Bank of Israel’s comments on the proposal to reduce VAT by 1 percentage point
To the extent that policy measures to combat the apparent weakness are being considered, it is preferable to adopt measures that will assist the export industries and investments, and not necessarily further support of private consumption.
In recent months, there has been a surplus in tax revenues compared with the revenue forecast. At this stage it is difficult to determine if it is an increase which is expected to persist, or if it is an increase deriving partly from one-off factors, such as the increase in the number of housing transactions, or an increase in capital gains tax from the stock market. In the past several months a slowdown in economic activity is apparent, in particular a decline in exports and in investment. Likewise, there has been an increase in uncertainty regarding global economic developments, against the background of the sharp volatility in global financial markets in recent weeks. Therefore, it would be imprudent to relate to the surplus revenues of recent months as a continuing development, and to base an upward revision of expected tax revenues next year on it. As such, at this point it should be assumed that this is a one-off increase in receipts, and it would be correct to use them to reduce the public debt. The interest payments on that debt are a heavy burden on government expenditure.
Against the background of the uncertainty regarding economic developments next year, reducing the Value Added Tax (VAT) rate by 1 percentage point, which has a cost of NIS 4.8 billion, is liable to lead to a further increase in the deficit next year, and to put at risk the meeting of the deficit target of 2.9 percent (which in itself will lead to an increase in the share of debt in GDP). Furthermore, reducing the VAT rate at this time will weigh on meeting fiscal targets for coming years, and is not in line with a consistent taxation policy and one that is aimed at achieving long-term targets.
As noted, the weakness in the economy is focused on export industries and on investments, while private consumption continues to increase at a fair rate. Therefore, to the extent that policy measures to combat the apparent weakness are being considered, it is preferable to adopt measures that will assist the export industries and investments, and not necessarily further support of private consumption.