Economic Freedom Seems Ostensible
21 July, 2011

In Georgia new taxes can be introduced and tax rates increased only through referendum starting 2013.  Act of Economic Freedom approved by the parliament early this July lays ground to this novelty. The new legislation aims to make Georgian business climate more stable and investment - friendly by setting out stronger macroeconomic limits. However, Georgian economic analysts assess the liberal changes as cosmetic. 

Act of economic freedom initiated by Georgian government past year to make Georgian business climate friendlier is approved at last and government started a campaign to bring the law closer to the private sector. Reduction of government’s share in the national economy, keeping tax rates low, and implementation of stronger macroeconomic policy make three major pillars of Georgian economic freedom according to the law. To achieve these challenges law introduces cap macroeconomic limits according to which the current figures of state budget deficit averaging 7%  of GDP, budgetary expenses making 34-36% and foreign debt covering 43% of GDP at the moment should not exceed 3%, 30% and 60% of GDP respectively.

The key achievement of the upcoming economic freedom is that increase of tax burden including both number of taxes and tax rates can be introduced only through referendum initiation of which falls in governmental competence alone.

However government did not relieve itself from tax regulation tools altogether. It retained a right to increase tax burden for 3-year interval without summoning referendum under force majeure conditions detailed description of which is not provided by law. Moreover, regulation through referendum refers to direct taxes alone and exempts excise and Value Add Tax (VAT) and government can easily increase tax burden in case through these taxes, economic analysts say.

Through this law government sends a message to investors that Georgian investment climate becomes more stable for long-term investments and expects investment inflow and vivid business activity as an aftermath.

According to Dimitri Gvindadze, Minister of Finances of Georgia, current foreign debt share in GDP is supposed to wane since 2012 to 38-35%. Moreover capping budgetary deficit and limiting budgetary expenses means that governmental tightened belt policy goes ahead and the executive power will not be burdensome to the economy.

“Investor who puts money in the country today does not look at current taxation frameworks but needs a firm guarantee that reforms and low taxes active in the country today will not change in future. I mean investors who invest in Georgia not for couple of years but for 10-15 years,” Gvindadze said on July 13, 2011.

Some economic analysts do not share governmental optimism. The fact that the law enters into effect in 2013, also it enables government to increase excise and VAT, as well as can handle with tax rates for 3 year period without referendum under force majeure makes experts suspicious that the questioned law is of cosmetic nature and not a precondition for liberal economic paradise.

The past experience shows that government considers so called force majeure at its own discretion leading to non-transparency and money squander. For instance the special governmental funds earmarked for force majeure situations were misused and squandered on sundry trifles causing criticism of non-governmental watchdogs and Control Chamber of Georgia.

Shota Murghulia, an economic analyst, thinks that since the law does not enter into effect immediately it is rather calculated to impress international rating agencies rather than alleviate domestic economic picture.

“What is the benefit of this law if it becomes effective in 2013? You have all tools to increase tax burden meantime and besides government can enjoy 3-year increase of taxes under force majeure any time it pleases,” Murghulia told Georgian Journal. “It is a cosmetic change.”

According to Levan Kalandadze, an economic analyst, the law seems neither effective nor defective, it changes nothing in fact.

“The Act is harmless within itself, it is a declaration of political views and may create a perception of economic stability in the country thanks to stringent fiscal and budgetary policy parameters and may attract investors after 5 years from its activation. Besides the law becomes active in 2013 and who knows what inflation pressure will be by that time and how successfully the proposed macroeconomic caps might be kept?” He said.

Kalandadze too disapproves of the referendum idea, first of all because government is able to increase an indirect tax rate that leads to bigger tax burden at any rate.

“If you increase excise or VAT it means heavier tax burden to business and it makes no preference that you keep other taxes low. This law introduces no liberal principles in fact, but distracts us from the major problem. Everybody knows that the key problem is not rates but tax administration, let’s make it really liberal and everybody will be happy. Introduction of private tax inspector and agent that is paid for service is not liberalization as far as it is not available to small business. It just leads to creation of elite business circle wooed by government,” he said.