Thursday, May 31, 2007


Here is an opinion why Sweden needs corporate and individual income tax cut to stay matched up with global and regional competitors such as Estonia where, as Johan Norberg pointed out, tax rate seems to be converging with the growth rate as Estonia recently announced a tax cut from current 22 percent to 18 percent. As in every country, punitive tax regime associated with generous welfare state undermines the capacity of the productive behavior to work, save and invest. Sweden is no exception to that rule. The most obvious side-effect is the loss of competitive angle as capital flight and tax evasion soar. In comparison, Estonia offers a competitive pro-business market environment and the GDP convergence accelerates the wealth and capital creations as economic growth is getting closely converged with the growth rate.


In an article published in Korea Herald, Assar Lindbeck, a professor of international economics at Stockholm University, wrote about three Swedish models affecting Sweden's turbulent changes in economic performance, economic policy and economic growth.


"Try to speak French with someone who was educated in public school and then try to speak it with Berlitz graduate."
- Milton Friedman

In Daily Telegraph, Johnny Munkhammar wrote an article on how free choice and school voucher transformed the education in Sweden. As we can read, in 1991 Sweden pioneered the launch of competition in education sector, giving parents and children a sense of choice to choose (on the basis of coupons called 'vouchers') the school in which their children would be educated. Milton and Rose Friedman contributed a tremendous share to the idea that greater quality of education as well as output and performance demands a degree of competition, pursuing the objectives desired by parents and society.

In nearly every country in Western world, the idea of school vouchers has been attacked aggresively without a particular reason behind which we can see a huge amount of mistaken arguments noting that many of the so-called "engineers of public education" are very far from understanding the basic principles of economics properly.

The price effect of private school as a new entrant in the market naturally reflects the effects in the economy. If a newly established private school wants to attract students, it reasonably cannot bubble the price of its service - tuitions and fees, but it will probably be ought to fight cost increases to minimize the burden which is purely reflected in the price which a student has to pay to enter the school. Consequently, if the entrepreneurs supply a highly respective education service which attracts new-comers to choose the particular school, public schools are forced to pursue changes and restructuring to supply students with more quality and value. In fact, students or their parents are the one who pay the education, whether it be through taxes (public education) or through their own funds if they choose particular private school, college or university.

There is also the effect of quality and yield. As Benjamin Franklin once wrote: "Investment in education always pays the best interest." As we can track from international comparisons, universities such as Harvard and MIT are on top according to the criteria such as alumni performance and the research quality of the environment supplied to their students, professors and researchers. According to Academic Ranking of World Universities, Harvard and Stanford scored on top. Among top ten universities, only two originally come from Europe, namely Oxford and Cambridge. Harvard, for example, scored 100 percent on 5 out of 6 different levels.

Taking the 'trademark' of university into account, graduates from private universities usually benefit far more greatly compared to the students educated in public universities. Not to say that each public university (in terms of ownership) is bad, but the results tend to flatter private universities over public ones. In facing your career perspective, it is sometimes good to consider what you want to achieve, whether to reduce your investment or increase it temporarily. The return to your education grows after you graduate, depending on how successfully you perform your output meaning that your interest (the price at which your capital units are purchased) is paid higher relative to your lads.

In high schools (secondary schools) and elementary schools as well as in child-care kindergardens, the matter of choice is equally important. According to differently stated objectives, the mission of high school is to train pupils for university life in terms of teaching them how to combat the challenge of new economy by absorbing information and functional literacy. In some cases, the performance of public high schools is not very well both in terms of quality of education and learning environment. The answer to the question how to change this 'status quo' is not government intervention and shooting rigidity and bureaucracy through means of public ownership but simply to deregulate the school market by allowing private school to enter it. If there is completely collectivized system of schooling, pupils and their parents simply have no choice as the mechanism contains the most violent means of coercion such as performed by central-planning in Cuba and North Korea.

On the other side, the deregulation of school market as well as the introduction of school vouchers gives parents an opportunity to choose. One largely mistaken argument assumed by the defenders of public education schemes is that, if private schools flourished, the price of their service would skyrocket. This argument is in full contradiction with the elementary principles of economics, notably the behavior of general equilbirium where the price is lower if the supply is enriched. In telecommunications, we have recently seen dramatically lowering prices benefiting final consumers.

Imagine the situation in which the government told you that you should buy only one particular laptop, say Acer, because Acer is the best. I'm not pretty sure that so many of us would have laptops if only one supplier (monopolist) had full control over the market, keeping the price in line with "Cournot point" which explains the behavior of the monopolist as well as his/her cost function. Exactly the same kind of competitive behavior is happening in supplying the market with education services. The amount you pay into public schemes is lower than the amount you get back from "yield-growing" options of education service in comparison to public schools. Going for growth requires a solid formation of human capital servicing the challenge economic performance. Also, going for quality demands choice and certain degree of competition pursuing quality, education value and competitive prices. Economic growth grew significantly after monopolies were faced by competitive forces. It's about time to let 'growth miracle' pouring into education spectrum as probably everyone deserves to determine his own future through choosing the education which he/she wants.

Milton Friedman once brilliantly demonstrated the difference between public and private schools when he said:
"Try to speak French with someone who was educated in public school and then try to speak it with Berlitz graduate."


I recently went through Carl Bildt's post on The Legacy of Olof Palme.

As an economist, I'm rather interested in how the economic policy of Palme administration was conducted.

As I posted earlier, Sweden is a laissez-faire case study depicting the path of a Nordic tiger that sustained the second highest GDP growth in the world during 1890 and 1950, after Japan. Aggregate tax burden after the WW2 grew significantly; from 21 percent of the GDP in 1950 to 53,2 percent of the GDP in 1990 (Larson, 2006).

The figure below shows how marginal taxation of individual income had grown in Sweden. As we can see, the taxation grew explosively approaching 90 percent in 1980s. Consequently, gross capital formation had remained below 20 percent of the GDP from 1970 onwards. As Riksbank introduced a panel of measures to curb excessively high inflation, public spending grew and capital formation gained temporarily inevitably after a transitory period of recession and low output performance which is unavoidable in the course of reversing an excessively strong inflation. In the period of economic policy conducted under confiscatory taxation, high taxes and excessive regulations encourage capital flight from Sweden. Out of 10 largest corporations, none was created since 1970.

How did Swedish recovery emerge? After the removal of capital market regulations, foreign exchange controls and Sweden's entry in the EU, the economic policy streamlined tax cuts in the range of 10 to 20 percent, deregulation of certain product markets (electricity, telecommunications, railways and road transport), broader privatization of state enterprises and also the introduction of tax-financing in human services such as childcare, education (where voucher system was imposed) and old-age care. Economic reforms recently boost the removal of wealth tax, decades old symbol of uninterrupted left-wing rule.

It is actually quite difficult to find the evidence on Palme's economic policy. I found one yesterday as I came across the book entitled "Blood on the Snow: The Killing of Olof Palme" which reveals the insights behind the assassination of Olof Palme. In a great book, Jan Bondeson describes the performance of economic policy in the following way:

"...they depicted him as personifying a system of rigid socialism and ineffective bureaucracy, a system that rewarded indolence and parasitism while punishing industry and enterprise. Taxation was a key issue, since middle-class Swede paid seventy percent of his/her income in tax. Small businesses were literally taxed out of existence. When the celebrated children's book author Astrid Lindgren questioned whether it was really right that she should pay more than one hundred percent tax on her foreign earnings, Palme's minister of finance retorted that she should concentrate on writing books and leave matters of state to those who understood them better. Not long after, the minister was himself accused of tax evasion. Sweden had a monopoly on radio and television, and the two state television channels were widely considered the dullest in the world outside Eastern bloc. More children were taken into care in Sweden than anywhere else, by an army of assiduous social workers. In the state schools (there were almost no private incentives) the curriculum was experimental in the extreme, to the detriment of general education. And was it really right that young people should earn more on social security than when employed as an apprentice? "

Source: Jan Bondeson: The Blood on the Snow: The Killing of Olof Palme (link)

Tuesday, May 29, 2007


Kristyn Birrell wrote a brief article on how successfully New Zealand has switched from agricultural subsidies to free market farming. As she wrote: "The fortune of farmers now depended on their ability to meet consumers."

As empirical studies evidently showed, agricultural subsidies mean nothing but a distortion of consumer prices. In fact, there has been no proof to subsidize farming as there are actually no neighborhood effects that could justify the use of farm subsidies. The reason why farm subsidies ought to be abolished is a substantial improvement in productivity, the effect of efficient allocation of resources as well as innovation and competitive prices which inevitably triggers benefits for customers. In New Zealand, after moving away from distorting farm subsidies, labor productivity nearly doubled and land productivity increased 85 percent. In fact, the share of agriculture in the GDP had been rising significantly while today; approximately 90 percent of farm output is exported, summing up more than 55 percent of total merchandise export. As a consequence of relying onto the efficient of market-based pricing, high quality, innovative processing and the efficient allocation of resources lifted New Zealand's agricultural sector into one of the most competitive in the world.

According to the Organization for Economic Cooperation and Development, government support for agricultural producers accounted for 31% of total farm income among its member nations in 2001. However, Australia and New Zealand are entirely different story. Thankfully, the reforms were implemented quickly by avoiding the setbacks of long drawn-out process instituted by the economic policy of gradualism. The reduction of government support thus provides producers to match knowledge-based solutions such as business and management risk as well as added production skills in bringing value and high quality to their customers.

Instead of liberalization, western countries have no shame when it comes to launching the policy of protectionism. However, hardly anyone is aware about its negative side-effects. First, agricultural subsidies distort general economic equilibrium by (1) creating the incentives to demand as well as by (2) imposing tariffs and quotas on agricultural imports from third-world countries. The farmers usually react is a simple way called rent-seeking. As an influential interest group, they frequently announce "resistance to any kind of cuts in farm subsidies." To be honest, this doubtlessly reminds me on a sequel from the middle age.

Meanwhile, removing import barriers could dramatically boost competitive pricing in agricultural market. The liberalization of world trade would foster the incentives to produce and supply very quickly. The elimination of import barriers would support the liberalization of prices as well as greater choice in the market. This cumulative effect would force domestic producers and farmers to cut their prices and introduce innovative capacities to match-up customer preferences. In addition, ending farm subsidies opens more and more opportunities to embrace competitive advantages and switch toward the edge of new economy by introducing quality service such as rural tourism. This is exactly what happened in New Zealand as farm employment fell and the employment in vibrant tourist industry grew significantly.

In Slovenia, there has been no such thing as farm liberalization. Prosperous agricultural sector without government support and open international trade flows is what boosts producers to streamline efficiency and competitive pricing by reducing costs and looking for what customers really want.

Kristyn Birrell: Kiwi Fruit for America, TCS Daily (link)
Sara J. Fitzgerald: End Farm Subsidies, Heritage Foundation (link)

Thursday, May 17, 2007


Via, Dan Mitchell, I came across the article Croatian Tax System is Modern and Competitive, publish in Austrian newspaper Der Standard. On a round table held in Zagreb (Croatia’s capital) Professor Christian Windhal from Vienna University gave the following recommendation to Croatian policymakers:

“The Croatian tax system is not far behind the Austrian system, and is a competitive and modern system. Don’t change taxes. Don’t practice on people as people are tired of tax changes. A stable tax system is fundamental for the stimulation of investments. Not even the rates are as crucial as stability, longevity and predictability of the tax system”
Source: Der Standard

First of all, the professor put Austria as an example of competitive tax system, which is in effect very far from a globally competitive level. Austria has a very high individual income tax, topping 50 percent and government spending is very high as well. In 2004, the ratio between GDP and public spending equaled 50,1 percent which is one of the highest “taxed-to-the-eyeballs” ratios in OECD. The OECD database shows that Austria’s rate of public social expenditures equals 26,1 percent which is, again, one of the highest rates of public spending in OECD. Further, in going for growth Austrian competitiveness is hampered by implicit taxes on productive behavior which encourages early retirement and, not surprisingly, Austria has one of the most generous pension systems in the EU marred by demographic risk and stylized growing pressures on the sustainability of public finance. Hence, the tax system in Austria implies significant administrative burden demanding nearly 272 hours to comply the overall payment of taxes. Given the data available at World Bank, labor tax contribution rate equals 36,3 percent, exceeding the OECD average of 23,7 percent overall labor tax.

Croatia suffered from a decade-long period of civil war and a laggard economic performance. To support GDP growth, the radical tax reform is inevitable together with a panel of other reforms needed to boost the overall competitiveness of the Croatian economy. The business environment, measured by the degree of the ease of doing business, is currently ranked 124th in the world. The structural problems also reflect a very low degree of economic freedom, ranking Croatia as mostly unfree economy as perceived by Heritage Foundation’s annual Index of Economic Freedom. A relatively high rate of unemployment is not surprising if we analyze in detail the state of labor market in Croatia and all persisting barriers and regulatory burden hindering fighting joblessness and the overall growth of productivity. Building a globally competitive fiscal model demands a radical reform approach needed to hold back the aggregate demand pressures and the continuity of growing public spending. Thus, it is nevertheless important to reconsider the persistence of high tax burden imposed on productive behavior such as work, risk and entrepreneurship which is essential for a small and open economy in going for growth and structural advancement. As a “case-study” post-communist economy, Croatia suffers from a lack of property rights and the quality of the legal system as the corruption perception is very high in comparison with the rest of the world. In general, high levels of external debt and debt service burden raise concerns about current
account and external debt sustainability. In recent years, public debt of Croatia increased dramatically and it would be wise to reconsider the overall structure of government expenditures to cover-up the repayment of public debt together with the interest as a liability levied by international creditors. Public debt is a serious concern and the historic evidence of Nordic peers shows how generous fiscal expansion can drive the debt high and make it unsustainable.

The overall picture of the competitiveness of Croatian economy and society is ought to be changed in the light of challenges brought by globalization and economic integration. As a small and relatively open economy, Croatia can benefit from a high quality of legal, business and macroeconomic environment perceived as a competitive advantage in making a proper strategy to accelerate GDP growth by structural reforms such as cutting taxes, labor market reform and deregulation measures to boost both, global competitiveness and the structural advancement of an economy such as Croatia.

By my opinion, copying Austrian model would be completely useless. But it would be far more appropriate to fight the EU pressures on tax harmonization which penalizes low-tax jurisdictions. The latter is a »miracle box« which Croatia can offer to the world. The competitiveness performance has shown that good institutions, sound macroeconomic management and world-class education quality is a successful strategy in going on top of the global competitiveness.

Friday, May 11, 2007


A few days ago I notice the release of this year's IMD World Competitiveness Yearbook announcing 2007 results of the overall ranking of countries and regions in global economic challenge. On this year's annual scoreboard, the United States remain on top of the scale in front of Singapore and Hong Kong. Among European countries, Switzerland, Luxembourg and Denmark achieved the highest score. It is nevertheless important to stress the competitive edge of the highest ranked countries in terms of economic performance and the ease of doing business. Unlike the rest of the Western counterparts, Switzerland scores very high in fiscal policy. In Switzerland, cantonal tax competition is marked by the competitive corporate tax rates, known as the lowest in the world. An important factor which determines the overall competitiveness is the dynamics of the financial sector also in terms of the practicing financial privacy laws and corporate and individual service quality besides the availability of investment as well. CreditSuisse and UBS are on the world top in this respect.

The methodology of the competitiveness contains the measurement depending on four different factors: economic performance, government policy, business efficiency and infrastructure. Each factors consists of many different criteria needed to compose the overall score of the competitiveness of a country. The breakdown of the factors details selected criteria. For example, the overall economic performance is computed by the research output of the state of domestic economy, international trade, international investment, employment and prices. On the other hand, the nature of government policy towards competitiveness depends on the stability of public finance, fiscal policy stance, institutional framework, business legislation and societal framework such as attitudes, value and competitive mentality. The business efficiency is essential to the functioning of the competitive economy. It thus depends on productivity, conditions on labor market, financing, management practices and managerial behavior such as norms, attitudes and values performed by the management of surveyed companies. Similar breakdown is also conducted in case of infrastructural factor.

I already obtained the sample report on Slovenia and Sweden. The competitive ranking of Sweden improved significantly in the last year. The largest Scandinavian country climbed from 14th place in 2006 onto 9th place in 2007. The economy scores high also in the field of business efficiency and corporate management. For example, Swedish corporations (Ikea, Ericsson) are, according to the survey, the third most efficient in the world by the perception of the international standards. There are also some particular weaknesses undermining the international competitiveness of Sweden. For instance, tax burden measured as a percentage point of the GDP is one of the highest in the world. Individual income tax rates are the second highest in Europe (after Denmark), government spending and public consumption significantly declined in the beginning of 90s when Swedish economy was hit by severe economic recession and GDP decline. Another strong weakness undermining global competitiveness of the Swedish economy is also rigid and tight structure of the labor market marred by explosive regulation and difficulty of hiring and firing workers. After computing all rankings, the report shows that Swedish competitiveness improved significantly by taking every single factor into account. In addressing competitiveness, Sweden is ought to consider the deregulation of the labor market together with improving skills of the labor force in cooperation with business sector. Regarding R&D, Sweden is one of the world best performers by the international perception of research output, university/business sector cooperation and quality of the research institutions. However, the output of innovations is measured through the prism of commerce enhancement of product and service innovations. Swedish policymakers should seriously consider the removal of the barriers hindering the commercial enhancement of innovations also in small and medium enterprises which usually fuel the innovative capacity of R&D from market niches and hidden growth potentials.

On the other hand, Slovenia, the sick man of transition lags behind the majority of European counterparts, and is being situated on 40th place. The stance of domestic economy is optimistic by the GDP growth, solid macroeconomic outlook, and high level of openness in international trade and stable prices as well.

Despite a high intensity of export activity, the export of commercial services is very low and this is not a good sign in the period when the core of value-added lies in service sector which fuels productivity and new economy. However, the competitiveness begins to shrink when we observe the long-term sustainability of public finance. Slovenia has one of the youngest pension populations with the unfunded pension liabilities approaching the double size of the current GDP. EIU and European Commission have warned Slovenia several times about the unsustainable stance of public finance, increasing the risk of public debt explosion. Expansionary and welfare-based fiscal policy is a special concern regarding the long-term competitiveness of the Slovenian economy. In Slovenia, we have the highest individual income tax rates in Central and Eastern Europe, topping 41 percent progressively.

State ownership and government intervention posses a serious threat to business activities. In Slovenia, private activities compose only 65 percent of the GDP compared to 80 percent in Hungary and Slovakia. The failure of collectivist state ownership in health care reflects a high rate of social security contributions. In Slovenia, we pay 22 percent of our gross salary directly to the government health-care fund. Another barrier to competitiveness is a very low level of labor market flexibility resulted from beneficial unemployment legislation. The efficiency of the business sector shrank once again.

Slovenia still remains the least attractive destination for foreign investors in terms of location purchase barriers and investment incentives. Consequently, the productivity in manufacturing sector is below the level of average competitive rate. Large corporations, accounting a significant part of the Slovenian economy, are mostly inefficient as perceived by international standards and dynamics outlook. Slovenian corporations also suffer from the unsustainability and international silence. Corporate boards, as well, do not supervise companies efficiently and this indicates a sign of a serious corruption involvement.

Banking sector is also a particular concern because of low service quality and tight strategic policies resulted from the defense against the infusion of investment capital as it was offered by Belgian banking and insurance group KBC. This is a sample indicators describing Slovenia's openness to foreign competition and ideas from abroad. In addition, the business and social environment is very unattractive for foreign labor force in all sectors of the economy. In a broader perspective, the failure of the Slovenia's competitiveness reflects the weaknesses emphasized by this year's IMD's World Competitiveness Yearbook. Without sound economic performance, institutional quality, privatization, tax and public finance reform and competitive mentality as well, Slovenian economy and society could simple trigger serious structural crisis and economic stagnation in the future.

Sunday, May 06, 2007


"I have nothing good to say about the political regime that Pinochet imposed. It was a terrible political regime. The real miracle of Chile is not how well it has done economically; the real miracle of Chile is that a military junta was willing to go against its principles and support a freemarket regime designed by principled believers in a free market. The results were spectacular. Inflation came down sharply. After a transitory period of recession and low output that is unavoidable in the course of reversing a strong inflation, output started to expand, and ever since, the Chilean economy has performed better than any other South American economy."

Milton Friedman

Thursday, May 03, 2007


Yesterday, I noted an article published in New York Times, Singapore Makes a Pitch to Draw the Wealthy, describing a remarkably fast transformation of Singapore economy. Singapore has scored very high in the degree of economic freedom and in the ease of doing business. In 2006, the Asian tiger reached the top of the world as the most business-friendly environment in the world. According to IMD, the economy is the third most competitive in the world, surpassing all European economies with a particular emphasis on business performance, high-quality infrastructure and economic environment.

Singapore ">is also among the world top in ICT competitiveness (3rd place according to WEF) measured according to general economic performance, macroeconomic conditions, regulatory environment and readiness to benefit from the effects absorbed by the ICT.

Singapore's financial sector has proven resilient in series of economic shocks (IT bubble, Asian financial crisis) and consequent asset price decline in the past years. Financial sector is well capitalized and Singapore's global integration does not pose a stability concern due to the inclusiveness of the economy to world financial markets. In 2004, the IMF issued a report on Singapore's Financial System Stability Assessment where key recommendations are stressed as well as closer details and the overall analysis of the performance of Singapore's rapidly growing financial industry. However, a substantial government intervention, restrictive control and its diversified minor bank ownership shares undermines the competitive edge of the financial sector in which firms compete primarily on venture capital, fund management and insurance.

I recently read the presentation, Singapore Competitiveness: A Nation in Transition, presented by professor Michael Porter of Harvard Business School. As a small-scale economy, Singapore has absorbed significant benefits from the globalization of markets, value-chain and knowledge on a challenging path from an economy based on efficiency into an economy fueled by innovation and productivity improvement. With an average of 4 percent real GDP per employee growth, Singapore outscores most of its international counterparts, lagging only behind high-growth markets such as India. The pace of innovation is performing high growth rates. Compounded annual growth average of U.S-registered patents between 2000 and 2005 stood at approximatley 6 percent, one of the most powerful growth rates in the world indicating a high level of innovation as the major fuel of growth.

On the other side, the infusion of private secrecy laws and low corporate and individual tax burden magnetized a growing volume of foreign direct investors. Currently, top individual income tax rate is 20 percent while 18 percent rate refers to corporate income tax with some additional tax preferences and differences in the taxation od different types of company. As a percentage of the GDP, total tax revenue in 2006 equaled 13 percent, reflecting a competitive tax jursidiction which benefits from enforcing the open-market policy of tax competition.

It is also an interesting comparison of Slovenia's and Singapore's competitiveness of business environment as both nations are currently in transition. Slovenia scores miserably low in grading the economic freedom while Singapore's performance of economic freedom is the second highest in the world. The overall innovation gap between Slovenia and Singapore is huge. In Total Factor Productivity in Slovenia, dr. Mico Mrkaic showed that the TFP growth is too slow in Slovenia as well as the nature of economic growth throughout the transition period emerged from capital deepening with a very low innovation output in supporting GDP growth. I recommend the reading of Modelling Small Economy Exports: The Case of Singapore (Abeysinghe, Meng Choy 2007) to see the difference in export modeling innovation between Slovenia and Singapore, especially in terms of export cluster portfolio as the foremost engine of boosting competitiveness of a small and open economy such as Singapore.