Social Security is financed through contributions (SSC), in the form of payroll taxes. At an average of 9% of GDP in 2012, these are a significant part of the economy.
Contributions are paid by both employers (paying the majority, at 5.1% of GDP in 2012) and employees (3.3%). These affect the labour market. Labour supply (SL) shifts upwards and becomes steeper, as workers compensate for taxation with a proportional rise in their reservation wages. Labour demand (SD) also contracts as the marginal cost of labour rises. This distortion in the labour market, illustrated diagrammatically, causes a reduction in the equilibrium quantity of labour (N to N’). Its effect on wages is (partially) supported by Saez et al. (2013) – earnings stay constant (Y=Y’) but net earnings fall (Y>Y’net).
This has led to its political characterisation as a ‘jobs tax’, accused of slowing job growth. This is predicted by theory – the employer not only needs to afford the worker’s wage, but also the social security contributions that come with hiring them.
For this reason, a reduction in the employer SSCs was included as part of Portugal’s structural adjustment programme. In 2011, several options were studied, from a general tax cut to sector-specific or new-job-exclusive cuts. In September 2012, the government proposed (and in the face of the largest protests since the revolution, abandoned) a policy of lowering the employer rate and raising the employee rate, with a net increase in contributions.
Portugal was not the only country where payroll taxes were reformed. Between 2011 and 2013, the United States implemented a payroll tax ‘holiday’ (which was really a temporary cut). During 2010, there was also an exemption for employers who hired unemployed workers.
These temporary tax breaks, however, do not address SSC’s labour market distortion in a permanent way. This issue has been addressed in the manifestos of Portugal’s 2 main parties, PS and PSD/CDS (PàF). Space does not allow a discussion of PàF’s Bush-like ‘privatization‘ plans.
Portugal’s PS proposes a temporary break in employee rates (p. 11), hoping to correct the post-crisis hysteretical contraction in output and employment that has compromised Social Security solvency so. They innovate, though, in two proposals: one proposing discriminated employer SSC rates, rising with staff turnover (p. 33-4), and another in proposing a replacement of 4% in employer’s SSCs with a consignment from corporation tax (ibid, p. 43-4).
This diversification of social security financing will represent a net saving for most firms, particularly for labour-intensive sectors who paid a larger share of their revenue in wages and so payroll taxes. Portugal specialised in many of these labour-intensive sectors (cf Mamede 2015) and these have been some of the most hit by the crisis and austerity – e.g. construction and restaurants.
This policy is therefore targeted for maximum stimulus. However, research tells us economic development comes from capital-intensive growth outpacing labour-intensive growth. This, indeed, has been the development strategy of previous Socialist governments, which suggests PS’ policy innovators still have some fine-tuning to do to maximize growth as well as stimulus. After all, only growth can really secure sustainability.
Miguel Costa Matos