Cee money czech pm fears mkt bogeyman more than govt collapse

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The Czech government's insistence on pursuing its deficit-slashing agenda at any cost, including its own collapse, is based on the questionable fear that markets will punish one of the EU's best run economies for any sign of fiscal slippage. Prime Minister Petr Necas took power in 2010 by warning savings-minded voters to embrace austerity or go the way of Greece, but is now under fire for policies that have helped extend what is now a three-quarters recession. Adding to the economic woes, he has kindled political uncertainty in the country of 10.5 million and is at risk of following a string of EU leaders toppled by public anger and internal party clashes in their pursuit of austerity measures. After six members of his Civic Democrat party teamed up with the opposition to defeat of a tax hike bill in parliament last week, Necas has vowed to resubmit the package and tie it to a confidence vote in his cabinet. Canvassing Czech media with his finance minister, Miroslav Kalousek, Necas made clear the future of his government - and political stability -- was less vital than slashing the deficit."If we are going to continue in our reform package, we have to get the public budget deficit to below 3 percent of GDP next year, and without this consolidation package, it won't happen," Necas told television station CT24 at the weekend. "I won't sit in a government that won't fulfil its fiscal strategy."Necas has said he will discuss possible compromises with the rebel deputies before the bill comes up for vote again this autumn, but he and his ruling party control only half of parliament's 200 seats, so every vote will count. His approach is a stark departure from peers who have eased off on austerity when not under immediate market pressure to avoid undercutting growth or stoking political tension. The same day Necas vowed to push on with his unpopular tax hike package his Polish counterpart, Donald Tusk, announced he was abandoning his goal of bringing the fiscal deficit to below 3 percent of gross domestic product this year."We don't want to impress with reformers' zeal," Tusk said.

GROWTH VERSUS DEBT Necas's main argument is that any wavering on reforms will trigger downgrades from credit rating agencies and drive up borrowing costs, which will then cause even deeper deficits. It has puzzled economists who note that, having already over performed in 2011 and with debt at half the EU average at around 40 percent of GDP, the Czechs face little market risk. A bigger problem, they say, is that the unrelenting pace of austerity is driving the country deeper into recession. While the exports that make up 85 percent of Czech output are growing, consumer demand fell by 3.3 percent from April to June and was the main reason for a third quarter of recession."I save because I have to. This year my expenses are higher than last year, but my income isn't," said Jana, a middle-aged woman selling handbags in Prague. "Everything has gotten more expensive. Even if it's just a little bit, it matters when it's across the board."

Data indicate shoppers are saving both in anticipation of next year's tax hikes and also because of an earlier hike to value added tax (VAT) that kicked in this year has backfired. Meant to boost VAT tax receipts by 15.5 percent, that rise has led to an increase of only a tenth of that amount in VAT revenue. But it has helped push consumer confidence to its lowest point in more than a decade, while purchases of durable goods like cars and TVs have fallen by a fifth year-on-year. POLITICAL INSTABILITY But Necas and Kalousek say a failure to push on with more tax hikes would do more damage than the economic downturn.

"If we paid the same level of interest on our government bonds as Poland, which is considered a relatively successful economy, it would cost us 14 billion crowns more in debt servicing costs than it does today," he told CT24. But the comparison is a stretch. At 1.38 percent, Czech five year bond yields are at a record low, a third of Poland's level. Ratings agency Standard & Poor's ranks the Czechs three notches higher than Poland at AA-, while Fitch ranks it two. Moody's has it only one rank higher. It said this week that if the government did not pass Necas's tax-hike bill it "would itself not prompt a loss of creditworthiness". At the same time, it said politics could."Should the government fall before the scheduled June 2014 parliamentary election, reform paralysis is likely to set in," it wrote. "This development would be a major impediment to the structural reform agenda that sought to increase competitiveness and improve investment conditions in the Czech Republic."Necas's government originally aimed for a deficit of 3.5 percent of GDP this year, but after cutting to 3.1 in 2011 (versus an original target of 4.2 percent of GDP), it lowered that goal to 3. Now it sees the 2012 deficit at 3.2 percent. Michele Napolitano, an analyst for ratings agency Fitch, said some fiscal loosening would not hurt."If the government was to target a slightly higher fiscal deficit, for good reasons -- the measures should be somehow growth supportive -- that wouldn't have any negative rating impact on the Czech Republic," he told Reuters. "The fiscal position is strong enough to tolerate a slight upward revision."Perhaps the most accurate indicator of market sentiment is how bond yields react. When Tusk announced his retreat from his government's budget target, five-year bond yields were steady, then ticked upwards 10 basis points to 4.3 percent on Wednesday. How have Czech yields done in the same period? They kept track almost exactly with Poland's, rising 13 basis points.