Monday, July 30, 2007


According to Bulgarian news, the nation's government decided to implement a 10 percent flat tax rate on individual and corporate income by squeezing Bulgaria's current three-bracket system of individual income taxation.

Though some key actions regarding Bulgaria's fiscal stance may be overdue, such as 10 percent pension increase and postponing the reform of the state-run pension system, the Bulgarian government softened social security contribution rate by 3 percentage points, an important measure to accelerate the outcome of less fiscal burden, further benefiting capital creation, investment, entrepreneurship, wealth creation, labor supply and making much space to introduce vouchers in education and private retirement accounts and investment choice following Slovakia's transformation to private pension accounts based on income savings invested in private pension funds.

Despite the membership in the EU, Bulgaria is a post-communist economy, recovering from decades of socialist mismanagement. On its way to recovery, the rate of government spending is estimated to amount 42 percent of the GDP in the next fiscal year which is still high compared to the success of cutting the size of government spending in Estonia which is known as the Baltic tiger. Public spending and fiscal consumption are of course, an important indicator of macroeconomic performance. According to the stats provided by the Bulgarian National Bank, inflation pressures cause a high magnitude of GDP volatility affection resulted from a high growth of monetary aggregates fueling inflation and impeding Bulgaria's macroeconomic performance.

However, the introduction of Bulgaria as a flat tax jurisdiction is a giant leap ahead of crippled European welfare jurisdictions in terms of accelerating the inflow of foreign direct investment. It is quite realistic to expect lower rate in tax avoidance, which is one notable empirical reason for flat tax adopting as a way of cutting the fiscal burden. Bulgarian economy recently performed impressively well from a fivefold transitional collapse ended in 1996-1997, averaging a 4,9 percent five-year compound GDP growth. In 2008, the GDP growth rate is estimated at 6 percent annually.

One of the main inhibitors of post-communist countries on the road to economic transformation and free-market economy is the lack of sufficient protection of property rights as well as widespread corruption. Regarding the research on economic behavior, tax complexity hidden into the progressive system with loopholes, numerous exemptions and deductions; is the major source of bribes and corruption (as extra business cost) through which the economy loses confidence in the judicial system and corrupt government officials.

On the road to GDP convergence, the role of foreign direct investment and growth conditions is key factor in supporting the long-term growth performance through lower tax burden. Alongside, the measures to boost output magnitude of overall productivity, structural (smaller government), judicial reform (efficient and honest judiciary) and rules-based monetary management conducted by the central bank, should not be put neglected to move towards liberal democracy and free-market economy as ultimate goals to sustain individual liberty, free voluntary exchange, economic, political and civil freedom respectively.


Anonymous said...

CORRUPTION is central to why, in the United States, bills H.R. 25 / S. 1025 are enjoying a surge of support to END ALL INCOME TAXATION - business and personal, replace them with a consumption tax on retail paid by citizens.

Gone is the corruption that attends to tax codes and taxes on business. The tax code is simply an object to manipulate social behavior, curry favor to politicians by lobbyists, and grant businesses and special interests tax favors - ALL OF WHICH ARE PAID FOR BY THE CITIZEN.

What does the future hold for the United States IF the FairTax is NOT passed?

Listen to Prof. Kotlikoff's well-studied exposition: Meltdown In Progress!

Other resources:

Tax Panel Rebutted

Econs' Open Letter to Congress (Lists every tax that FairTax will eliminate, together with the power they represent to pol's and lobbyists.)

We have NO CHOICE but to demand Congress Scrap The Code - NOW!

Flavian said...

If Bulgaria can have a 10% flat income tax and high public expenditure, I think that only minor spending cuts and or minor increases of other taxes would be necessary if Bulgaria wanted to abolish the income tax altogether.

I do think that the real european flat tax revolution will start once one country abolishes the income tax altogether.

I live in Sweden, known for high taxes, and I think that many people do not mind paying high taxes given that they get something in return.

If Bulgaria would abolish the income tax altogether, the country would become a magnet for business. And if the income tax in Sweden will not be abolished, I believe that high tax jurisdictions such as Sweden, will have to offer the taxpayers value for the money.

If so high taxes are not a problem.

Rocks said...

Tax complexity enables the launch of corruptive behavior and Ian is right about the neccesity of scrapping the code. But it also depends on what you mean by fair, when we talk about "fair tax" system.

High and punitive taxation of corporate and personal income negatively affects economic performance in the global perspective and any kind of move towards simpler tax code is a good way to benefit from tax competition. Sweden is known for high taxes but it recently abolished wealth tax which had remained in effect since 1947 onwards. Contrary to popular beliefs, lower taxes rates on capital, labor and savings, do not reduce revenue, following the Laffer curve effect.

Therefore, high taxes are the problem.

Thank you both for the comments as well as for visiting my blog.


Flavian said...

But I believe that we will not see flat tax in any of the richer Western European countries unless some eastern european country abolishes the income tax altogether.

If bulgaria would reduce it's income tax to 0%, Sweden will in the long run not be able to have a top rate in excess of 30%.

After all it makes a difference if you get something from the government or not. Local governemnent in Sweden provides many useful services and many are ready to pay for them

What I meen is that a 0% income tax in Bulgaria would force all european countries to abolish excessive taxation, but not necessarily taxation in relation to the services government actually provides.

Paying a 30% income tax is a reasonable price for the social security provided by local government in Sweden, and will survive fiscal competition.

Capital gains taxes, progressive income tax and tax on dividends will not survive a 0% income tax in Bulgaria, but probably a 10% income tax.

I want to see Bulgaria "bite the dust" and then the rest of Europe to follow.

However: I believe that a person who moves from a high tax jurisdiction to a low tax jurisdiction must consider the loss of social security related to that and sometimes I believe that people from high tax jurisdictions might consider the high tax jurisdiction a better choice given that he gets something in return.

But if not, they will have to follow down to the dust.

Rocks said...

I believe the problem in Western Europe that deadlocks the possibility of reducing the aggregate tax burden mainly lies in the fact that politicians in countries such as Germany, France, Slovenia and Italy care solely about tax revenue as paying the price for gaining political support.

The rise of international tax competition has indeed forced anti-growth politicians in many EU countries to cut capital gains tax, income tax and corporate income tax.

In 1986, Germany had a compound corporate tax rate of 60 percent, in 2000 the corporate tax rate was dropped to 40 percent.

In 1986, Irish policymakers levied a 50 percent corporate tax rate on Irish companies. Today, a 12,5 percent rate is an enviable magnet for foreign direct investment as well as for capital formation and greater welfare. Ireland went from the sick-man-of-Europe to the second richest country in Europe. after Luxembourg.

It is noteworthy that in 2006, Ireland surpassed the U.S. in GDP per capita measured by purchasing power parity.

I have done a lot of economic analysis, detailed research surveys and papers about your home-country Sweden.

Here, you can have a detailed look into Swedish tax system through the prism of economic analysis by Sven Larson:

There is an empirical evidence that the consequence of high government spending is the lack of efficiency of public spending itself.

This can be calculated and measured through input-efficiency net which shows how effective is the unit of currency when the government spends it.

In Sweden, there are hardly any signs of corruption perception in society as measured by Transparency International and other Nordic countries as well.

Also, Sweden had a good reason to stay out of the WW2 and this is what probably enabled it to become the second wealthiest European country in 1950.

If policymakers in one country slash the corporate tax rate, policymakers in a country with high public spending start to be afraid of losing the tax base and that's why many tax cuts (capital gains, personal income, death tax, savings, dividends...) were adopted and this is what dropped the average OECD corporate tax rate.

I think that lowering of corporate taxes will further enhance incentives to cut the rates down elsewhere, say in Sweden. And this is how we benefit from tax competition respectively.

Regarding the social security, private retirement accounts enable us to increase the savings provided for the old-age.

Financial markets (stocks, shares, aggresive targeting of high returns...) are also an enviable source of saving for the retirement age.

The problem with social security is that it has become a tool for welfare cheating.

Also, age dependency is about to become a hot issue while depending on government-funded social security scheme could skyrocket the taxation of productive behavior (capital gains, private equity returns, labor supply, savings, investment...) and thus downgrade the economic performance.

Putting social security on market is an excellent example of giving people choice. How and what to choose to invest in to benefit from the productivity gains for the old age. I personally prefer private retirement accounts (introduced in Slovakia) because they open the space in which you can greatly benefit from the exposure of high-return investment in the financial market, allowing you to enjoy safety and welfare in the old age, gained in the market place instead of relying on government-funded schemes which could seriously threaten the macroeconomic stability and crush the benefits of low inflation rate and sound public finance.

You make clever comments. I appreciate it!


Flavian said...

My proposal: 0% flat tax in Bulgaria and thereafter we can see how high taxes we can have in the rest of Europe without "exporting" all economic activity to Bulgaria.

Is that a good idea?

Rocks said...

Sometimes it is true that certain tax-cut advocates are too rigorious in their assertions.

I personally prefer a negative income tax, based on the assertion of working as replacement for ragbag welfare and assistence programs, to replace the tax basis instead of possibly zero income and corporate tax rate.

That's how an economy, say Bulgaria, would move closer to the status of onshore destination working as a magnet for foreign direct investment and capital creation.

Instead, slashing corporate and income tax to zero would significantly unburden the economic performance in Bulgaria respectively but there are certain highlighted areas in which Bulgarian government should take action since private sector cannot provide input resources, such as fighting corruption and establishing the rule of law as a basic package of public goods.

A fundamental tax reform would certainly boost supply-side investment in Bulgaria, taking the advantages of Bulgarian market into account, such as relatively cheap labor force and an attractive strategic location for cross-border economic activity with high-growing economies in Asia.

To verify the evidence of income and corporate tax reform, there'd probably be some additional empirical and research estimates needed, in terms of what kind of effects could Bulgarian private sector gain from the abovementioned tax reductions and how much would the replacement of income/corporate tax with a negative income tax where all unused deductions and allowances would be refunded to the taxpayer.

For example if the standard allowance is set at $10 000, and if you make $250 000 a year, then, under 10 percent flat tax rate, your residual net income would be:

$10 000 + $250 000 - $25 000 =
$235 000 (net income)

I prefer such tax system as an immediate replacement for welfare assistance and entitlement programs through countless deductions, exemptions and allowances. I think that Bulgaria could easily follow this experiment since it is easy and imposes very low administrative cost.

It is foolish if there's a growth agenda in certain country and then policymakers set a high corporate tax rate. Therefore, slashing the corporate tax rate to the record-low (possibly zero) sounds enviable, but on the other side, the government should work hard on fiscal consolidation and cutting public spending, not to shrink in the spiral of high spending and budget deficits.


bathmate said...

nice posting...