Wednesday, September 30, 2009


Gary Becker (link) and Richard Posner (link) opened a discussion on how unions influence policymaking decision. Recently, president Obama imposed punitive 35 percent tariff rate on imported Chinese tire (link) risking the coming trade war. Indeed, China may file a case against the U.S at the WTO, and the WTO may rule against the U.S for imposing illegal and discriminatory trade practices.

Many believe that president Obama enforced trade protection to win the support of the unions in health care reform. In fact, the bailout of GM and Chrysler was one of the major efforts to help unions, particularly the United Auto Workers, in paying the health-care and pension benefits that GM and Chrysler couldn't actually afford to pay.

Recently, the Congress has been split up on Employee Free Choice Act which suggests giving mandate to unions representing employee in arbitrating union-management contracts. I believe the Congresional Budget Office will yield a meaningful research on the economic effects of the act.

The empirical evidence on union activity is, in fact, quite clear. In OECD comparison panel (link), there is a strong, negative and significant relationship between the density of union membership and labor market rigidity. Sweden, for example, hasn't enforced a general level of minimum wages. Yet in 2007, over 7o percent of the working population was unionized. High union density further contributed to inflexible labor market structure which led to low employment growth, low productivity growth and exerted a strong upward pressure on real labor cost.

Yet, there is a distinctive character of trade unions within Europe. Traditionally, unions in Europe possessed a stronger influence on political decision in areas such as taxation, income redistribution and government size. However, there are significant disparities in union activity throughout Europe. In 1990s, Denmark enforced a series of reforms that deregulated labor market structure towards greater flexibility. Today, Denmark's labor market is cited as the most competitive in the world (link). From 1990 to 2007, union density decreased from 75.3 percent to 69.1 percent. On the other side, labor market structures in Continental and Mediterranean Europe are known for inflexible features, regulation and rigidity. Meanwhile, Anglo-Saxon countries, Britain and Ireland, are known for flexible labor markets and few barriers impeding labor market performance. Dismissing and employee costs 10 weekly salaries in Ireland compared to 56 weekly salaries in Spain.

Although variation in trade union density over time explains a relatively large part of variation in productivity, union activity and influence in political decision-making could be the decisive factor in explaining cross-country variation in labor market outcome. That would requiring the design of principal indicator that could measure union influence on the quantitive basis. The influence of trade unions has, in my opinion, a strong common connection to cultural patterns and informal institutions.

For instance, countries with weak rule of law, persistent corruption, high tax burden and barriers to trade and investment, tend to have larger underground economies. Empirical estimates on the size of underground economies suggest that, in Europe (link), Mediterranean countries (Italy, Spain, Greece, Portugal) have the largest share of shadow economies. There is a significant cross-country variation. The estimates of shadow economies for 28 transition countries is 40.1 percent and 16.3 percent for the OECD. So, could union activity affect the size of shadow economies

If unions, as an interest group, exert a strong influence in politics, their political philosophy will probably lean left. Thus, if unions influence decisions on taxation issues, welfare benefits, pension schemes and government size, the outcome will probably induce more complexity, more regulation and more barriers to trade, entrepreneurship and investment. The combination of those factors can strongly influence labor and business incentives and, hence, also determine and productivity growth.

Saturday, September 26, 2009


In the recent edition of WSJ, Arthur Laffer highlighted (link) how mismanaged fiscal policy during Hoover and Roosevelt administration led and prolonged the Great depression, and how contractionary monetary policy let it happen.

Thursday, September 24, 2009


Recently released data from OECD Economic Outlook (link) suggest that the recessionary period is likely ending as the output in world's major economies is reversing the trend of the past year. In 2009, the U.S economy is expected to contract by 2.8 percent annually. Germany, suffering from a significant decline in inventory orders and foreign demand, is set to contract by 6.1 percent and Japanese economy is likely to decline by 6.8 percent. The end of the global recession will be continued by a slow recovery as the economic growth in the OECD economies is most likely to reach 0.7 percent in 2010 after a 4.1 percent decline in 2009.

Besides Israel and Estonia, Slovenia is the next country to join the OECD. The macroeconomic outlook for Slovenia, unfortunately, remains sluggish. In Q2:2009, Slovenian economy contracted significantly. The output decreased by 9.3 percent. In Q1:2009, the economic activity decreased by 9.However, the data on GDP decline is too optimistic compared to the real sector. According to the latest availible data, the industrial production in April contracted by 28.26 percent, followed by double-digit consecutive declines each month. Investment, which in 2008 accounted for 28.9 percent of the GDP declined significantly. In Q1:09, the business investment contracted by 32.3 percent.

The pre-crisis boom in business investment was surged by quantitative easing and low interest rate which contributed to historic highs of credit stock. In addition to deteriorating macroeconomic outlook, the export of goods and services, which once used to be the core engine of Slovenia's economic growth, contracted by 21.1 percent in the Q1:2009. Thus, during 2008, the economic activity experienced unusually high rates of economic growth spurred by investment, foreign demand and historically high consumption spending. Throughout 2008, the economy was starting to exhibit strong signals of overheating.

By the beginning of the crisis, the economic policy pursued a radical debt-driven infusions of liquidity in the banking and bailouts to the real sector. Consequently, the state of public finance changed dramatically. For decades, Slovenia maintained on of the lowest public debt/GDP ratios in Europe. As a fiscal measure, low public debt had been of the merits that enabled the fulfillment of convergence criteria before entering the EMU.

As a result of government intervention, debt guarantees and surging public spending, the public debt is likely to soar from 21.5 percent of the GDP in 2008 to 32.6 percent of the GDP in 2009. The public debt is expected to rise further. If the current trend continues, the public debt is estimated to soar up to 53.7 percent by 2013 (link).

The black line and the left axis on the graph show general government balance while the left axis and yellow bar show public debt. Both categories are expressed in percent of the GDP.

Public debt and general government balance as a percent of the GDP (2004-2013)

Source: Ministry of Finance (link)

As we can see, the primary budget deficit will move from -0.27 percent of the GDP in 2008 to 6.58 percent of the GDP in 2009. By 2013, the deficit is estimated to move to -7.4 percent of the GDP. Compared to small and open economies, Slovenia's primary budget deficit is higher than in most small and open economies. It is, for instance, higher than in Denmark, Greece, Austria, Czech Republic, Finland, Luxembourg, Netherlands, New Zealand, Slovakia, Sweden, Switzerland and Norway. As far as I know, Norway is the only developed country without budget deficit in the near future (According to the OECD and Norges Bank, Norway will post 8.6 percent budget surplus in 2009, down from 18.8 percent in 2008. In 2010, the budget surplus will likely increased by 0.4 percentage point).

The government intervention in the real sector further regulated the labor market by introducing subsidies to employers to retain the employees and discourage layoffs to prevent the rise in unemployment. However, recent data suggested that public sector employment grew significantly while private sector employment declined respectively. In Q2:09, private sector employment decreased by 9.3 percent. Public sector employment, on the other hand, increased by 1.4 percent on the annual basis.

For at least two decades of transition, Slovenia's gradualist economic policy favored rigid and inflexible labor market embodied in collective bargaining, high tax rates on labor supply and barriers to entry. The economic policymakers created discriminatory labor market structure which still discourages young graduates from entering the labor market after graduation. Consequently, unit labor costs are among the highest in the EU. Recently, The Economist snapped a nice chart, showing that tax burden on labor supply in Slovenia is the highest in the world (link). In combination with ageing population and of the youngest retirement generations in the world, the abovementioned labor market dualism further encouraged policymakers to raise health and social security contribution rates. It lead to one of the lowest growth rates of private sector employment in the EU. It further lead to the highest tax wedge in the EU and the unusually high growth of unit labor cost relative to productivity growth. In addition, strongly regulated labor market is the major cause of Slovenia's low productivity convergence relative to the EU15. The majority of central European and Baltic countries have been lowering the productivity gap behind the Euroarea much faster than Slovenia.

In 2009, Slovenia reach 90 percent level of EU27's GDP per capita. Compared to the Euroarea, Slovenia reached 83 percent level of the GDP per capita. Compared to EU15, which is a reasonable measure of comparison, Slovenia reached 81.7 percent level of GDP per capita. Compared to Switzerland, Slovenia sustains only 64 percent level of Swiss GDP per capita (link). Interestingly, if Slovenia were a part of the U.S, its GDP per capita would be at the 54 percent of the U.S level, even lower than in Mississippi and West Virginia - the least developed states in the U.S.

Although Slovenia is often cheered as being the "Switzerland of the East" and the most developed former communist country, its economy will likely resemble slow growth in Italy, Germany and France rather than dynamic growth in Singapore, Hong Kong, Australia and Switzerland. Current economic policies are the recipe for eurosclerosis, experienced by pre-Thatcher Britain. If such pattern of economic policy will continue, the Slovenian economy will, sooner or later, exhibit economic stagnation with low economic growth, onerous tax burden, high structural unemployment and rapidly ageing population.

Sunday, September 20, 2009


The World Bank has recently released the latest Doing Business 2010 report, measuring the level of business and economic regulation around the world. In spite of the financial crisis and the global recession, Singapore, New Zealand, Hong Kong and the United States retained the leadership as the most friendly locations for doing business. Notably, some countries have achieved high ranks. For example, Saudi Arabia moved to 13th placed and Georgia, once the bastion of Soviet-style state capitalism, now ranks as 11th most friendly place for doing business with open investment environment and low regulatory barriers to trade, entrepreneurship and investment. Countries such as Georgia, Thailand and Saudi Arabia have surpassed countries such as Sweden, Finland and Iceland although there is a notable difference in international comparison of those countries when it comes to the issues of the rule of law, property rights and institutionaly quality.

Douglass North, the 1993 Nobel-winning economist once famously wrote the essence of institutionaly quality for economic development. He said that the inability of societies to develop effective low-cost institutions is the major reason of today's contemporary underdevelopment of the third world. In terms of the ease of contract enforcement, 3 out of top 10 countries are Iceland, Finland and Norway where institutional quality and the rule of law are on the high level by all international indices and comparison.

In recent decade, embracing free-market ideas has had a significantly positive impact on the institutional quality, regulatory barriers and the overall quality of business environment - all of which affect the size of transaction cost and, by empirical evidence, the standard of living and the wealth of nations. Global economic integration further induced institutional competition in terms of tax structure, regulatory environment, administrative barriers and labor market structures. Thus, when countries such as Georgia, FYR Macedonia, Moldova, Liberia and United Arab Emirates, enacted the liberalization of the business environment, the results were significant ever after. The World Bank also published the list of top 10 reforms in 2010 among which are Rwanda, Kyrgyz Republic, FYR Macedonia, Egypt, Moldova, Belarus, Columbia, United Arab Emirates, Tajikistan and Liberia (link).

The efforts to deregulate and liberalize business environment worldwide, will have a strong impact on high-income countries to remove the existing barriers to trade and investment such as high tax burden, rigid labor market structure and government size relative to private sector. 2008/2009 financial crisis and the growing role of government in the economy will probably deteriorate the country ranking in the next year. However, the leadership in the quality of business and regulatory environment will depend on further liberalization of the business environment, particulary the labor market, which is a major backbone of high-income countries where union density and regulated labor markets are widespread.

If countries such as Italy, France, Germany and the rest of the developed world will hesitate in reforming the remaining barriers to trade, more direct investment flows will move to high-growing emerging markets where macroeconomic stabilization is proceeding and where policymakers impose reforms faster then their peers in the developed world.

If such trend continues, emerging markets will soon reap the benefits and could become the leaders in reforming the business environment, attracting direct investment and, by and large, in economic growth and catch-up with the rest of the world.

Tuesday, September 15, 2009


Words of wisdom from Gary Becker (link) on the prospects of recovery, unemployment figures and productivity outlook.

Saturday, September 05, 2009


The OECD has released The Economic Survey of Iceland 2009 (link), discussing the origins of the banking crisis that eventually led to the collapse of the country's oversized banking sector relative to its GDP and the prospects of fiscal and monetary policy in the aftermath of the financial crisis and the recession.

Wednesday, September 02, 2009


Here's a short brief (link) by The Economist on effective tax rates around the world. At a stunning 55 percent effective tax rate on annual gross earning of $100,000, Slovenia is the most heavily taxed country on earth followed by India, Italy, Sweden and Argentina.

Source: The Economist (link)