Party’s over, everyone cut back now!

Unless you live in an emerging economy where the recession hasn’t hit public finances, for the rest of us that are stuck on the wrong side of the divide, it’s cutback time baby!

In the US, public deficits are still tolerated on the backs of a still troubled economy and underlying optimism that when things turn around, the coffers will fill up again.  In Europe, there’s little room for such fantastically sanguine outlook.  From Club Med countries that are now forced to scale back, to Britain where deficit reduction debates as one of the driving issues of next week’s election, to the northern Calvinists and Lutherans where austerity is once again on the “in” word, public spending cuts is the inevitable future.

When public spending cuts took place in Canada back in the 90s, we had school strikes every other year, and public transit strike pretty much every single year.  Now the talks of cutbacks is happening again both in Canada – conservative, considering we’ve ran current account surpluses for the past 12 years, as well as here in the Netherlands.

Here are some of the ideas brain-stormed so far, the most contentious ones are the most universal – namely, healthcare and mortgage interest deduction.

Let me quickly go over both.

Healthcare reforms during the past decade have made healthcare a considerable cost in every family’s budget here in the Netherlands.  During the American health reform debates, the Dutch healthcare system was held up as the system to aspire to.  Coming from the land of universal (and more or less free) healthcare, I beg to differ.

In Canada (and to a lesser extent also in America), healthcare is a cost shared between the government and businesses that employ individuals.  Those of us from the system knows that a job is not a job unless it comes with “benefits”, which in my experience, includes coverage for all preventative and curative dental, optometrist and other rehabilitative care.  But all is not perfect.  In recent years, a number of provinces in Canada now require a yearly income-tested payment from its residents, at no more than a few hundred dollars a year.

After the early 2000s healthcare reform, healthcare in the Netherlands became a cost shared between the individual and the government – businesses disappear from the equation altogether.  Depending on your age, sex, and the level of luxury of your coverage plan, you can expect to pay anything between 70 to a few hundreds euros a month.  And like car insurance, your package will also determine how much of a co-pay amount you have to shell out, should you need to see a specialist.  For example, if you elect to see a, say, dermatologist for a skin rash, and the visit costs 300 euros, then be prepared to shell out the first 170 (ballpark) as your deductible.

Now that a Dutch election is expected sometime in the early summer, politicians are trying to make ends meet however they can.  One of the first things they pounce on is to raise the deductible amount from the current 170 (again, ballpark and dependent on your specific package), to something like 700 euros.  Outrage ensues.

The second cutback victim is the contentious mortgage interest rate deduction scheme in the Netherlands.  Long story short, the Netherlands, along with the US, is one of very few countries in the world that allows a household to deduct its mortgage interest expenditures from its tax bill.  This alone costs the government 15 billion euros a year.

Back in the early 2000s, the government tightened a number of rules, mainly to stamp out people abusing the system by taking on unnecessarily long and large mortgages, and taking them out on a second house, for instance.  This time around, the very soundness of the policy and system is being debated.

As a matter of principle, enough Dutch support the abolition of this specific tax rebate.  And it makes sense to.

First off, tax based mortgage interest deduction favours the rich.  The higher one’s income is, the more mortgage one is able to carry, and it follows that the higher (both in percentage and in total amount) interest deduction subsidy one is able to get back from the government.

Two, there is little evidence that decades of subsidies have made as big of an impact on home ownership as one might like.  Home ownership percentages for the old and wealthy stays high, while the rate for the young and the poor remains relatively low.  It would follow that since the younger and poorer are not able to carry mortgages beyond what their salaries allow, they benefit less from the subsidies, and some may be persuaded to stay within the subsidized rental market (social housing account for 30% of all dwellings in the country, and in major cities 50%), also costing the government a bundle.

Three, it is also clear that in order to make ends meet, something will have to give.  You can ease up on the tax rebates on mortgages, or you can raise taxes to make up for the fiscal deficit.  It’s the same pot of money end of the day, it’s just a matter of how many times it changes hands.

Lastly, it cannot be lost on the government that it’s the one bridging the payment gap between households and banks.  By subsidizing interest payments, the government incentives households to prolong their mortgage lengths and increase their sizes, which no doubt suits banks just fine.  It is clearly too costly for the government to bare for the long term, and I also wonder whether the delay of full-out housing ownership (presumably the longer you have a mortgage for, the less equity build-up you have in your house at any given point in time) feeds people a rather false sense of financial well-being, and whether that has an adverse impact on life-time wealth accumulation.

End of the day, as much sense as it would make to abolish the system, nobody wants to see a sudden drop in housing value across the country that would freeze up the real estate market.  The most likely scenario is the UK or Swedish method of gradually phrasing out the system over 20 years. But whether the next government has the political will to tackle this growing elephant in the room is something else.

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