Ivan Miklos, President of MESA10, about economy of Ukraine in KyivPost, November 28, 2014

Slovak economist criticizes Ukraine’s bloated public expenditures, corrupt taxation

KyivPost, November 28, 2014, 10:45 a.m. | Business — by Ivan Verstyuk

Ivan Miklos, a member of Slovak parliament and country’s former deputy prime minister, came to Kyiv for the third time this year to eyewitness the economic crisis in the 45-million nation and brainstorm on ways to resolve it. Foto: Volodymyr Petrov

Ivan Miklos, a 54-year-old Slovak economist, calls himself “an architect of Slovakia’s reforms” that made the 5.4-million strong nation the world’s largest car producer per capita, while back in 1989 it wasn’t making any. He says Ukraine should go the same direction – become friendlier to foreign investors and benefit from the taxes they pay.

That’s how Slovakia became a country with fivefold higher gross domestic product per capita compared to Ukraine. Almost all local banks are foreign-owned, while global automakers Hyundai Kia, Peugeot Citroen, and Volkswagen brought better-paying jobs to the Central European country, tells Miklos, who is currently a member of parliament in Bratislava from the Slovak Democratic and Christian Union, a minority party that has seen better times.

Serving as Slovak deputy prime minister in charge of finance in 1998-2006 and 2010-2012, Miklos was among those who pushed forward a major tax reform in 2005-2006 that introduced a 19-percent flat tax rate for businesses and individuals.

Previously, Slovakia’s value added tax was 14-20 percent, while corporate income tax stood at 25 percent and personal income tax was as high as 38 percent for some income brackets. “Increasing taxes to cut the fiscal deficit is not a good way for you either,” he said in an interview with the Kyiv Post. “You should rather cut the special rates and all the exclusions to broaden your tax base.”

Miklos follows the events in Ukraine closely and visited Kyiv for the third time this year. He expects the country’s fiscal deficit to reach 12 percent of GDP by the year’s end, while the manageable deficit rate is considered to be 3 percent. However, the Ukrainian government doesn’t know the real deficit, he says. “Unless you use strict and transparent methodology, like those used in the European Union, you don’t know it,” the economist explains.

“We introduced the ESA95 (harmonized European methodology for assessing the state of public finance) in 2003 and when we recalculated our budget, we found that our deficit was much higher,” Miklos says. “The 2002 deficit figure in the official statistical yearbook was 3.4 percent, but when we recalculated according to this strict methodology it was 12.3 percent.”

Cutting public expenditures is critical for creating a state budget with smaller deficit. Ukraine spends as much as 53 percent of GDP to pay salaries to the employees of government agencies and state-owned businesses as well as on various social programs, including energy subsidies. Meanwhile, Slovakia’s public spending doesn’t exceed 41 percent of what the economy produces annually.

“You have huge overemployment in the public sector, and these are all poorly paid people,” comments Miklos. “Cancel many institutions, reduce the number of employed and use the money saved on raising the salaries of those who keep their jobs. Otherwise, you won’t have an effective public administration.”

Ukraine’s public pension expenditures is 18 percent of GDP, which is too high, while monthly pension payments are way below the living standard. Miklos thinks Ukraine should raise the pension age that now stands at 55-60, while in Greece, the subject of a global bail-out program, it is 67. Moreover, instead of having only a state-run pension fund country should popularize private pension funds that would allow people to save as much as they want for life after the retirement. In developed economies, pension funds are a major source of long-term investments into various securities, which drives economic growth.

Miklos, who led Slovakia’s privatization program in 1991-1992, adds that Ukraine shouldn’t hesitate with selling the rest of the business assets belonging to the state, like the banking mammoth Oshchadbank and railway monopolist Ukrzaliznytsya.

He referred to Latvia’s economic policy in 2008-2009, when the Kyiv Post asked him to suggest measures that could be applied to stop people’s panic, which has contributed to the almost 50-percent hryvnia depreciation this year.

“Latvia applied very severe measures, much more severe than the recommendations of the International Monetary Fund,” he explains. “The Latvian economy collapsed then and the IMF suggested to devalue the currency to achieve macroeconomic balance.”

Instead, Latvia reduced the public salaries by 25 percent, shut down 30 percent of state agencies and achieved the desired balance, though the rate of the Latvian currency against the euro stayed the same.

The Cabinet that did these reforms was reelected. Once the government puts enough effort into explaining the unpopular changes that improve the economic situation, it may secure itself from populists, who don’t care about the economy but criticize their opponents in order to get more political power, admits Miklos, who studied the art of money-making in Bratislava’s College of Economics and London School of Economics.

Kyiv Post associate business editor Ivan Verstyuk can be reached at verstyuk@kyivpost.com