First Straighten Out the System--An Interview with Finance Minister Lin Chuan

Q: Let me first ask you about Taiwan's current financial situation. Is it worsening?

A: Central government debt currently amounts to a little over NT$3.1 trillion, or something over 30% of GNP. While this isn't especially high relative to Europe or the US, there are two points to which we must pay particular attention. First, this debt has been growing very rapidly. Over the last 12 years, it has increased by an average of about NT$200 billion per year, which is a startling rate.

Second, our nation's total tax revenues amount to only 12% of GDP, which is much lower than in Europe or the US. And because our predictable revenues are lower, we have less ability to repay debt than the US or the nations of European. Then there is the objective political environment in which Taiwan exists, the cross-strait standoff. When you factor this into an evaluation of the nation's stability, you end up having to apply a much more stringent standard to our foreign reserves and foreign debt. Consequently, we are very concerned about the government's current fiscal difficulties.

The red ink first appeared in 1991. Over the last six or seven years, we have been covering the shortfall by selling large blocks of the government's stockholdings, an average of NT$150 billion to NT$200 billion per year. But by a year or two ago, the government had basically sold all the stocks it could sell. Annual sales dropped sharply to their current level of only NT$50-100 billion per year.

Q: Given that the red ink is the result of an imbalance between government revenues and expenditures, could you discuss the revenues and expenditures situation?

A: Over the last dozen-odd years, government expenditures as a percentage of GNP have not only not increased, but have actually declined. The main reason for the red ink has been declining tax revenues. People on the outside have gotten accustomed to blaming the problem on structural factors, but I disagree. The main culprit has been the economic cycle.

Everyone remembers the sharp rises in real-estate and stock prices in 1989 and 1990. Look at just the land increment tax and the stock transaction tax-at their peak, both generated NT$100 billion more per year than they do now. We have NT$200 billion less in revenues from these two taxes alone.

On top of this, in 1998, we implemented the unified income tax, which also caused a decrease in revenues. There are no official numbers for this, but estimates place the lost revenues at NT$100-150 billion. In addition, taxes on the financial industry's earnings have been reduced from 5% to 2%, or by about NT$50 billion per year. That means we have lost a further NT$200-plus billion on just these two taxes. So the turning of the overall economic cycle has reduced tax revenues by about 5% of GNP, or NT$500 billion, which clearly affects our fiscal stability.

Q: Are you in favor of converting the stock transaction tax into a tax on stock income, or improving collections of the land increment tax by raising the assessed values of properties as means to increase government revenues?

A: Reforms to the tax system should be considered and implemented comprehensively, not in a piecemeal fashion. But at the moment, there is no objective consensus, which makes it very difficult to promote reform. Making matters more difficult, all reforms must ultimately undergo revision by the legislature. The opposition outnumbers the ruling party in the legislature, so there is no way to pass any legislative proposal which has been unable to garner the support of a clear majority of the populace. This is the reality we face.

The difficulty in reforming the tax system lies in first determining your objective. If your goal is purely to increase tax revenues, you have virtually no chance of achieving a consensus among the public. First there is the question of the reasonability of your tax increase. If tax payers have to pay more, they want to first be sure that it is worth their while to do so, that every dollar will be used to maximal effect. This isn't tax reform; it's fiscal reform. So it's very difficult to talk about simply increasing tax revenues without discussing comprehensive fiscal reform.

Second, what's your objective in raising taxes? Is it to create greater social fairness? Or is it to stimulate economic development? These two goals can conflict with one another. Moreover, many aspects of the tax system are now under criticism, such as the income tax exemption given to soldiers and teachers and the tax incentives given to industries to upgrade, as well as the problem of tax dodgers. The result is that when you want to implement some reform, those who will be affected by the reform say, "Hey, you haven't fixed all these other loopholes. Why are you going after me first?" So you have to come in with a comprehensive proposal that address all of the problems, which makes reform a great deal more complex. Many previous attempts at tax reform have foundered precisely because they were highly complex and there was very little support for them among the public.

Q: What level of public consensus is necessary before reforms can actually proceed? Do you any kind of timetable in mind?

A: Let me put it this way: Reforms to the tax system are an ongoing process; there's no deadline by which they must be completed. My personal view is that a new Cabinet will be in place by May of next year regardless of the results of the presidential election, which means that I have less than a year left in my term [as Minister of Finance]. Given that we lack a sufficient consensus on reform, it will naturally be very difficult to take any kind of action in this year.

Currently, we are beginning by moving forward with the Financial Reform Commission's two-year proposal, which includes, for example, lowering the land increment tax. Naturally, the FRC would like to see a corresponding increase in the land value tax. However, the land value tax is fundamentally a local tax, and the decision whether to increase it should be made by local governments in accordance with their fiscal autonomy. Within the accepted jurisdiction of local tax law, they should consider whether they want to make an adjustment to rates. The biggest issue with property taxes is not whether rates are too high or low, but that the assessed values of properties tend to be low. Local governments make those assessments, so it would be useless for the central government to raise rates.

What the central government can do is build an inducement mechanism. For example, if you were willing to increase tax revenues, if your "tax effort" were greater, then we would provide you with more assistance-after all, the Lord helps those who help themselves. If there were this kind of inducement, local governments would likely exert themselves a little more.

In addition, it isn't politically feasible for the central government to raise property taxes because doing so would certainly give rise to the kind of public resistance that every tax increase comes up against, and the central government already has enough difficulty trying to increase even a single tax rate. Moreover, land-value-tax revenues are turned over to city and county governments for their own use. Given that, how can the central government guarantee that the additional revenues will be used to address the key issues? Therefore, in keeping with the principle of separation of fiscal powers and duties, this decision should fall to city and county governments.

Q: Building a popular consensus is a long-term project, yet the deficit problem is already severe. It seems like we are in a race with time. Meanwhile, President Chen has declared that there will be no new taxes for four years. Do you feel your hands are tied working in these kinds of circumstances?

A: Let me put it this way: Putting the statement about "no new taxes for four years" aside, when in the last several decades have we raised taxes? We have not. So where then is the problem? It's that our entire political system has left the government unable to raise taxes.

In the final analysis, Taiwan's democratic system is currently somewhat less than ideal. The first problem involves inequalities in the central government and local governments' fiscal responsibilities. Because these responsibilities are not equal, the central government and local governments compete with one another in spending money, and each tries to hand its debts off to the other. Unfortunately, neither side is willing to build a government that takes responsibility for itself.

In addition, under our voting system, every voting district has several representatives. When many citizens can't even name the representatives from their own districts, how are they going to monitor them? Moreover, with many people competing for many seats, someone who receives only 10% of the vote may well be elected. Such a person doesn't really represent the majority of people in his or her district. In other words, you have a major problem with representatives who represent a minority of citizens rather than the majority. Under these circumstances, government expenditures will tend to go towards taking care of various interest groups, and the voice of the silent majority goes unheard. In short, Taiwan's political environment is typical in that a silent majority is controlled by a small number of interest groups.

After so many years of not increasing taxes, is it still possible for the government to do so? A tax increase would have to be predicated upon a number of conditions. First, we would have to have public support. Everyone fears that their taxes will be wasted by the government, so we have to first make sure the government spends its money more effectively. Doing so relates to what we have been working on so diligently for the last two years: separating the fiscal responsibilities of the central government and local governments. Only after we have done this can each begin to cut spending and increase revenues. If we don't separate these responsibilities, each will continue to seek to claim everything for itself, even to the extent of buying frivolously to make sure everything is spent, then asking us for money for basic necessities. There's no way to balance budgets in this kind of situation.

Next, there is the government's budget system. The government has to really work on improving its planning and execution of public policy. This, in turn, makes more apparent the connection between spending and the benefits that spending confers, allowing people to see where their higher taxes are being put to use, which is the only way to persuade the public to accept higher taxes.

There is another issue that has to be made clear-what is our tax policy? How do we strike a balance between fairness and efficiency (economic development) in order to build a consensus on tax policy? If everyone has a different goal, there is no way that any kind of tax reform is going to satisfy them all. Unfortunately, there is currently an utter lack of consensus on tax policy.

Q: You say many people criticize the government for not targeting its spending appropriately. What's your opinion on that?

A: Let me put it this way-the government must seek the approval of legislative institutions for every dime it spends and every dime it collects from citizens. The public's representatives oversee it all. So, if these expenditures are not appropriately directed, the question is whether our representative institutions are fully reflecting society's true needs [in their spending choices].

As for those who say the executive shouldn't propose hugely expensive programs, such as the recently proposed NT$100-billion-per-year construction bill-I ask you, if the executive didn't propose it, do you think the legislature wouldn't? And even though the media always takes an opposing view, in this case, many people have come out in support of this kind of program. Had they not, it wouldn't have passed the legislature.

The problem today is competition between the ruling and opposition parties. If you were to tell these two competitors, "Hey, don't shoot the ball yourself. Let the other guy shoot," there would be fewer random shots, but it wouldn't resolve the problem. A couple of days ago everyone was asking why NT$15 billion was being given to rural townships [for smaller projects], but this too was approved by the legislature.

Then there are those who ask, "Is it worthwhile to spend NT$100 billion a year to stimulate the economy?" But what public works project is of absolutely unquestioned value? Everyone has a different take on things. Everyone who goes to a department store to buy clothes thinks that their own choices are the best and that everyone else has chosen badly. Now, some people say that money should be used on capital expenditures and not be given as subsidies to the elderly. But in the past city and county governments built any number of activities centers which are now nothing more than breeding grounds for mosquitoes. So capital expenditures aren't necessarily an effective use of government money.

When no one can state unequivocally that some project is worthwhile, the only thing we can do is submit projects for legislative evaluation. But now we have to ask, is the legislature carrying out the will of the people? If it isn't, then we have found the problem.

Q: But do we have to insist on fiscal discipline?

A: Fiscal discipline means balancing revenues and expenditures. For departments of the executive, you have to secure a source of funding before you can spend, but that's not necessarily true for legislative bodies. Although the law states that the legislature must have the funds to pay for spending increases before it can legislate them, it doesn't currently obey the law. So once the Legislative Yuan makes a law, the Executive Yuan has to help them find a way to fund it. We considered asking [the Council of Grand Justices] for an interpretation to find a way out of this situation, but we discovered that it was not at all certain that we would win. Because the law had been written by the Legislative Yuan itself, the legislature could perhaps overrule it.

Q: Do you struggle with the issue of fiscal discipline at all?

A: Actually, no matter what the reform, it always touches on many people's ideas about value. In the end, you are going to have to compromise. But while you can slow down, you can't lose sight of your objective or abandon your principles.

So for me the question is: In this period of time, how much improvement have we brought about through our compromises? I am confident that in the last three years, the nation's fiscal structure has improved at a much faster rate than in the past, especially in the area of separating the fiscal responsibilities of the central government and local governments, where we now have a foundation in place. As for the reduction and elimination of taxes, I have asked the Department of Taxation to implement a system to evaluate tax cut proposals to avoid further wanton erosion of the tax base. We have also addressed the recent problem of the so-called wealthy classes donating land to reduce their taxes. [Wealthy individuals taking advantage of this tax loophole buy land at a discount to its assessed value, then donate it to the government. They can then deduct the full amount of the property's assessed value from their income. -Ed.]

Q: Finally, I'd like to ask you about your view of the government's plans to raise the ceiling on government debt.

A: That's a very complex issue. Let me just say that there are not many countries that have placed a ceiling on government debt. Why do you establish a ceiling? In the hope that the government will restrain its spending so that debt doesn't grow endlessly. But this is very difficult to carry out in practice. So every country in the world, including Taiwan, reaches a point at which it has to relax those limits.

I mentioned earlier that central government debt currently stands at something over NT$3 trillion, or 30-plus percent of GNP, which is still some distance away from the legally mandated ceiling of 40% of GNP. But think for a minute-suppose today we were at our debt ceiling and were unable to raise it, what would happen? The consequences would be terrible.

Currently, Taiwan's annual tax revenues are over NT$800 billion. The government also takes in over NT$200 billion per year from profits and fees generated by state-owned enterprises. Together, these total about NT$1.1 trillion. But the central government's budget is NT$1.6 trillion. Legally mandated and obligatory spending, which cannot be cut, account for about NT$1.3 trillion of this amount. In other words, total government revenues are insufficient to cover legally mandated spending. If we suspended all public works projects and couldn't fund new programs, wouldn't there be even more severe deterioration in the private-sector economy? Could we bear the social costs of an inflexible ceiling?

We don't want to violate the public spending law, but sometimes the objective economic circumstances are such that we can't help but do so. This law is not meant to be set in stone, but to act as a warning. We cannot use strict adherence to the ceiling to resolve our fiscal problems. If we are truly to resolve these problems, we have to take the approaches I described earlier. We have to rectify the fiscal systems of the central government and local governments, improve the budget system, and better plan and evaluate policy. That's the only way to fix the root of the problem.

(photo by Chuang Kung-ju)

What's more important: building nursing homes or giving each elderly person a monthly payment? Everybody has a different opinion, so debates over the fairness and efficacy of resource allocations are bound to be endless.