Treasury needs accurate forecasts to meet 2013 deficit

The Finance Ministry's first challenge for the 2013 budget is to set a reasonable and credible revenues projection that will be the basis for calculating the deficit forecast.

The Ministry of Finance's first challenge for the 2013 budget is to set a reasonable and credible revenues projection that will be the basis for calculating the deficit forecast. The dilemma is difficult: if the ministry overestimates revenues, it will have to raise taxes to finance expenditures; but an underestimate of revenues is liable to force an even greater budget cut than the NIS 12 billion already necessary, because the deficit cannot exceed NIS 30 billion - 3% of GDP, new deficit target that the Knesset approved earlier this week, and double the previous target.

Underestimating revenues, and therefore indicating a need for too steep budget cuts, will make implementation of the 2013 budget impossible, and then the road to elections will be very short indeed. Overestimating revenues is liable to alert the rating companies, which have not cut Israel's credit rate, to monitor developments closely.

The rating companies must be shown that the measures announced by the government are actually implemented. This government, or its successor after elections (which now appear likely) will still have to cut the budget by NIS 12 billion. It is not clear how this will happen, given Minister of Finance Yuval Steinitz struggled last week to make a NIS 700 million cut - just 5.83% of the total cut necessary.

Meanwhile, the economic slowdown is worsening and growth forecasts are being lowered. Bank Hapoalim and Psagot Investment House Ltd., Israel's two biggest financial institutions in their fields, have already cut their GDP growth forecasts to 2.5%, compared with the Bank of Israel's forecast of 3.4%, which it will lower next month.

The growth forecast is critical for preparing the budget, as it determines whether the year will be revenues-rich or revenues-poor. The main problem is that, during a slowdown, GDP growth is higher than revenues, because consumers cut back on purchases of heavily taxed luxury goods, the companies tax falls because of declining profits, and layoffs reduce income taxes.

The last time that the Ministry of Finance decided on a growth forecast, in 2010 for the biennial budget for 2011-12, the estimate was a dismal failure causing huge damage, and is a direct cause, two years later, of the austerity measures that the Knesset passed last Monday. After all, the budget hole caused by the wrong forecast has to be filled somehow, and the cabinet submitted the bill to the people in the form of tax hikes.

In 2010, the Ministry of Finance projected more than NIS 232 billion in tax revenues in 2012, which it then lowered to NIS 221 billion. Top ministry officials told "Globes" today that 2012 tax revenues will actually total NIS 217-28 billion a shortfall of NIS 14 billion, or 1.5% of GDP. If this figure sounds familiar, it equals the amount of tax hikes and the increase in the deficit target that the Knesset passed on Monday.

Back in 2010, just before the biennial budget was submitted, top economists warned the Ministry of Finance that the estimates were too high and even unfounded.

Bank Leumi VP Finance and Economics Kobi Haber, a former budget director at the Ministry of Finance, said at the time, "We believe that the revenues side reflects an estimate that is too optimistic."

Harel Insurance Investments and Financial Services Ltd. Dr. Michael Sarel, who is due to be appointed chief economist at the Ministry of Finance next Monday, also wrote in 2010, "Even if we end 2011 with 3.8% GDP growth, on the basis of the Ministry of Finance forecast which appears a bit optimistic, the tax projection seems to high, given the revenues level last year (2010). There is a strong chance that the actual deficit will exceed the target."

Leader Capital Markets chief economist Yonatan Katz was the most accurate, saying, "The optimistic tax revenues forecast is expected to result in missing the deficit target in the direction of 4% of GDP, or even more. The public sector salary agreements are not budgeted. How is 10% growth achieved? It's very hard to explain. 2012 is looking to be very problematic."

The latest estimate by Accountant General Michal Abadi-Boiangiu says that the 2012 budget deficit will exceed 4.2% of GDP, more than double the original target of 2%.

Published by Globes [online], Israel business news - - on August 9, 2012

© Copyright of Globes Publisher Itonut (1983) Ltd. 2012

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