The Paris-based Organisation for Economic Co-operation and Development has weighed in on the subject of the Swiss economy, arguing that the Alpine state should limit “unwanted tax competition” inside a country famous for its federal cantonal system.

The OECD, which is a club of the world’s richest nations, in 2009 removed Switzerland from its so-called “grey list” of nations that had promised to become compliant on tax information exchange agreements, moving it to a “white list” of nations seen as having delivered on the promise. But it is not just cross-border tax issues that have prompted the OECD to comment on Switzerland.

In a report issued yesterday, the OECD said it can reform tax to cut “incentives for households to borrow and limit unwanted tax competition within the country". For example, it suggested expanding value added taxes and reducing tax breaks on residential property to discourage leverage in the property market. 

The country’s cantonal system is a long-standing feature. As WealthBriefing noted last year in a study, the patchwork of tax rules in the French, German and Italian speaking parts of the country are complex, with some areas more favourable to certain types of business and persons than others. (To view that article, click here.)

The claim about “unwanted tax competition” is controversial. Some organisations, such as the Washington DC-based think tank, the CATO Institute, have argued that competition between and inside jurisdictions can be beneficial if it encourages policymakers to curb tax levels overall.

The OECD report gave a generally favourable view of the Swiss economy and policies. The Swiss authorities have capped the country’s currency against the euro at 1.20 SFr/euro to protect exporters from a weak single European currency. Swiss GDP grew by 0.2 per cent in the third quarter of 2011 from the previous quarter, the most anaemic rate in two years. In the year, the country’s GDP expanded 1.3 per cent (source: Bloomberg). However, the credibility of Swiss banking has taken a blow from the resignation early this year of Swiss National Bank chairman Philipp Hildebrand amid reports of his wife’s forex transactions that were made a short period prior to the SNB’s moves to cap the Swiss franc.

The report, which expects Swiss GDP to expand by 0.8 per cent this year from a year before, “calls for elimination of tax deductibility of household interest expenses from personal income tax; shifting tax burdens from personal income toward less-distortive taxes, like consumption taxes; and an end to limits on local governments’ ability to raise real estate taxes”.

The OECD said proposed reforms of the banking system – such as tough capital requirements – have made “substantial progress toward limiting potential risks from the financial sector”.  It added however that a “stricter leverage requirement and a larger required share of highest-quality capital would have important benefits in terms of reducing risks at low cost for the economy”.

Meanwhile, the report argued that the country has made a broadly balanced recovery from the economic crisis, with external factors providing a headwind to the country. Among the biggest problems has been fears that the eurozone will fall apart.

“Switzerland is likely to suffer from decelerating activity in its trading partners, notably across Europe, as well as from the pressures for appreciation of the Swiss franc,” Angel Gurría, OECD secretary general, said. “Declining exports may weaken GDP growth in 2012, so vigilance will be necessary to see the economy through these difficult times.”