Public finance and fiscal policy

Economic survey of Switzerland 2007: Making fiscal policy more supportive of economic growth

 

Contents | Executive summary | How to obtain this publication | Additional info

The following OECD assessment and recommendations summarise chapter 3 of the Economic survey of Switzerland published on 6 November 2007.

See alsoAdjusting the regulatory framework for the occupational pension funds system

 

Contents                                                                                                                           

The fiscal stance is appropriate for the economy’s cyclical position

The general government’s budget balance has improved from a deficit of around 1% of GDP in 2004 to an estimated surplus of about 1% in 2006, with a similarly-sized outcome expected for 2007, appropriately achieving consolidation at a time of high growth. The improvement reflects, in part, tighter spending control following the 2003 introduction of the “debt brake” rule, which requires the estimated cyclically adjusted federal budget to be balanced. Moreover, the recovery has impacted strongly on government revenues, reflecting the buoyancy of volatile profit and capital-income tax receipts, which yielded considerably more income than expected, in part reflecting booming financial-sector activity. However, spending on social programmes has continued to increase rapidly, notably in health care, disability insurance and social assistance, notwithstanding favourable labour-market developments.

 

Medium-term budgeting needs to be more firmly established

Since the federal debt-brake rule is binding for the annual budgets of the Confederation, there is a risk that control will be largely exercised through cuts on items that can be influenced in the short term, leaving increases in social entitlements, in particular, unchecked. A medium-term budgeting framework consistent with the rule would improve the setting of expenditure priorities. The operation of the debt brake should be complemented by more medium-term planning of the federal finances. The federal government is conducting a medium-term review of its spending tasks (Examination of Tasks Programme, ETP) in order to identify potential areas of savings. While the ETP would add a desirable degree of mediumterm planning to budget management and therefore complement the operation of the debt brake, its implementation has run into delays, and no regular re-evaluations are foreseen. Efforts should be made to complete the ETP soon. As an input into longer-term budgeting, sustainability reports should be prepared and complemented by scenarios reflecting impacts of possible policy reforms. The setting of medium-term spending priorities should be made a recurrent exercise.

 

Reforms of social entitlement programmes should continue

The trend increase in social entitlement outlays generates the risk that future government spending on public services that contribute to raising potential output is crowded out. In some services – notably early childhood education and competition law enforcement – provision is already low. Moreover, benefit entitlements can lower incentives to work. Hence, measures to raise cost effectiveness are required:

  • While the quality of medical services, health-insurance coverage and health status are excellent, some OECD countries achieve similar outcomes at lower cost. Hospital spending is particularly high. Ambulatory care is funded by health insurers, but recurrent hospital funding is characterised by shared financing by cantons and health insurers, fostering incentives to shift patients to the hospital sector. Therefore, the mixed hospital funding responsibilities should be abandoned, assigning the entire role of collective coverage of health provision costs to the insurance companies but avoiding adverse redistributional effects of such a move through appropriate flanking measures. Scope also exists to improve cost-saving incentives that can result from competition among providers and insurers. In particular, the current system of transfers among insurers needs to be reformed so that they compete by raising cost-effectiveness rather than by “cream-skimming” of low-risk insurees. Once an effective system of risk equalisation is in place, insurers should be allowed greater contractual freedom, which, combined with better information on provider performance and minimum quality standards, would encourage value-based competition. Reducing the geographic fragmentation of service provision would also enhance the benefits of selective contracting.
  • The number of recipients of disability pensions has continued to rise, reflecting a decline in the outflow rate to very low levels. Replacement rates are relatively high, and benefits are withdrawn quickly as recipients take up work. Introducing mandatory testing in the initial period of benefit receipt and phasing benefits out more slowly as labour income rises could help raise exit rates.
  • The pay-as-you-go first-pillar pension system is, on current policies, expected to register a deficit already in 2015, reflecting demographic factors including gains in life expectancy. To put the system on a sustainable footing a package of changes in taxes, benefits and years of contribution, including indexation of the statutory retirement age to changes in life expectancy, is required.
  • Increasing life expectancy has also been contributing to rising outlays in the compulsory, funded, second-pillar occupational pension schemes, in which the level of pension benefits is fixed relative to the value of assets accumulated upon retirement by a conversion rate set in federal legislation. A further cut in this rate is necessary to ensure that pension benefits will be fully covered by accumulated assets. The federal government’s most recent proposal to reduce this rate is still being debated in parliament. It would be better if technical adjustments to the conversion rate that are necessary to ensure sustainability were not subject to political decisions. To this end, determination of the conversion rate should be left to the occupational pension funds, subject to the regulatory requirement of actuarially appropriate calculation.

 

Social spending in selected countries
As a percentage of GDP

http://dx.doi.org/10.1787/138728066230
1. 1999 for Hungary and 2000 for Poland.
Source: Eurostat, Social protection expenditure database.

 

Fiscal federal relations have been reformed, but inefficiencies remain

A reform of the assignment of spending responsibilities will come into force in 2008, reducing the degree of shared funding responsibilities across levels of government, such as in disability benefit spending, and improving mechanisms for co-operation across cantons in the provision of services. These measures are welcome, as they are likely to facilitate the setting of expenditure priorities and make spending more conducive to economic activity. However, scope remains for further improvements.

 

Cost effectiveness of outlays on job placement services, including active labour market measures, is hampered by split funding and spending responsibilities, which may contribute to the relatively long duration of unemployment spells. The federal government finances cantonal active labour market policies on the basis of fixed lump-sum payments per registered job-seeker. This set-up may dull incentives for the cantons to move the unemployed rapidly into jobs, especially as unemployment benefits are also federally financed. However, there remain two kinds of incentives for the cantons to place their unemployed. First, regional placement offices are annually benchmarked with respect to their performance. The publication of these results creates political pressure on low performing cantons. Second, unemployed persons whose spells exceed the maximum benefit entitlement period become eligible for cantonal or communal social assistance. Nevertheless, incentives for the cantons to place the unemployed rapidly and durably should be further strengthened. Furthermore, participants in some activation policies can re-qualify for unemployment benefit receipt. Such possibilities should be reduced. Also, performance-related elements in the disbursement of federal funds should be strengthened.

 

Tax reform could reinforce entrepreneurial activity and labour supply

Even though corporate taxation is low in international comparison, heavy taxation of dividends generates incentives for tax evasion through constituting complicated corporate structures and might distort financing decisions of firms that cannot raise equity on international capital markets. The tax-induced incentives to retain earnings are further increased by the absence of a capital gains tax. The government intends to lower dividend taxation but plans to limit tax relief to owners of stakes exceeding 10% to limit revenue losses. This limit could create incentives for some companies not to raise equity capital from new shareholders, so that existing shareholders keep their shares above the 10% threshold. Reductions in the taxation of dividends should not be subject to ownership limits. The added cost of extending reduced dividend taxation to portfolio investments could be funded by introducing a moderate capital gains tax. Stamp duties on the issuance of equity stock also raise the cost of firm creation and growth without raising significant revenue. They should be abolished.

 

Tax revenue
Per cent, 2005


http://dx.doi.org/10.1787/140223551416
Source: OECD (2007), Revenue Statistics 1966-2006, 2007 Edition, OECD, Paris.

 

At the federal level, marginal income tax rates for second earners in married couples are in many cases significantly higher than the rates applying to a single earner in households with a couple, reducing married women’s incentives to work. A reform of the taxation of married couples, effective from 2008 onwards, will reduce this differential through the introduction of a supplementary tax allowance for working spouses. A more fundamental review of the taxation of married couples is under way. Reform of the taxation of couples should reduce the gap in marginal tax rates between main and secondary earners by moving from joint to individual assessment of each spouse’s income.

 

How to obtain this publication                                                                                      

The Policy Brief (pdf format) can be downloaded in English. It contains the OECD assessment and recommendations.The complete edition of the Economic survey of Switzerland 2007 is available from:

Additional information                                                                                                  

 

For further information please contact the Switzerland Desk at the OECD Economics Department at eco.survey@oecd.org.  The OECD Secretariat's report was prepared by Andrés Fuentes, Claude Giorno and Eduardo Camero under the supervision of Peter Jarrett. Research assistance was provided by Françoise Correia.

 

 

 

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