Proposing to cut salary tax, the Hong Kong government is adhering to its professed economic principle of "big market, small government".

A "small" government characterizes itself by keeping money in the hands of the people. The Hong Kong government raised the salary tax rate in fiscal 2003 after several successive years of budgetary deficits during the economic slump. Now that the economy is on the boil and the government coffers are overflowing, people are naturally expecting a tax cut.

The economic recovery which began to take off in 2004 helped produce a government budgetary surplus in fiscal 2005. The government is widely expected to announce a fiscal 2006 surplus of HK$30 billion ($3.8 billion).

Hinting at a tax cut, Financial Secretary Henry Tang earlier invited suggestions from the public on which of the four components of the salary tax personal allowances, the tax band, marginal tax rate and standard tax rate should be changed. The move has not only reaffirmed the government's commitment to its own economic policy but also showed that it is flexible and decisive in responding to economic changes.

It is important to note, however, that changes in tax rates, in whichever way, are contingent on economic conditions. They must not be considered to have any consequence for the ongoing debate on what is widely seen to be an excessively narrow tax base.

It is therefore wrong to argue that the narrow tax base became a non-issue after Hong Kong began to recover from the prolonged economic slump. History shows that the duration of each economic cycle lasted five years.

To be sure, the automatic adjustment mechanism, which was largely responsible for such cycles in the past, is vastly more complicated as the Hong Kong economy is becoming increasingly integrated with the much larger mainland economy. But we cannot afford to rule out any economic hiccup in the future, resulting in a slump in government revenue.

Because of the greater mainland influence, it will become increasingly difficult to predict the swings in economic cycles. This would, in turn, make longer-term planning much more uncertain if the government cannot count on an alternative stable source of income.

Raising the rates of corporate and salary taxes is, at best, a stopgap measure. This can never be counted on to cover the revenue shortfall during a prolonged recession. What is more, raising taxes could deepen the recession by depressing consumer spending and fixed asset formation, which are important components of Hong Kong's gross domestic product.

In addition, the margin of a tax increase is very thin. Overstepping that limit could seriously undermine Hong Kong's competitiveness as a financial center, which is built on, among other things, a low and simple tax regime.

While we enjoy the fruits of a rebounding economy and look forward to a tax cut, we should stay focused on the constructive debate to reach a consensus on a new tax that is seen to be equitable and fair by most Hong Kong people. A government-appointed tax review committee has recommended several options which can form the basis of the public discussion.

It is encouraging to know that the government is keeping an open mind on the issue. The ball is now in the court of the public, which must act responsibly in suggesting credible solutions to the problem.

There are people who have remained dead-set against any new tax. Citing the projected budgetary surplus, a commentator wrote that the government revenue from sales of land and other related sources is a sufficient buffer against any shortfall in the government recurrent expenditure during a recession. This assumption seems to have ignored the fact that a recession usually hits the property sector the hardest.

Email: jamesleung@chinadaily.com.cn

(China Daily 01/16/2007 page10)