UPDATE 2-Czech FinMin proposes 2008 budget gap below 3 pct

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By Jan Lopatka

PRAGUE, Sept 3 (Reuters) - The Czech Finance Ministry on Monday proposed a 2008 state budget which would unexpectedly slash the country's overall fiscal gap below the cap mandated by the European Union.

The ministry said the draft called for a central government deficit of 70.8 billion crowns ($3.49 billion), which would squeeze the overall public sector gap to 2.95 percent of gross domestic product (GDP), from around 4 percent this year.

The proposed deficit, calculated under the EU's ESA 95 accounting rules, is below the 3.2 percent predicted in the cabinet's package of tax and welfare reforms, approved by parliament last month, and under the EU's cap of 3 percent.

The cabinet will discuss the budget before it is sent to parliament. Under the law, parliament must receive the draft by the end of September.

The ministry said that it saw the deficit falling further to 2.6 percent of GDP in 2009 and 2.3 percent in 2010. Those numbers are lower than the previously planned of 2.9 and 2.5 percent respectively.

Analysts said the approved fiscal reforms -- raising the sales tax while cutting income taxes and some benefits -- would allow for the deficit to drop next year but not much beyond that, as various tax changes take effect over time.

"It may turn out quite positively next year, the deficit really may drop below 3 percent," said David Marek, chief analyst at Patria Finance.

"But in the following years the government will have to axe, and they have not yet said where," he said.

He said the tax changes alone would bring the state an extra 17 billion crowns next year, but cost 15 billion in 2010. Together with approved savings on sickpay and other benefits, the government may be 35 billion better off next year but the effect will shrink to zero by 2010, he said.

LOWER DEFICIT, BUT EURO NOT IN SIGHT

Prague has officially renounced 2010 as the target date for euro entry partially due to a spending spree approved ahead of the 2006 general election, which boosted the budget shortfall despite economic growth of over 6 percent.

Prime Minister Mirek Topolanek has said the country must reform its pension and health system as well as the labour market before it can join the euro.

Topolanek has said euro entry is still possible in 2012, as proposed by Finance Minister Miroslav Kalousek, but the cabinet refused to adopt any official target date when it discussed euro adoption strategy last week.

The Finance Ministry said it saw 2008 central state budget revenues rising 9.2 percent to 1,037 billion crowns, while expenditures were seen growing by 6.4 percent to 1,107 billion.

The budget includes an expected 76.1 billion crown injection from EU programmes.

The central state budget is the main part of the public sector balance, which also includes regional budgets, health insurance system and various public funds.

The crown currency firmed to 27.680 to the euro by 0940 GMT from 27.720 in early trade and 27.710 late on Friday.