From The Financial Times

By Andrew MacDowall

Whether a genuine attempt to plug the fiscal gap or a pre-election gambit, proposals by the Bulgarian government to levy tax on interest earned from bank deposits have elicited surprise and no little criticism.

Income on bank deposits would be taxed at a flat rate of 10 per cent from January under plans announced by finance minister Simeon Djankov and backed by prime minister Boyko Borisov. The change could raise an extra BGN120m for the public coffers. Initially, it was suggested that the cash could be used to fund increases in state pensions – which looked suspiciously like a populist move before next year's general election.

The government's current line of argument is that the tax would bring Bulgaria into line with European norms, while helping rein in the deficit and promoting fairness. The Balkan country has been implementing a fairly successful fiscal tightening programme, and is targeting a deficit of 1.3 per cent of GDP this year and next, and a balanced budget by 2015.

Bulgarians have increasingly been salting their cash away in bank accounts while domestic demand has remained sluggish; household deposits rose 13.8 per cent to BGN33bn in the year to the end of August, Reuters reported.

Djankov and Borisov have portrayed the change as closing a loophole, pointing out that most European countries tax interest income. Bulgaria also has a flat 10 per cent tax on personal income and corporate earnings, which the government has pledged not to raise.

But critics suggest the plan is ill-conceived. As well as the usual arguments about effectively taxing the same income twice over, Georgi Angelov, senior economist Sofia's Open Society Institute, told Bulgarian radio that the new levy could actually disincentivise the paying of tax and shift activity into the grey economy – counteracting one of the main aims of the original flat rate

Furthermore, the government has sprung a surprise with the interest tax, having ruled it out as recently as September. The central bank and unions have said that they were kept in the dark about the changes. Combined with the shifting explanations for the hike, the impression is that this is the latest policy making on the hoof by the Borisov government.

"While there is some weight to the fairness argument, the debate should be about why the government is proposing this tax at the last minute, why there's been no consistency, and why it's being imposed at a time of crisis," says Svetla Kostadinova of free-market Sofia think-tank the Institute for Market Economics. "This change shouldn't be made in a hurry."

Kostadinova says that there are a number of better options for reducing the deficit, including axing questionable training programmes for the unemployed. But Djankov has vowed to press ahead with the tax. The government doubtless has one eye on the election; it needs the cash, and Bulgaria's growing pool of savings may seem to be low-hanging fruit.