A political FUTbol
Michelle Bachelet's struggle to combine equity and growth in Chile
“CHILE has only one great enemy and it's called inequality,” declared Michelle Bachelet on March 11th as she returned to La Moneda,
the presidential palace, just four years after leaving it.
Following an interlude of rule by the centre-right,
Ms Bachelet won by a landslide in last year's presidential election
on the most left-wing programme the country has seen since the ill-fated Marxist government of Salvador Allende more than 40 years ago.
She argued that for all Chile's economic success of the past three decades,
unless the state intervenes to foster a fairer and better-educated society,
the country will moulder in what economists call “the middle-income trap”, never making the leap to developed status.
Her campaign platform contained three big proposals.
The first was an education reform inspired by the notion that the state should offer free and equal education to all.
Second was a new constitution to replace the existing one, which, though much amended, dates back to the dictatorship of General Pinochet.
And the third proposal was a tax reform aimed both at raising revenue to pay for the education reform and at making the tax system fairer.
Ms Bachelet is no mad populist. Chile is not Venezuela, nor even Argentina.
In the humdrum reality of a Latin American liberal democracy,
achieving the magical combination of greater fairness and greater prosperity means marrying political imperatives with complex technicalities.
The first test will be the tax-reform bill, which the president sent to Congress this week.
It aims to raise an extra $8.2 billion (or almost 3% of GDP). It contains some sensible measures,
including fuel taxes and one on sugary drinks.
It proposes a gradual rise in corporate-income tax from 20% to 25%
and a corresponding reduction in the top rate of personal-income tax from 40% to 35%.
Chile has an integrated tax system in which shareholders receive a credit for corporate-tax payments;
aligning the two rates more closely is intended to discourage individuals from setting up shell companies.
The bill also abolishes a mechanism known as the Taxable Profits Fund (FUT),
under which shareholders do not pay tax on reinvested company profits.
The FUT's detractors complain, correctly, that the system has been abused,
via corporate credit cards and shell companies in tax havens,
to allow the rich to evade taxes on profits that have actually been used for personal consumption—
the skiing holidays and Ferraris of urban legend in Santiago.
But the FUT's defenders point out, equally correctly, that the system has been a key factor behind Chile's investment-led economic growth.
As compensation for abolishing the FUT, the bill allows instant depreciation of machinery and equipment.
That may help miners and manufacturers, but not service businesses. Unless it is amended, the bill is likely to have two bad outcomes.
Retained earnings are a big source of financing for corporate investment in Chile:
companies may now have to rely on more borrowing, which for small firms costs up to 15% a year.
Second, shareholders will now be taxed on profits they do not receive as dividends.
It would be remarkable if the tax changes did not prompt some reduction in investment and share prices.
The fact that the bill envisages ending the FUT only in 2018 suggests Ms Bachelet's economic team realises this.
To make matters worse, Chile's economy is now slowing sharply in tandem with a falling copper price
(this week's offshore earthquake, which killed at least six people, seems to have spared local mines).
More government spending could give the economy a boost, but not if it comes at the expense of private investment.
The new government could have chosen to close the loopholes in the FUT, rather than abolish it.
That it didn't says much about the way politics is now conducted in Ms Bachelet's coalition,
whose main parties governed Chile from 1990 to 2010.
Abolishing the FUT was proposed by a rival of Ms Bachelet's in last year's coalition primary election,
and the policy was instantly adopted by all the parties in the grouping.
In the past party leaders would have heeded their technical experts on such matters.
In Chile's more populist political climate, that is no longer so.
The tax reform is simple compared with the government's plans for education.
As for the task of replacing the constitution, no wonder the president has kicked this issue forward until later in the year.
Ms Bachelet is right that Chile is in many ways an unfair country that needs to change.
But she will need all her considerable political skills if she is not to sacrifice sound public policy on the altar of populism.