It's the tax system, stupid!

IT'S the tax system, stupid! All the parties know that their tax cut packages will be central in the election campaign. And the other side of the tax equation is what each party will promise in the area of government spending.

Not surprisingly, all will assume the economic boom will continue to support the public finances and thus promise both higher spending and lower taxation. But each party will try to inject its own distinctive "product" into the electoral market.

First out of the traps were the Progressive Democrats, promising a future of tumbling tax rates and tight spending control. The eye catching element was a commitment to reduce the two main income tax rates to 40 per cent and 20 per cent from 48 per cent and 26 per cent.

The Government parties are already committed to £300 million a year in tax cuts under Partnership 2000. Fianna Fail has kept its powder dry, but is unlikely to be found wanting when it comes to offering tax cuts.

The two card trick of cutting taxes and increasing spending being promised by politicians is based on the booming economy. Rapid growth has allowed the current Government to allow spending to rise well ahead of inflation, while simultaneously reducing borrowing and lowering overall tax levels. While they will dress it up considerably, the Government parties are likely to offer more of the same. Fianna Fail will also aim for the catchall vote and will have to temper its enthusiasm for tax cuts with a promise to increase spending in areas such as crime and the health services.

But the PDs have decided tax cuts must take priority. They first published outline plans last Friday and yesterday provided costings and a budgetary outlook over the next five years. The plan's highlights are the promised cut in tax rates, the widening of the standard rate tax band and the phasing out of employee PRSI and levies. Reductions in business tax are also promised.

The plan would be costly, reducing tax receipts - on the PDs' own calculations - by around £400 million a year, although they plan to claw back some £70 million on this cost through reforming the tax allowance system and replacing it with a new system of credits.

SO the overall annual cost of somewhere over £300 million is not that much more than is promised in annual tax cuts in Partnership 2000. But the focus is different. While Partnership 2000 does not include specific commitments about where the tax cuts would be focused, Ruairi Quinn's 1997 Budget showed the direction would be towards widening tax cuts, reducing PRSI and edging down the lower 26 per cent tax rate. The PDs, meanwhile, have highlighted a desire to reduce the two tax rates, including the higher 48 per cent rate.

The Government has found the public does not seem to give it credit when tax bands were widened and allowances increased as a way of reducing taxes. Hence, a good old fashioned one point reduction in the standard tax rate was included in the last Budget.

There is a strong argument that reducing tax rates is not the way to go about tax reform. The main problem in the Irish tax system is that people pay tax at the top 48 per cent at relatively low income levels. A better way to address this may be to widen the standard 26 per cent income tax band - or even to reduce employees' PRSI - rather than to plan to slash the top 48 per cent rate. But the PDs will reckon that the idea of cutting tax rates will sell better on the doorstep and it will be interesting to see to what extent Fianna Fail will follow.

The PDs are to be applauded for setting out the costing of their plan and putting it within a budgetary framework. But two questions are raised by the costings. One is whether the PDs can really keep spending within the tight constraints they promise, of between 2 and 2.5 per cent above inflation over the next three years. The rate of growth over the past couple of years has been three times this amount.

The PDs say major savings can be achieved through attacking the welfare and public pay bills, while still freeing resources to deal with a "wish list" running from health to education to the prison service. The experience of recent governments suggests that such control on spending will be impossible to achieve, short of a radical new approach.

The second question is raised by the approach the PDs take on the amount the government will need to borrow to fund Exchequer capital investment after this batch of EU funds runs out in 1999. They assume this is much lower than did the Economic and Social Research Institute in its latest report.

Still, the PDs are not the only ones to bank on growth continuing. Programme 2000 contains promises of tax cuts and spending increases which could total over £2 billion - Programme 2 billion, perhaps? - and no doubt there is more to come.

The grave danger, of course, is that growth will slow and mean that after a year in office the incoming government will have to tighten its belt. But as they face the electorate, all the parties will be betting on what the Americans like to call the "rosy scenario" continuing.