Considering a range of fiscal outcomes
As we enter Phase 2, I feel we must return to the topic of Bermuda’s unsustainable tax and spending imbalances.
We face difficult choices from an internal perspective as well as rising external pressures. There will always being a reason to delay, whether it be Covid, economic recession, rising interest rates, stock market uncertainty, global tax change, climate change or a pending election at home or abroad.
The sooner we act to put our finances on a sustainable footing the better.
To assist the reader in reaching their own conclusion on how we should move forward I’ve put together a framework of potential outcomes. I consider six scenarios, three that could result from the present path and a further three if we pursue a course correction.
Let’s start with the existing course, potentially ending up with:
1, Fiscal Cliff This has been mentioned a number of times in recent months by various credible stakeholders, commentators and leaders. This represents the most likely outcome if we continue down the present path; it is mostly a question of timing. The possibility of this scenario is the primary reason I’ve started writing these letters; it would be a very poor outcome for all.
2, Inflation Bailout We haven’t experienced high inflation for a long time. We don’t know if the unprecedented deficit spending and loose monetary policy by the United States will result in inflation for Bermuda. Thus far it hasn’t, but it could well be on the way. High inflation represents a wealth transfer from borrowers to savers and is devastating for pensioners, pension plans and those that don’t own hard assets. Another side effect is prices may rise more quickly for those with lower incomes, which could exacerbate inflation inequality. Unchecked inflation is not a scenario we should hope for.
3, Goldilocks Growth Scenario I think of this as the fingers-crossed approach where everything works out owing to some external factor or new industry that suddenly emerges, enabling us to face no pain today and no pain tomorrow. Unfortunately, there is little evidence that the necessary growth is realistically achievable for this to be a likely outcome, but it could happen.
Alternatively, we could begin to course correct by implementing:
4, Increase Tax Approach Pursue a policy of increased taxes and somewhat controlled spending. While not my preferred approach, this seems to be the expert consensus view as the best alternative to Scenario 1.
5, Controlled Spending Approach Focuses on reducing government spending as the first priority and if necessary, accept reduction of government-controlled services under the understanding that ever-expanding government involvement acts as an economic brake in the long run. While amendments to existing taxes should be considered as part of the solution, new taxes and the additional bureaucracy to collect them are not to be taken lightly.
6, Personal and Corporate Income or Wealth Tax Such policy could lead to the departure of our highest-paid sector, which would be devastating to all that remain. Given current capital mobility, this would need to be coupled with capital controls and as such be all but a non-starter.
How you decide to rank the scenarios above depends on your political and personal values. My last letter made it pretty clear that I prefer Scenario 5 but the point of this letter is I prefer Scenario 4 to Scenario 1. I’m not in favour of Scenario 6 because unless we control our spending, putting new taxes on the books will not help.
Based on my life experiences and observations, I fundamentally believe the private sector is better at making economic decisions than the Government. At present debt levels, deficit spending does not create economic prosperity; it simply extends the existing imbalances. Tax policy can provide a degree of redistribution, but this comes with a significant administrative cost and misdirected resources.
If we think of Bermuda’s government finances as a household, we've taken out the mortgage, now we’re on to the second mortgage and will soon turn to credit cards. Please consider that current annual interest charges are already about the same as what is spent on public education. Although it seems to make no difference today, the true cost is continuously compounding.
The benefits of course correcting now are twofold. First, we reduce the likelihood of Scenario 1, thus averting a negative spiral situation. Second, reforms and changes can be introduced on a phased approach, which gives the economy more time to adjust.
Thank you for reading; I look forward to your comments.