In recent years, the Czech Republic has found itself in the unenviable position of witnessing the fastest accumulation of debt among EU countries, and this worrisome trend persisted in the previous year. Despite touting the lowest unemployment rate in the European Union, the nation has been unable to harness the benefits of its robust employment levels due to its incapacity to align ever-increasing government expenditures with the revenues generated by a thriving job market. Consequently, the conundrum of maintaining employment has emerged as pivotal in the country’s arduous quest to reduce deficits.

An exhaustive assessment of last year’s state accounts conducted by the Supreme Audit Office (SAO) unveiled startling statistics. Czechia ranked fifth in the EU for inflation, marking the highest inflation rate the country has experienced in its history. Concurrently, real wages saw a dramatic decline, further exacerbating the economic challenges faced by citizens. The SAO also shed light on the burgeoning mandatory budget expenses, commonly referred to as mandatories, which crossed the CZK 1 trillion threshold for the first time. These surging expenses were primarily driven by escalating pension outlays, painting a grim fiscal picture.

Regarding inflation, the SAO underscored the urgent need for the government to implement systematic budgetary measures that address root causes, including unchecked spending leading to deficit management and escalating debt. The SAO further emphasized how the commendable efforts to resuscitate the economy from the throes of the COVID-19 pandemic had been severely hampered by the energy crisis, exacerbated by the Ukraine conflict and its ensuing economic repercussions, resulting in skyrocketing energy prices.

In response to these multifaceted challenges, the government has proffered a draft consolidation package to the Chamber of Deputies. The package’s focal point is to effectuate improvements in the public budget, primarily through tax adjustments, with an ambitious aim to accrue billions in savings through judicious spending reductions.

Miloslav Kala, President of the SAO, underscored the untapped potential for enhancing state revenues, particularly through more effective tax collection, citing the alarming volume of tax arrears that exceeded CZK 106 billion in 2022. The battle against tax evasion, especially in value-added tax, and proposed tax system modifications are also prominently featured in the government’s agenda.

Kala further spotlighted the ominous specter of high mandatorial and quasi-mandatorial expenditures. Mandatory spending crossed the CZK 1 trillion mark for the first time in the nation’s history in the previous year, registering a staggering year-on-year increase of more than CZK 94 billion. This unprecedented surge was predominantly attributed to exceptional pension indexations. In response, the government has taken measures to curtail these extraordinary indexations this year and aims to replace them in the future with a temporary contribution structure that will not exert a lasting impact on future indexations.

Furthermore, the SAO issued a cautionary note that even with high employment rates, state revenues alone cannot adequately cover the escalating state spending. Any future attempts to align the nation’s unemployment rate with the EU average would undoubtedly result in a substantial revenue shortfall for public budgets, compounding unemployment benefit expenses and aggravating the alarming growth of public debt.

The Ministry of Finance acknowledges these daunting challenges and underscores the ongoing parliamentary discussions, including proposed changes to the pension system and the imperative need for consolidation measures. They acknowledge the costly nature of the extraordinary indexation mechanism and point out the Czech National Bank (CNB) as primarily responsible for reducing inflation’s detrimental effect on public finances.

The SAO’s comprehensive report also included an unsettling revelation: in international comparisons, three-quarters of EU countries achieved higher annual GDP growth rates than the Czech Republic in the previous year. The country’s growth rate lagged 1.1 percentage points behind the EU average, and it failed to return to the pre-crisis growth rate of 2019, which stood at a robust three percent. This sobering statistic underscores the formidable challenges that lie ahead for Czechia as it grapples with mounting debt, soaring inflation, and the imperative need for fiscal consolidation.

Article by Prague Forum