MNI INTERVIEW: Czech Growth Bet To Fall Short-Former Advisor

The new Czech government should not bet on GDP growth giving it the fiscal space needed to boost spending and slash taxes, with little room for either raising revenues or cutting spending, a former senior government advisor told MNI. 

“The government may hope that ‘favourable economic weather’ will help it miraculously achieve its plans without worsening the fiscal outlook. It can try to boost GDP in the short term through government expenditures, but government spending is not the main driver of growth, even in the short run,” Martin Slany said.

Fiscal multiplier effects should amount to less than 1% of GDP, said Slany, economic advisor to conservative President Vaclav Klaus from 2006 to 2013, who spoke to MNI shortly after Prime Minister Andrej Babis’s government revealed its growth-focused Economic Strategy 2.0.

Efforts to keep the fiscal deficit “safely” below 3% of GDP - as described by Finance Minister Alena Schillerova - may also fail, Slany said, citing already “excessive” spending, automatic indexation, a high proportion of mandatory expenditures, and widespread waste. (See MNI EM INTERVIEW: Czech To Ease Fiscal Rules-FinMin Schillerova)

Still, the existence of a clear strategy is a positive step compared to the previous government’s ad hoc approach, said Slany, who no longer holds any party political role or membership. But not all the proposals set out are achievable in one parliament, he said, nor would they ultimately reduce the size of the state.

While the government can create conditions for future growth, "those effects take time, and it would need to be willing to adopt measures whose benefits will likely be reaped by future administrations. And that is a political risk,” Slany said.

Having pledged not to hike taxes, the government plans to raise additional revenue by improving collection through electronic tracking and cracking down on evasion, though this will fall short, Slany said.

“Even if the fiscal effect were as high as 10 billion crowns, without accounting for the state’s additional administrative costs, that is negligible relative to nearly two trillion in state budget revenues. One might justify it from a microeconomic perspective—as a way to level the playing field for businesses—and that may be true. But it is certainly not a tool for addressing the structural problems of public finances, nor is it a tool for dramatically reducing the shadow economy.”

Slany also criticised plans for defence spending at 2.07- 2.11% of GDP this year, even though this would be slightly down from the previous government’s projected 2.35%.

“We must ask whether we are even capable of spending the allocated defence budget effectively. I am not convinced we are,” he said, adding that reaching NATO’s 5% target would require “brutal” cuts elsewhere and be "impossible” to attain without dual-use spending on roads and hospitals.

Slany said government plans for nationalising public-private energy utility CEZ are appropriate, given the state of Europe’s energy market, though it should look to dispose of stakes in other enterprises.

“Building new nuclear power plants is simply not feasible with private capital under the current system of regulations and subsidies that distort the electricity market,” said Slany. “I would hope—though I’m no longer very optimistic—that the new government will instead decide to sell many of the state‑owned companies it still holds today, from the RobinOil petrol station network to Budvar or even the Czech Post, which at minimum needs a complete transformation.” (See MNI EM INTERVIEW: Nuclear Key To Czech Energy Strategy - Havlicek)

Inflation will remain close to or slightly below the 2% target this year, Slany said, with a “very cautious” Czech National Bank reluctant to cut rates below 3% in the face of moderate but persistent inflation undershoots. 

Upside risks remain, he said, citing fiscal policy, asset prices, real estate prices, services prices, uneven labour market cooling, and the extension from next year of Europe’s emissions trading system.

“With persistent inflationary risks in the energy and real‑estate sectors, the CNB will maintain a rather hawkish monetary stance. Unfortunately, this is reinforced by the slow pace of fiscal consolidation,” Slany said.