Monday, April 29, 2013

Euro periphery competitiveness can be improved by adjusting taxes.

The current austerity in the periphery is aimed at cutting periphery costs, that is, effectively devaluing the currencies of the periphery – or “internal devaluation” as it is sometimes called.
And devaluation raises the costs of imports for the country that devalues, while reducing the price of exports for foreigners buying stuff from the country.
But those effects can attained by adjusting taxes in the relevant country. In 2010, I suggested doing it by cutting payroll taxes and increasing personal taxation.
Gita Gopinath suggests an alternative, namely to cut payroll taxes (as above) but instead of raising person taxes, to raise VAT. See also here.
The above tax adjusting policy might very easily not be a full solution to the problem (as I think Gita concedes). That is, adjusting taxes might not bring as big an effective devaluation as is required. But the measure would certainly help.
Moreover, adjusting taxes is a trick that can be played only once every decade or two. That is, those adjustments distort the tax system away from what was previously considered to be an optimum assortment of taxes. And that distortion must presumably be unwound, which of course constitutes a REVALUATION. And the latter has to be countered with austerity.
Still, the above sort of tax adjustments are a way of spreading  austerity over a larger number of years: i.e. avoiding extreme austerity in relatively few years.

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