THE Billet d’Etat for this month’s States meeting contains the final proposals for the ‘future economic and taxation strategy’. There are no major differences from the package of measures that were previously published and consulted upon. The debate should be interesting, however, because it is so important to the island’s future and the voices of dissent will become louder and clearer.

The Policy Council is recommending the introduction of a zero-10 corporation tax regime, whereby the basic rate will become 0% for all companies, except certain banking activities that will attract a rate of 10%.

That will lead to a significant fiscal gap that the island will try to resolve in two different stages. The first will run for three to five years and will involve the operation of a budget deficit financed by the use of the contingency reserve, supplemented by increases in indirect taxation, social security contributions, strict control of government spending and the encouragement of economic growth.

The second will take place between 2011 and 2013.

The priority will be the restoration of a balanced fiscal budget, but the measures necessary to achieve that will depend on the success of economic growth in delivering higher tax receipts

and the level of government spending.

The States may introduce a goods and services tax to fill the shortfall and the legislation will already be in place by then to implement it.

The major issues inevitably include the need for a zero-10 regime and the dependence of the island on a financial services industry that will contribute less to public services and infrastructure.

The proposals have much to recommend them.

They have been extensively consulted upon and broadly endorsed, with certain caveats.

It is beneficial to have a simple, structured plan that businesses, the States and islanders can prepare for.

The impact on islanders will not be as bad as first feared, although their disposable incomes and spending power will diminish. Businesses will generally experience higher post-tax returns in Guernsey and the distribution-only basis of taxation for shareholders ought to encourage local investment and ownership.

The finance industry should continue to prosper as Guernsey complies with international regulations and remains fiscally competitive, subject to the health of the global economy.

The two-stage process offers a valuable ‘real option’, whereby the island retains significant flexibility to benefit from an economic upturn, but is prepared for an economic downturn.

It is sensible to prepare GST legislation in advance, draw on the low-yielding contingency reserve and increases in indirect taxation will have significant social as well as economic benefits.

In spite of these advantages, there do remain some major concerns.

The proposals depend on economic growth to fill the black hole, but this is unlikely to happen.

The Guernsey economy would need to grow consistently above trend for many years, when consumption will be under pressure from higher social security contributions, greater indirect taxation and lower tax reliefs, and government expenditure will be tightly controlled.

Business investment may increase if companies do experience higher post-tax returns and local owners reinvest their profits instead of distributing them, but they will also face higher social security contributions and indirect taxation that could undermine their profitability, while reinvestment will mean lower short-term tax revenues and a larger deficit.

Foreign companies may also repatriate their profits and not invest them locally.

The proposals state that the States must promote economic growth, but we need to see concrete ideas on how it will achieve this.

Even if the island’s economy does grow strongly, this does not necessarily mean that it will translate into higher tax revenues.

If higher company profitability is the main driver of economic growth, this may not fill the deficit. Guernsey needs to generate more taxation from employment, so we need to find ways to improve the quantity and quality of labour and its returns, so that businesses employ more labour and reward it more lucratively.

Other worries include the reluctance of the Policy Council to sanction reductions in government spending.

The public want to see reductions, but the final proposals offer only modest annual increases because they argue that stringent cuts would damage public services and infrastructure.

There is some evidence to suggest that local public spending is relatively efficient and capital expenditure must be maintained, but there must be more scope to withdraw some services, redeploy some staff to the private sector or simply involve the private sector more.

The economy needs more wealth creation and non-public sector employment and it is clearly the private sector that will provide these.

The real danger of the proposals must be that come 2011 or 2013 and there is still a black hole, the States is tempted to increase business social security contributions and indirect taxation further and either introduce no GST, or a diluted version. That would result in higher costs for business, particularly labour, and lower output and employment. If economic growth does not fill the black hole, a GST will be the best solution because it will not undermine the labour that is providing the majority of future tax revenues. It will be shared across the economy and will be consistent with competition.