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Hats off to Singapore for raising taxes

City-state's brave move offers a new model for Asia

| Singapore
An aging population is among the changing economic environments forcing a change in Singapore's reputed low tax rates.   © Reuters

As Singapore meddles with the ultimate taboo -- hiking taxes -- Lee Hsien Loong's government is offering something truly shocking: leadership.

Japan's population is aging as rapidly as Singapore's and fertility is just as scarce, yet Tokyo keeps pushing the central bank to save the day. China faces risks of social unrest due to similar demographics, yet Xi Jinping thinks becoming president forever is the answer. Donald Trump's U.S. shares Singapore's inequality dilemma, and his response is massive welfare for plutocrats.

Singapore is moving boldly, and wisely, in a different direction. The government is raising levies on property, goods and services, carbon and certain imported services. Not radically, but assertively nonetheless. A stamp duty rise to 4% from 3% applies only to residential property valued in excess of 1 million Singapore dollars ($760,000). The GST will rise to 9% from 7%, but not until sometime between 2021 and 2025.

Prime Minister Lee's willingness to risk the ire of vested interests is a nod to two phenomena:

One is that Singapore's days as the national equivalent of an investment bank are over. The city-state has long been too reliant on returns from Temasek Holdings, GIC Pte and reserve-management moves at the Monetary Authority of Singapore. Unlike, say, Norway, Singapore lacks steady natural resource revenues to share with its people.

The other is that demographic change simply makes Singapore's ultra-low-tax model impossible to sustain. While libertarians might bristle, Singapore is putting economic reality over ideology. What is more, it is acting in ways that will enhance the city's attractiveness as both a financial center and the regional headquarters of choice for multinational companies.

The knee-jerk reaction is that Singapore's business-friendly halo is slipping. Lee's new budget will doubtless run foul of the folks at the Heritage Foundation who tabulate the annual Index of Economic Freedom. Hong Kong has long bested second-ranked Singapore. We will have to wait and see whether New Zealand or Switzerland also leapfrog Lee's 5.6 million-person economy.

Higher tax revenues, though, will support Singapore's macro policies, while filling in some of the cracks that have become impossible to ignore. They provide more resources for affordable housing, upgrades to public transport, new training initiatives and green growth.

In different ways, Singapore is a microcosm of Xi's challenges in Beijing and Shinzo Abe's in Tokyo. The China parallel is that Lee's team must balance growth and reform considerations against potential social unrest. In Singapore's case, that is manifesting itself in a backlash against the foreign workers who have long fueled its success. The Japan analogy: Singapore's severe aging crisis. This year, the ranks of Singaporeans over 65 are expected to match those of the under-15s for the first time. Singapore's 1.2 births per women fertility rate is, like Japan's, half the global norm.

Like both China and Japan, Singapore is benefiting from trade flows. An ongoing synchronized global recovery may see Singapore advancing as much as 3.5% this year, compared with 3.6% growth in 2017. That has been a boon for semiconductors and other manufacturing priorities. The question is whether that boom proves fleeting. Risks include President Trump making good on trade war threats, the Federal Reserve tightening too fast or China suddenly hitting a growth wall.

All the more reason to plan for a gloomier day, one that could arrive sooner than today's investment herd thinks. The immediate task is protecting Singapore's enviable wealth and stability. Like Hong Kong, it succeeded by building a well-deserved reputation for low taxes, ease of doing business, efficiency and demonstrating that trickle-down economics can, properly managed, work. That dogma is breaking down, though. This is partly because of China's arrival, which turned Singapore and Hong Kong into very pricey properties in an increasingly cheap neighborhood.

Here is where they are diverging. In February 2015, Singapore announced its first income tax rise for top earners in decades. The increase to 22% from 20%, which affected 5% of the populace, attempted to redistribute wealth to lower-income workers. Serendipitously, it came just as the Group of 20 nations signaled concern about surging inequality for the very first time. The rise also coincided with the Organization for Economic Cooperation and Development warning that rich-poor gaps among its members were the biggest in three decades.

Hong Kong stood firm, believing its 15% tax rate was its raison d'etre and therefore untouchable. Since then, its "Gini coefficient," a key measure of income disparity, rose to 0.539, the highest in four decades (zero represents equality). Singapore's fell to 0.458, the lowest in a decade. Both still require big improvement, considering the U.S. and U.K. are below 0.4. But one can hardly argue Hong Kong grasps the destructive tale-of-two-cities dynamic bubbling under the surface, even after the Umbrella Revolution protests in 2014.

Singapore still has a long way to go to protect income levels in the age of China and India. Even more important than taxes, Singapore must accelerate and broaden its reinvention project. The 2015 death of Lee's father, Singapore founder Lee Kuan Yew, saw the son pledging to redouble efforts to increase competitiveness, narrow the gap between haves and have-nots and allay concerns about Singapore's open immigration ethos.

The key is using new tax revenues well. Japan, for example, raised the national sales tax in 2014 to 8% from 5% to pay down debt. Borrowings have increased since then, squandering the benefits. For Singapore, that means hastening the evolution towards high-value-added industries. Plans to catalyze a major startup boom got limited traction. Talk of grants and other incentives for a big bang in cutting-edge research and development -- in biotechnology, energy, health care, logistics, software -- was more talk than action.

Singapore must work faster to reduce the dominant role of state-linked companies to create more room for smaller, scrappier enterprises. The same goes for getting more creative about tapping rapid growth among the Association of Southeast Asian Nations. And clearly, Singapore could do with a bit less Lee dynasty dominance, buttressing its democratic bona fides.

Bottom line, the Singapore model Lee Kuan Yew employed to such great success must give way to one that prizes invention, new ideas, high-value-added services like fintech and risk-taking. That means devising education curriculums that put critical thinking over rote learning and creating new safety nets to prod young entrepreneurs to take leaps into the unknown.

Even with all these, and myriad other, challenges, hats off to Singapore to accepting reality. As Hong Kong clings to the low-taxes-at-all-costs gospel, Lee's government is leading -- taking clear steps to maintain Singapore's status as an HQ of choice in the world's most dynamic economic region.

William Pesek is a Tokyo-based journalist and author of "Japanization: What the World Can Learn from Japan's Lost Decades." He has written for Bloomberg and Barron's.

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