The council of ministers decided on Thursday to reduce the consumption tax on fuel and forwarded the relevant bill to the legislature for immediate approval. Consumption tax on petrol and diesel will be reduced by seven cents per litre (8.3 cents with VAT included) while that on heating fuel by 6.4 cents including VAT. It also decided the extension of the reduced VAT on electricity consumption by five and nine per cent.
Finance Minister Constantinos Petrides said this made Cyprus the EU member-state with the lowest consumption tax rate, at the maximum amount permitted by the European acquis communautaire. “We have proved as a government that we closely follow developments and always re-adjust our policies so as to help society but also the economy,” said Petrides, announcing the tax cut.
The cuts were announced on the same day the statistical service reported an inflation rate of 6.6 per cent for February, the main drivers of which were transport (fuel) which rose by 14.1 per cent in January-February 2022 compared to the corresponding period last year. The category of housing, water, electricity and gas was up by 13.7 per cent in 2022. These are significant increases, certain to have a negative impact on disposable incomes.
But how wise is it economically to cut taxes horizontally? The government could claim that the reduction of the tax rate could be covered by the higher tax revenue resulting from the rising prices. This is not rational fiscal practice, even though it appears to have become the norm in the EU since the outbreak of the pandemic which expanded state interventionism in the market. Although this is happening with the approval of the European Commission it can only have negative consequences for public finances.
The government had been under political pressure to ‘protect’ people from the rising prices – as if this is possible in a market economy – with all parties demanding action. Akel has been campaigning for action and last weekend organised rallies in all towns to protest against ‘expensiveness’. It also handed the government a list of proposals for protecting people against high prices. Akel is demanding more measures, especially as it expects prices to rise even higher, as a consequence of the war in Ukraine.
How far can the government go with these ‘protection’ measures? Public finances will again be under strain while it might be unable to reduce the public debt as it had planned this year if it pursues the chimera of shielding society from price increases through tax cuts. Although the cut in the petrol consumption tax was welcome, it set a dangerous precedent, giving the impression to the parties that such measures should be expanded, even if it means putting public finances at risk.