would equally be prudent in its approach so as not to grow the fiscal deficit. He is also very keen to ensure that ministers do not hinder his reforms through their policies and actions.

The way the story ended is irrelevant to us. What is relevant to us as a country is the core issue - achieving both fiscal prudence and economic growth. Is a balancing act between the two possible? This must be a central thought that is preoccupying our economy minister, Tonio Fenech, while finalising Malta's 2010 Budget, due to be presented in Parliament on November 9. Mr Fenech has already made it very clear that he sees the priority for our economy being growth and employment.

In this regard I believe that he is totally correct. The critical question is whether we can achieve economic growth without growing the fiscal deficit to unsustainable proportions.

Last year, the general government deficit as a percentage of the gross domestic product reached 4.7 per cent, while the general government debt reached 63.8 per cent as a percentage of the gross domestic product I reiterate the fiscal deficit reached this level as a result of the payouts to former employees of the Malta Shipyards, who went into early retirement, and many of whom are now back into a job, and as a result of the subsidy given by the government for most of last year on our water and electricity charges. Otherwise, last year would have been very much a development of 2007 and 2006 where the fiscal deficit was reduced from 2.9 per cent in 2005 to 2.2 per cent last year.

This year, given the international recession and the resulting slowdown in our economy, there has been additional government expenditure to support jobs (surely no one can be against this sort of expenditure) and reduced government revenue (which is understandable given the economic environment worldwide). We will find out how we will end the year in terms of fiscal deficit on Budget Day; but it is unlikely that we will be hitting the levels of fiscal deficit experienced by the other economies in the eurozone.

A couple of examples would help to understand why I am making this assertion. Spain's deficit is expected to reach 10.6 per cent of GDP and France's is expected to reach 8.2 per cent. The eurozone average deficit is expected to reach 6.5 per cent for this year.

Thus, we have had two anomalous years which followed a number of years when the government had reined in the fiscal deficit to a sustainable level, while the economy continued to grow at appreciable rates. The government proved that it could maintain the balance between fiscal prudence and economic growth, so much so that unemployment has been kept at a low level (low unemployment is itself an indicator of economic growth) and we have been able to comply with the Maastricht criteria such that we were able to adopt the euro as our national currency (meeting the Maastricht criteria is an indication of fiscal prudence). As usual, an important corollary for the 2010 Budget is people's expectations. The way government arrives at the balance between fiscal prudence and economic growth, keeping in mind the key economic priority of the generation of employment, will need to fit in with the expectations of the various lobby groups in the country. Such lobby groups are in themselves not homogenous in their expectations and so no measure which the government will take is likely to find favour with everyone.

If it is any consolation, it is worth remembering that the balancing act is a challenge not only for Malta or Italy, but for all economies as the international recession starts to recede and we begin to see growth next year.

This is certainly a time when logic, method and coherence (apologies to Hercule Poirot) become essential. A wrong decision today will prove very costly tomorrow. There is the need of a budget where not only the fiscal deficit is kept to sustainable levels, but also a budget where the economy itself remains sustainable. In this regard wishful thinking is the surest way to economic disaster.

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