Bulgaria plans to cut 2015 deficit to 3% of GDP through tax hikes, spending cuts

By bne IntelliNews November 27, 2014

Bulgaria will try to bring its budget deficit down to 3% of GDP in 2015 from 3.7% in 2014 through a combination of tax hikes and spending cuts in hopes to avoid entering into the EC's excessive deficit procedure, according to the finance ministry's draft budget for next year. The deficit is seen narrowing to 2.5% in 2016 and 2% in 2017.

The fiscal adjustments proposed by the finance ministry are largely based on the revenue side as government spending would shrink by only 0.5% next year if the plan is approved by parliament. The tax on interest earned on bank deposits will increase to 10% from the current 8% and its scope will be expanded to include all term deposits. This measure is expected to generate BGN40mn (€20.5mn) in additional budget revenue. The proposed tax reform also abolishes the tax exemption for low-income earners and raises the maximum social insurance income by 8.3% to BGN2,600, which would together contribute some BGN200mn to the state's coffers.

The draft austerity programme is likely to slow Bulgaria's economic growth and lead to social turbulence due to the peculiarities of the deficit reduction it entails. A higher tax on interest earned on bank deposits will lower the yield on savings invested in bank deposits and will ultimately increase the cost of borrowing. The tax hike punishes savings and encourages consumption, thus changing the allocation of income between the two and also the direction of the economy. Business investment will likely decline, while demand for consumption goods will increase, at least until the effects of the drop in capital accumulation kick in.

The re-direction of spending in the economy will not only change employment patterns but will also exert an upward pressure on the unemployment rate. Raising the maximum social insurance income is another factor that could contribute to the same effect. Even though the fiscal corrections reduce the uncertainty about future taxation, which was one of the main reasons why business confidence was worsening during most of 2014, it is unlikely that firms will now be more prone to invest or hire.

The proposed tax reform will probably hamper domestic saving and investment and will do almost nothing to reduce the absorption of funds by the public sector. In fact, the size of the government relative to the economy, as measured by total state expenditures, will fall only slightly to 39.8% of GDP from 40.5% now. While the budget draft does not envisage a drastic cut in expenditures, it adjusts spending by saving BGN400mn on public sector wages in order to finance other expenditures. The finance ministry's plan to cut public employees' wages by 10% next year might lead to protests, limited access to certain social services and could also undermine next year's budget targets.

The government intends to borrow BGN8.1bn in 2015 to cover the gap in the budget and roll over maturing debt. However, since some of the funds needed to refinance older debt will come partly from next year's budget revenues and partly from the proceeds of the BGN3bn Eurobond the government issued in June, the gross public debt will rise by only BGN2bn to BGN24.5bn. In relative terms, the size of the public debt will equal 29.6% of GDP in 2015, up from 28.4% in 2014. It will increase further to 30% of GDP in 2016 before falling to 27.9% in the following year.

Revised targets for 2014 and proposed plan for 2015  
  2014 2015 y/y
Revenues, BGN mn 29,985.6 30,335.2 1.2%
% of GDP 36.8% 36.8%  
Expenditures, BGN mn 32,978.3 32,824.1 -0.5%
% of GDP 40.5% 39.8%  
Budget balance, BGN mn 2,992.7 2,488.9 -16.8%
% of GDP 3.7% 3.0%  
GDP, BGN mn 81,428.0 82,406.4  
real GDP growth 1.5% 0.8%  
Source: FinMin      

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