Friday, February 29, 2008


Fredrik Reinfeldt, Sweden's prime minister delivered a lecture at London School of Economics and Political Science where he defined how the new Swedish model is looking to implement pro-growth and labor market reforms (link).

Tuesday, February 26, 2008


The reality could hardly agree with growing anti-globalist tenstions in Western Europe (link) that globalisation boosts unemployment and the loss of net economic welfare. In fact, outsourcing, increased trade, offshoring and enhenced economic integration create now jobs that hardly anyone could ignore.

For years, economists have questioned whether a growing inequality of wages is an acceptable consequence of globalization. Such normative attributes are among the central pieces of economic analysis since economists usually have quite different political judgements and values. But the inequality of wages is actually the benefit of globalization. It is nothing else but an outcome of millions of decisions that reward the smartest and most productive individuals. It should be noted that inequality emerging from varying degrees of productive behavior is actually good since individuals and businesses boost their comparative advantage and thus reduce their opportunity costs.

Barack Obama's economic agenda endorses various protectionist measures that appeal soundly into the ears of the voters but have disastrous economic consequences. No serious and productive economist would be eager to defend anti-trade and anti-market rethoric against Wal-Mart and North American Free Trade Agreement. It's absurd to claim, as Barack Obama does, that NAFTA didn't give jobs to American people. It simply changed the strategy of specialization and comparative advantage. NAFTA was not a harm levied on the U.S economy but a gain that benefited U.S, Canada and Mexico together. Hardly anyone would wish high tariffs and burdensome obstacles to trade and investment. As Benjamin Franklin said, no nation has ever been ruined by trade and contemporary economic theory is much about Franklin's early wisdom. Trade doesn't create inequalities but interdependence. It means that gains from trade are mutually exchanged and thus, nobody's welfare is made worse off after trade, but improved significantly nevertheless.

Even World Bank has recognized that there is a strong correlation between trade liberalization and economic growth (link). Trade liberalization enables individuals and enterprises to reduce the information asymmetry and transaction costs.

Surely, with globalization some jobs disappear but an unprecendent growth of jobs in innovative sectors of the economy has outperformed the costs of globalization. Contemporary development of emerging markets has shown that David Ricardo was right about comparative advantage where countries specialize in producing goods and services with the lowest opportunity costs. For example, the U.S companies design software chips, Swiss companies produce fancy watches and some Belgian companies produce unique chocolate candies because those companies have unique resources and advantages that other economies don't have.

In the election year, politicians of all colors, whether it be left or right, Democrat or Republican, endorse protectionist proposals that would protect domestic producers and set huge entry barriers to foreign companies. Maybe it's about time for Barack Obama, Hillary Clinton and John McCain to sit down and learn about microeconomic and macroeconomic fundamentals.

Here is my suggestion (link)


Earlier, I posted an article about Hungary's low-growth epidemics emerged from a misguided economic policy. Hungary, known for a staggering public finance, recently abandoned currency trading by letting forint float freely (link)

Hungary's macroeconomic attributes are certainly not an admiration. Excessive public spending and prolonged government borrowing to squeeze budget deficit has let the interest rate unsurprisingly high and discounted investment confidence, letting growth prospects to new record lows. Abandoning the regime of targeting exchange rate and the inflation rate has its wise attributes. It makes no sense to manipulate with the exchange rate that could foster currency depreciation at the expense of higher inflation.

Hungary's prospects to join the ERM-2 trading mechanism were railed out after the combination of high government spending and excessive borrowing left one of the major economies in Central Europe out of the euro-zone. The decision to let the forint float freely is not enough. On one hand, Hungary should enhence pro-growth economic and tax policy and its central bank should launch a clear commitment to prudent monetary policy that would keep the inflation frontier at a low level and prevent extraordinary market intervention of the Hungary's central bank.

Saturday, February 23, 2008


In a continuing and overpowering war against low-tax jurisdictions (link), German government hit out a tax attack on the Principality of Liechtenstein (link) by sending intelligence spies into Liechtenstein and bribing former bank employee to alledgly obtation bank client data. Angela Merkel, Germany's chancellor, has endorsed threats to isolate Liechtenstein if the latter does not ease bank secrecy rules (link).

Liechtenstein's GDP per capita equals 84,300 € ($125,000) per capita, which is about three times higher than Germany's GDP per capita. Principality's banking legislation is based on financial privacy. German government has continually forced Liechtenstein to sign information-sharing agreements that would enable German tax authorities to tax capital income of German entrepreneurs whose company is headquartered from Liechtenstein. Also, information-sharing agreements might impose sanctions and tax prosecution of German companies situated in Liechtenstein. The aggression on behalf of German government indisputably violates territorial sovereignity and financial privacy. Nevertheless, the latter is one of the most fundemental human rights.


Poland, the biggest economy in central Europe might introduce a low and single-rated flat tax (link)

Friday, February 22, 2008


While reading prof. Mankiw's blog, I came across Andrei Schleifer's new working paper entitled The Age of Milton Friedman has drawn a linking line between an unparalelled progress of the last twenty years and free market economic policies.

The acceptance of free-market policies has been initiated by Ronald Reagan and Margaret Thatcher. The policies of both contained tax cuts, deregulation of the product markets, privatization of the industries and free trade. In the last quarter of the century, millions of lives have been lifted out of poverty. Normative economic analysis might explain this phenomena in a distinct feature. Some might possibly claim that greater government intervention through social security accounts and welfare state in some countries is the reason why poverty has largely been avoided. Despite a misleading utopia that populist politicians and social demagogues are using it, the truth is that a large disappearence of poverty has largely been a result of free-market policies that emphasized tax reform and deregulation.

Milton Friedman's intellectual mind has indeed inspired many leaders around the world to pursue free-market reform agenda. Margaret Thatcher succinctly fought the status quo set by the unions which resisted the deregulation of the labor market.

Ronald Reagan endorsed the most extensive tax reform in the U.S. history. Milton Friedman's intellectual radius also reached China that, despite being a communist country, implemented several pro-growth economic reforms that emphasized openness to the world. Surprise, surprise - China is today the fastest and most rapidly growing economy in the world. This achievment hasn't been an outcome of an enhenced government intervention but largely an outcome of economic reforms that communist China embraced under Deng Xiaoping. Those reforms lifted millions of poverty by allowing them to trade, invest and do business.

The age of free-market reforms brought an unimaginable improvement in the standard of living. Market liberalization brought competition into every walk of economic life. And competition, by no surprise, has brought welfare and value to consumer in terms of lower prices and improved product and service quality. Competitive mechanisms slashed top marginal tax rates, therefore bringing job growth and incentives to work, save and invest. The liberalization of the global trade slashed tariff rates and reduced both, transaction cost and the difficulty of a resource allocation in a productive use.

Territorial competition improved the quality of business locations around the world. The number of procedures to start a business has fallen down dramatically. And most importantly, fiscal competition has made spending fever much more restrictive, putting notable limits on government spending and consumption. The economic progress in transition economies such as Estonia, Slovakia and Czech Republic, has been made possible because of a commitment to reform, responsible leadership and an ambitious growth agenda. Indeed, Friedman's Free to Choose, Capitalism and Freedom and numerous intellectual debates contributed to the understanding that today's welfare and progress is an outcome of yesterday's reform and ideas.

Sunday, February 17, 2008


When studying and/or doing a job in macroeconomics, it is important to keep an eye on three key features: economic growth, inflation and unemployment. Macroeconomic analysis also emphasized the stability of macroeconomic aggregates such as GDP, public spending and budget consumption. An article Tax tinkering won't fix Hungary's growth problem published by The Guardian briefly outlined Hungary's macroeconomic turbulence in terms of low growth, high government spending and pretty high unemployment rate. Hungary's economy is facing significant macroeconomic problems. In third quarter of the year, Hungary's output grew by as little as one percent (link). In addition, fiscal issues accelerated the fragility of macroeconomic stability.

Tax reform: evidence from Sweden and Iceland

From previous decade onwards, tax reforms have become the guideline of macroeconomic policy. Significant tax cuts on labor supply, entrepreneurship and savings boosted the competitiveness and growth performance in those countries that implemented rigorous economic reforms. In Iceland, the combination of the lower government spending and tax cuts on personal and corporate income generated the Laffer Curve effect, when tax revenues were higher (in the share of the GDP) while tax rate on corporate income was lower (link). Sweden imposed substantial marginal tax cuts and tax revenues grew substantially in the share of the GDP (link).

Don't expect significant Laffer Curve effect in case if public spending is not reduced substantially

As a successful "case-study" of macroeconomic and microeconomic transformation into a market economy, Hungary (link) welcomed foreign investment by slashing the corporate tax rate to the lowest level in Europe, after Ireland and Cyprus. However, Hungary's policymakers decided to build a model of economic policy based on high government spending (link) and resumed budget deficit. The main source of the issue is not budget deficit itself, but the size of government spending in the share of the GDP. Including transfer payments and consumption, Hungary's government spending is extremely high. In recent year it equaled 49,5 percent of the GDP.

High marginal tax rates lead to tax evasion and underground economy

Hoping to restore revenue increases after imposing tax cuts on productive activity in the absence of lower government spending is hopeless nevertheless. Discretionary fiscal policy, high marginal and overall tax rates and highly volatile public finance besides high public expenditures are the main reasons why tax evasion occurs. Tax evasion is nothing else but the consequence of the fact that investors and individuals perceive the opportunity cost of high tax rates as significant. The usual effect of high and marginally progressive tax rates is that tax evasion accelerates the establishment of informal sector known as grey or underground economy. In Hungary, grey economy equals an estimated 17-18 percent of the GDP (link).

Hungary in regional competition

Slovakia (link), Hungary's neighbor went through a period of pro-growth economic and tax reforms. Tax rate on personal and corporate was slashed to flat 19 percent and government spending, including consumption and transfer payments, was reduced substantially. As a result, Slovakia became the Monaco on Danube, a high-growing Eastern European economy known as investment haven. A significant number of international companies such as Peugeot, Citroen and Volkswagen set their production establishments in Slovakia. Also, Slovakia's economy experienced a robust, non-inflationary output growth while Slovakia's macroeconomic institutions streamlined competitive, non-discretionary and stable macroeconomic policy based on expenditure cuts and growth agenda. Hungary has been losing its investment potential subject to abovementioned reasons. Recently, two companies - Audi AG and Servier - have taken alternative consideration of their operations location because of Hungary's statist tax system (link) and discretionary macroeconomic policy.

Reform or die slowly

In 2007, Hungary imposed the 3rd highest tax hike on labor supply in OECD. This could be a substantial incentive for tax evasion. Consequently, productivity growth would definitely stagnate. Timid initiatives to impose tax reform are completely useless unless government spending is cut radically. As a consequence, there would be much less pressure on budget deficit which is estimated to drop from 9,2 percent of the GDP to 4 percent of the GDP. However, deficit is often the wrong number. Also, social security contributions present a persistent barrier to employment and job growth. Long and generous unemployment periods do not create a job-seeking. Nonetheless, the combination of high unemployment and low growth is a deadly situation where the risk of stagnation is huge in case if substantial pro-growth reforms are not implemented. As an economy in transition, Hungary's macroeconomic policy will have to cut spending radically or it will quickly become the France of Eastern Europe (link).

Rok SPRUK is an economist.

Copyright 2008 by Rok SPRUK

Monday, February 11, 2008


In previous days, there has been much less blogging on my blog due to study course and a growing list of obligations regarding studying and reading the required material. In Friday, there will be more blogging as I've already picked the selected writing and analytical topics. Here is what I read in these days:

Paul A. Samuelson, William D. Nordhaus: Economics, 16th edition,
Douglas G. Baird, Robert H. Gertner, Randal C. Picker: Game Theory and the Law,
Gordon Tullock: The Rent-Seeking Society
Gordon Tullock: Virginia Political Economy,
Gordon Tullock: Bureaucracy,
Gordon Tullock: The Calculus of Consent,
Ludwig von Mises: Human Action,
Richard Posner: Economic Analysis of Law

Tuesday, February 05, 2008


The U.K. Daily Telegraph reports on the persistent sentiments to limit and ration the access to health-care services for older people and individuals with different lifestyles. As Investor Business Daily succinctly commented, the denial of health-care services is more probable when government is in charge of it. In fact, government monopoly on health-care might explain some reasons for obesity and other particular man-made diseases simply because the individuals do not, in this case, bear full costs of reckless behavior and instead rely on government support.


As a response to subprime mortgage crisis, German government suggested further unilateral tightening of bank regulation as a step to prevent future risk volatility caused by external shocks such as recent subprime mortgage crisis (link).


The Economist Intelligence Unit has just published a brief article, outlining recent slewing of rules, some rigidity and entry barriers to foreign direct investment in certain sectors of the economy in India (link).