MediaToday
Interview | Wednesday, 06 January 2010

The delicate balance

CHARLOT ZAHRA spoke to Gordon Cordina, Head of the Economics’ Department at the University of Malta, about the possibility that the economic recession in Malta might protract beyond mid-2010

Do you agree with the general thrust of the 2010 Budget in view of Malta’s current economic situation and its budgetary position?
Currently the Maltese economy is, like most other economies, facing a difficult situation, as it is undergoing the most serious and possibly the longest recession in the past ten to 15 years.
These circumstances reflect both the international situation, which has affected mainly tourism and mass-market-driven manufacturing, as well as insufficient internal competitiveness.
We do have sectors that are competitive. Indeed, roughly one-third of our economy is still growing, through financial services, remote gaming, IT,etc. Our economy needs to be restructured in a faster way from those sectors that are suffering to those that are growing.
Moreover, we need internal re-structuring within those areas that are insufficiently competitive, such as manufacturing. For instance, in manufacturing there are still those niches that are specialised and are faring well, such as the pharmaceutical sector and niche printing. There are niches of positive activity in the tourism sector as well.
And while the recession is significant for the Maltese economy, we are not being as hardly hit as other EU Member States.
This is mainly due to the fact that Malta is currently not facing a credit crunch. While internationally the credit crunch was the cause of deep economic woes – banks stopped lending, thus reducing liquidity to such an extent that they could not operate anymore – in Malta banks remained liquid, strong and supportive of the economy. This is of course a positive feature of our economy – on the other hand, it also means that our recession is somewhat milder than elsewhere not because our business sector is fundamentally more competitive. The obvious implication is that once the financial crisis in other countries is over, our relative advantage in this sense will disappear.
From a shorter term perspective, the latest GDP data show that the Malta’s growth rate continued to be more negative in the third quarter of 2009.
While other countries have started coming out of the recession, we may still be round half-way through. This means that potentially, it will take more for Malta to come out of the recession, around six to nine months later, if we were to go by historical trends.
The Government budget has a crucial role to play in such circumstances. When the private sector is faring badly and is not producing enough, the public sector then has to come in to stablise the situation.
If the private sector is not investing enough, thus leading to a lack of internal demand, then the Government has to remedy for that deficiency.
However, the public sector must not intervene in such a manner which leads the economy to become dependent on public spending. That’s why during an recession, Government assistance must be temporary and reversible.
For instance, it would be ideal to spend money on productive and investment initiatives that can subsequently live on their own steam. It is not ideal to increase pensions or other forms of social assistance, which would lead to a perennial increase in public expenditure.
I believe that the 2010 Budget has sought to achieve this balance. Obviously, there is a larger deficit for 2010 than expected – up to some time ago, it was projected that 2010 would be the year when the Government would balance its books.
However this was before the onset of the recession and higher deficits are inevitable in the circumstances. It is furthermore important to note that the deficit in Malta is not as large as in other EU countries -- the euro area average deficit is 6 per cent, while in Malta it is slightly less 4 per cent.
It’s good that our deficit is not so high, so that would give us spare capacity where to manoeuvre if something wrong happens and we need to increase our deficit. The 2010 Budget has also provided various initiatives for business, but we still have to see how effective the design of these initiatives will be to enable effective absorption by business.
In the past, there were various schemes that were not absorbed by businesses because they were not designed or marketed well-enough.
However, it would be desirable for our country to direct even more of its resources towards productivity and the creation of jobs, rather than the dependence on the welfare system where we are spending without any economic result whatsoever.
Over time, there is more the need for a rebalancing of the Government expenditure in this sense. The fast this takes place, the better it is for our economy.
However, there are social and political constraints that prevent our policy makers from marching on this path. We only hope that such a rebalancing of expenditure will not be forced on us by circumstances where the welfare system becomes unaffordable. It is more desirable to take gradual but concrete steps over time rather than be forced to make radical adjustments later.

In your view, is the time ripe now for a revision of the COLA mechanism twenty years after it was first introduced or not? Why?
Last year was a clear example of what might be wrong with the COLA system as it is operated in Malta today. The COLA system has a number of advantages, primarily that it offers industrial stability and a base for the conduct of industrial relations and negotiations.
On the other hand, we saw that when you have the two principal evils of the economy – a falling demand and a high inflation rate for much of the year, which reached almost 4 per cent at one time – there would be the risk that COLA would not be affordable to business, thus potentially compromising jobs. And the loss of jobs is the last thing that you would want in a recessionary situation. .
These are issues which must be considered by social dialogue which is focused on the country’s long-term interests.
Last year COLA had to be granted, and I think this was accepted widely by the social partners because of the high inflation rate that pervaded Malta in 2009, especially to protect those workers and pensioners who are low-wage earners and are not covered by a collective agreement.
On the other hand, I believe that we should not live in an economy when we are constantly worried about COLA. Ideally, we should have businesses that are productive and competitive enough that are able to pay not only COLA but also grant other increases.
Therefore the main issue here is not so much the granting of COLA but the lack of productivity and efficiency of those sectors that are not able to afford COLA – those that are too labour-intensive and depend on low value-added.
Hence, the debate on this issue should go in two directions–we should continue discussing how COLA could be refined, especially to defend those workers who are most vulnerable and to prevent COLA itself from leading to job losses –while at the same time working to improve the competitiveness of businesses in general and especially of those that face special difficulties in the granting of COLA.

In 2008 the Government had projected a budget deficit of 1.2 per cent of GDP, but then went haywire to 3.6 per cent of GDP. This year we had a similar repeat with the Government projecting a deficit of 1.65 per cent of GDP, with the final deficit figure for 2009 projected at 3.7 per cent. How does this reflect on the Government’s fiscal performance over the past few years?
Most people look at the fiscal deficit because we have a huge headline there, because of the Maastricht Treaty, the Stability and Growth Pact which state that the deficit should not exceed 3 per cent of GDP.
In these circumstances of a recession, all countries had to intervene in a massive manner to increase demand, and the deficits in all these countries grew.
I strongly believe that the issue is not the fiscal deficit itself, but the productivity that arises out of the public expenditure which the deficit, and indeed all forms of government revenue, are financing. I would not be concerned if a company borrows money and uses that money to grow productively.
We have to analyse the fiscal deficit in a similar manner– is this deficit going towards financing expenses that are worthwhile, creating new investments that the country which will give a payback in terms of taxation revenue which will service the public debt- or is this money being used in a unproductive manner, ending up with deficit that we cannot pay back?
In the last budget, and even in previous budgets, we saw the Government turning its expenditure towards the stimulation of productivity. We saw a substantial amount of expenditure financed by EU funds which offered more stimulus to businesses.
On the other hand, the welfare system remains a burden on the country, in spite of progress achieved in terms of curbing abuse and designing programmes in a more rational manner. Of course, social cohesion is important in the economy, but we still have to ask: “Will we be able to take the same result in terms of social cohesion while at the same time spending better or more efficiently?” We have to visit these issues constantly.

At the same time, during the 2010 Budget Speech the Government has finally abandoned its quest for a balanced budget in the Medium-Term Objective. How will this affect the Government’s borrowing from foreign banking institutions?
I honestly hope that the Government has not abandoned its quest for a balance budget in the Medium-Term. I have not seen an official statement by the Government to that effect.

It has not made an official statement to that effect, but the budget forecasts until 2012 show that it will not be reaching it for sure...
The fact that we are having a higher deficit as a result of the economic recession does not remove the medium term objective of having a balanced budget. The Stability and Growth Pact will not allow us for sure to divert from that target, and we will have to proceed to that effect.
And even if there was not the discipline imposed by the EU Stability and Growth Pact, the curtailment of the public deficit and debt is in itself desirable.
Public debt imposes burdens on the economy, not least in terms of the opportunity costs of the alternative uses of money directed to pay interest on such debt.
Such payments could be used to, say, build roads, improve schools or other infrastructural requirements. We should also spend the money in an intelligent manner to promote economic activity.
The other aspect of an excessive public debt is the risk of worsening credit ratings for Malta
and its Government.

In your view, when do you foresee a balanced budget by Malta? Do you think that the Maltese Government will managed to meet the Eurozone’s Growth and Stability Pact by the end of 2010, as the EC is demanding?
We have already seen that Malta will not be able to meet the Stability and Growth Pact by 2010. However I think that Malta and the other EU countries will start entering once more into the dimension of the Stability and Growth Pact once the recession subsides.

Now that the economic crisis is starting to subside, at least globally, when do you see Malta starting to come out of the economic recession? Why?
It is still too early to predict when we will be coming out of this economic recession. What we have learnt over the past two years is that there is still a lot of uncertainty in economic forecasting, both locally and internationally.
The best thing to do now is to monitor the situation and to be even more forceful in the implementation of suitable economic policy measures to strengthen the underlying competitiveness of our economy so as to make us more resilient to possible adverse shocks.

czahra@mediatoday.com.mt

 

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06 January 2010
ISSUE NO. 615

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