Criticism over new tax cuts to boost economic growth
In August 2007, the French parliament adopted a law promoting work, jobs and purchasing power. It introduced a set of measures aiming to stimulate economic growth, by creating a ‘confidence shock’. The package contains a range of tax cuts, including in relation to overtime work, and income distribution measures. However, the effects that can be expected from the reforms are still uncertain, and several criticisms have been raised.
New tax measures
On 21 August 2007, the French parliament adopted a law promoting work, jobs and purchasing power (Loi en faveur du travail, de l’emploi et du pouvoir d’achat, TEPA).
The first part of the law is devoted to tax cuts. Tax credit on mortgage interest has been created for the purchase of an individual’s main residence, amounting to 40% in the first year and 20% for each of the four following years. In this regard, a ceiling of €3,750 has been set for single people and €7,500 for couples. The Constitutional Council (Conseil constitutionnel), however, invalidated the retrospective nature of the measure proposed by the government in implementing one of the much publicised election campaign promises of the then candidate and now President, Nicolas Sarkozy. As the measure will now only apply to mortgages signed since the presidential election in May 2007, the cost to the exchequer will be reduced from €7.7 to €3.7 billion a year.
Various other measures are aimed at implementing tax cuts as announced during the presidential campaign. Inheritance tax has been reduced by €2.2 billion, thereby increasing the proportion of estates that are exempt from tax from 60% to 95%. The Wealth Tax (Impôt sur la fortune, ISF) has also been reduced, at a cost of €500 million. The ‘tax shield’, which sets a maximum income tax rate, has been reduced from 60% to 50%, at a cost of €600 million. Students’ earnings will not be taxed up to the equivalent of three times the national minimum wage (Salaire minimum interprofessionnel de croissance, SMIC) (FR0708039I), costing €30 million.
Overtime pay
The second part of the law exempts some overtime pay from taxation, as overtime will be encouraged in companies with fewer than 20 employees. For the workers affected, overtime pay will be exempted from income tax and employee social insurance contributions, while the corresponding employers’ social insurance contributions will be reduced by a flat-rate amount. This measure puts into effect the slogan ‘work more to earn more’ cited by Mr Sarkozy during the presidential election campaign, and its estimated cost is €6 billion.
Measures on income
The last part of the law concerns measures aiming to regulate income distribution. On the one hand, ‘golden handshakes’ will be controlled and subject to taxation if they exceed €1 million. On the other hand, the law provides for the introduction of an Active Solidarity Income (Revenu de solidarité active, RSA) on a trial basis in 25 ‘departments’ or geographic districts. The RSA is designed to prevent those on social benefits earning less income when they return to employment. A specific bill is to be passed setting out how the RSA will be devised.
Criticisms over new law
The law has been criticised from three perspectives regarding its fairness and effectiveness.
- Firstly, tax cuts do not target households that are most disadvantaged; in fact, as the economic newspaper Les Echos stated, two thirds of the mortgage tax cuts benefit those in the top 30% highest income bracket (Les Echos, 2 July 2007). Moreover, the impact on deflation will be reduced if the savings from lower tax rates are saved rather than spent.
- Secondly, public opinion recognises that exempting overtime from tax will increase the purchasing power of those concerned. Nonetheless, such a move leaves out many workers who do not have the option of ‘working more’, and runs the risk of being used to justify lower pay increases for everyone. Furthermore, the impact on employment is uncertain, as the measure will encourage employers to increase working time, rather than recruit more staff.
- Thirdly, the entire package represents a substantial sum, estimated at €10 billion in 2008 and €13 billion in subsequent years. However, no provisions have been made for its funding. The national deficit will thus increase, creating an even wider gap in relation to its European commitments. The government was counting on the fresh impetus that the tax package would give to growth, but the majority of economic institutes do not share its optimism. Weak growth, which was recorded in the second quarter, as well as the financial turmoil in the global markets in the summer of 2007, have made economic prospects even more uncertain.
Commentary
These reactions reflect the uncertainty regarding the outcome of what is, in fact, just the initial stage of a considerable programme of reforms that have been announced. Employers are in favour of the law, and even suggest taking further measures in this respect, whereas the trade unions are cautious and more concerned about other issues and deadlines.
The overall impact of the law should be clarified by the content of the 2008 budget and the other measures that are being prepared, notably the possible creation of a ‘social VAT’ – a value-added tax that would be dedicated to supporting social policies. The Prime Minister, François Fillon, asked the Planning Minister, Eric Besson, for proposals on such a tax which was suggested in the ‘Besson’ Report. Nevertheless, given that this tax has not yet been defined, the official discussion between the social partners on this issue has not yet started.
Michel Husson, Institute for Economic and Social Research (IRES)