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Examples of Public Expenditure Cuts
and Rationale for Savings – Case of
Estonia
Jürgen Ligi
Minister
Structure of the Presentation
I.
Principles of economic policies
II.
Consolidation effort 2008+
III. Conclusions: policy implications,
political economy lessons
I. Principles of economic policies
Hypothesis:
Natural emphasis on long-term supply side policies has
minimized sizable governmental intervention in the demand
side, including fiscal
Key Indicators
• Population:
• Area:
• GDP
• GDP per capita:
• GDP vs EU-27(PPS):
• Average monthly wage
• CPI
•Total government expenditures
• 1.34 million
• 45 226 km²
• 14,5 bln EUR
• 10821 EUR
• 64%
• 784 EUR
• 3,0%
• 42% of GDP
1. Culture of prudence – enables to
switch on the autopilot
• Small and efficient government sector
• Early, rapid and extensive privatization,
mostly to strategic investors
• Relatively low level of corruption (26th in
Transparency International CPI in 2010)
• Stakeholder accountability (by state, by taxpayer, as a member of eurozone, NATO)
2. Robust and simple monetary and fiscal framework –
stability as a merit and trust builder
• Currency board-backed fixed exchange rate
1992-2011; euro 2011+
• Sound fiscal management since transition natural preference of conservative fiscal
policy
• Mid-term budgetary objective “balanced or in
surplus” well rooted informally for a long
time. New MTO – structural surplus
Estonia` s budget fairly balanced over
the last decade. Surplus restored in 2013
Very low debt enables to keep the tax
burden relatively light to back economic
growth
Public debt 2001 and 2011 (% of GDP)
90
80
70
60
50
2001
40
2011
30
20
10
0
EU (27)
EE
SK
3. Simple and transparent tax system
• Income tax has one bracket and one rate for households and
distributed corporate earnings alike
• Most of the goods and services are subject to a single VAT rate
with only a very few items taxed at a lower rate
• Relatively low level of capital taxation
• Baseline: no punishment on success - business stimulates the
economy, generating sufficient resources also for social safety nets
• Relatively low tax burden
4. Pension and health care systems reformed
at an early stage - low risk compared to EU in
terms of sustainability
• Fundamental change of public expectations on the role
of state and of state budget
• Reforms have put a ceiling on the future liabilities of
the state
• II pension pillar introduced in 2002
• State Health Insurance Fund established in 2001,
buying health services from service providers (general
practitioners and hospitals)
• Estonia’s long term fiscal sustainability is the best in the
EU. However, it is likely that future reforms are needed
5. Open and business-friendly trade, investment and
labor policies
• Continually substantial flows of FDI
(cumulatively ca 76% of GDP as of end-2010)
• Quick and easy business establishment and
registration
• Strong and competitive telecommunications
and banking sector, integrated with
Scandinavian and European markets
• Flexible labour market – easy hiring and firing,
low level of wage indexation, low degree of
unionization
Labour market has served as a good substitute for the exchange
rate channel, allowing the economy to cope well in recession
.
Source: Estonian Tax and Customs Board, Statistics Estonia
II. Consolidation Effort 2008+
Although rough times of consolidation are behind, the
mentality of saving lasts - majority of measures are
long-term; operational expenditures freezed
Improvement of the budget position 2008-2010
18
16
14
12
10
8
6
4
2
0
2008
2009
2010
Cumulative 20082010
Scale of the improvement of budget position (% of GDP)
Principles of Fiscal Adjustments 2008+
• Count on the internal adjustment of the
economy and buffers collected pre-crisis
• Euro - better confidence builder than fiscal
loosening
• Co-financing of EU structural funds
protected
Decisiveness of the government to
consolidate did not lag behind fall of GDP
Consolidation at Glance
• Cumulative tightening in 2008-2010 amounted
to ca 16% of GDP in nominal terms, compared
to the baseline
• 2/3 of measures on the expenditures side
• 1/3 of measures on the revenues side
• Ca 70 % long-term measures
• Ca 30 % one-offs (incl. 1+ years)
Cuts covered most of the agents. Some examples:
• Cut of operational expenditures of the public sector (20%
compared to pre-crisis level)
• Lower increase of pensions from 2009 onwards (5% increase in
2009 instead of ca 14%, no increase in 2010 and 2011)
• Major cuts of road maintenance, local gov. funding, defence budget
• Reform of the compensation scheme for sick days and reduction of
health insurance costs by 8%
• Suspending govt. co-payments to the II pillar pension funds for
2009 and 2010, gradual resumption of payments thereafter
• Borrowing of local government curbed by a law (2009-2010) –
same measure for public foundations
• Etc
• Changes in employment contract act and related acts:
marked increase in market flexibility
Operating expenditures have fallen
remarkably and are freezed below precrisis level
18
25
22,3
17,1
16
20
14
15
10,1
12
10
6,27
10
4,88
5,48
8
5,05
5
4,78
-4,0
4,66
6
-14,3
4
-5
-1,9
-10
2
0
0
-15
6,60
8,30
9,87
8,94
8,50
8,25
2006
2007
2008
2009
2010*
2011**
staff costs
management costs
change in operating costs (%)
* available resources (budget, with funds transferred from the previous year)
** state budget
-20
The slowdown of the economy
counterbalanced the effect of the
indirect tax rises on prices
•
•
•
•
Rise of unemployment insurance tax
Rise of alcohol, fuel and tobacco excise
Rise of VAT from 18% to 20%
Dividends from the state owned
companies
• Sale of land
• Temporary stop of the step-by-step
lowering of the income tax rate
The euro objective made it easier to
consolidate, but was no way the cause
for action
• New law on strict financial management and control for LG-s since
2011
• In order to counterbalance the suspension of the II pillar pension
system the contributions would be higher 2014-2017
• Health expenditures - efficiency gains planned by fine-tuning the
hospital network and putting emphasize on prevention
• Retirement age increased gradually
Estonia is now in a completely different fiscal position as
most other developed nations
Summary of consolidation 2008+
• Pre-crisis fiscal management allowed for automatic
stabilizers to play their cushioning role
• Deficit 2.8% of GDP in 2008 (3% surplus in 2007)
• No need to borrow, as financial assets at 10% of GDP
• Credibility of state finances and fiscal position within the
Maastricht limits ensured
• Deficit 1,7% of GDP in 2009
• Lower spending, structural measures, revenue increases
(sales, dividends, tax) and temporary measures
Summary 2008+: real economy
• Flexible labour markets and transparent business environment
facilitated rapid adjustment on company level
• Nominal average wage decline 7% by end-2009, 15% in the
public administration
• Increased flexibility of labour legislation, active labour market
policies
• Strong banking system
• Capital and liquidity management in regional groups
• High domestic buffers – Tier 1 capital 15%, required reserve
ratio 15%
• Not a single cent of taxpayer money spent to prop up banks
III. Conclusions: policy implications
and political economy lessons
Policy implications
•
Consolidation pays off even in a relatively short term, at least in
a small, open and flexible economy
•
Buffers give a breathing space when it is most needed and the
market conditions for lending are in the heights
•
Timing is crucial - never put off fiscal consolidation until
tomorrow
•
Balanced approach in terms of sectors, and positioning of public
administration as a frontrunner helps to legitimate the decisions
•
Fundamentals need to be in place:
•
strong public and private balance sheets
•
general culture of flexible markets and readiness to
adjust
Political economy lessons for the
eurozone
• Member States have to be ready for internal
adjustments - need a change in mentality
• EU policy coordination frameworks are growthenhancing and consolidation-fostering, if
rigorously implemented:
• Reformed SGP and new Excessive
Imbalances Procedure
• financial market integration
• structural reforms agenda (EU2020)
Thank you!