Post-War Ukraine Will Need Economic Liberty, not Foreign Aid

I first started complaining about bad economic policy in Ukraine nearly 10 years ago.

But since I routinely criticize bad policy around the world, that was not special (and since politicians at home and abroad generally ignore my advice, it also was not effective).

However, a silver lining to the dark cloud of Putin’s invasion is that there is now a lot of serious discussion of how Ukraine can prosper once the war is over.

I wrote last year that Ukraine could simply adopt the best policies of other European nations, an approach that overnight would give Ukraine one of the world’s freest economies.

Sadly, not everyone agrees. The Washington Post editorialized on this topic and wrote that Ukraine needed massive government-to-government transfers.

Planning for Ukraine’s reconstruction needs to start now… But the staggering sums required to do the job are beyond what is financially, logistically and politically feasible for the foreseeable future. …Ukraine is already struggling to pay its short-term bills. As the conference on Ukraine convened, aid packages to help stabilize Kyiv’s finances — including paying government and military salaries — were announced by the European Union, the United States, Britain and others. …The West hopes much of the eventual rebuilding cost will be borne by private companies hoping for profits. Yet there is little chance of that without an international effort to provide insurance against the ongoing risk of future Russian missile strikes that could lay waste to half-finished factories and office buildings.

The editorial makes a few good points, including whether private investment would materialize if there was an ongoing threat of war. The piece also speculated about whether frozen Russian assets could be used for rebuilding.

Those reasonable points, however, are offset by a mistaken assumption that foreign aid is the key.

In reality, foreign aid has a terrible track record. It largely subsidizes bigger government and enables dirigiste policy. And it makes corruption far more likely.

Instead of asking if there is enough money to rebuild Ukraine, the editorial should have asked if there’s enough freedom (being a thoughtful guy, I even created a more accurate title).

I’m not the only one thinking more economic liberty is the real solution.

Here are some excerpts from a column by Rainer Zitelmann, which was published by the Foundation for Economic Education.

…libertarian think tanks and politicians are already making plans for the period after the war. …Maryan Zablotskyy, a Member of the Ukrainian Parliament and of Ukrainian president Volodymyr Zelenskyy’s ruling party. …Income tax in Ukraine, Zablotskyy said, was recently lowered to two percent, and numerous regulations and tariffs have been abolished. …It is beyond extraordinary for a country to cut taxes and abolish regulations while it is at war. Normally, in wartime, governments massively increase taxes and expand their reach. …The goal, Zablotskyy says, is to ensure that these economic reforms, which were adopted as temporary measures, remain in place after the war. …Everyone agrees that there is an urgent need for reform, especially as so many of the regulations in force in Ukraine date back to the Soviet era of the 1970s. …it is not a Marshall Plan that will help Ukraine, but only market-economy reforms.

Amen. The Marshall Plan to aid Europe after World War II. was largely ineffective. Or even harmful. We should not repeat that mistake in Ukraine.

As shown by Germany’s post-war economic miracle, free markets are the answer. The difference between West Germany and East Germany tells us everything we need to know.

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The Correct Way to Rebuild Ukraine

Even though foreign aid is not an effective way of promoting prosperity, Ukraine’s government almost surely will be showered with money when the war is over.

To make these handouts helpful rather than harmful, aid should be conditional.

These remarks are from the Q&A section of a panel discussion in London, hosted last month by the Ayn Rand Centre, as part of the Free Market Road Show.

I was giving a spur-of-the-moment response to a question, so I want to take this opportunity to augment my answer with some hard data.

Let’s assume that American politicians do the right thing (yes, I realize that’s unrealistic) and they tell Ukraine’s politicians after the war that they can have billions of dollars to rebuild their economy, but only if they get rid of the statist policies that have been holding back the nation’s development ever since the collapse of the Soviet Empire.

As I noted in the video, this doesn’t have to be complicated. Ukraine can simply copy some of the better laws that exist in other nations.

And to make it very simple, we can even tell them they can choose from the policies of nations that are part of the European Union, which is an entity that Ukraine almost surely will want to join.

If we insist on that requirement, Ukraine instantly would become the world’s 3rd-freest country.

All of this is based on data from the Fraser Institute’s Economic Freedom of the World (by the way, apologies for mistakenly stating in the video that Ukraine was ranked #122).

P.S. Some policies are easier to copy than others. Simply copying Danish laws on property rights, for instance, would not automatically create the Danish political culture that makes corruption so rare. That being said, shrinking the size and scope of Ukraine’s government will dramatically reduce opportunities for corruption.

P.P.S. Regular readers won’t be surprised to see that Denmark leads in two of the five categories.

P.P.P.S. When Putin is finally forced from power, everything I wrote above also will apply to Russia.

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Russia’s Oppressive Economic Policy

Since I wrote yesterday about Ukraine’s terrible economic policy, fairness requires that I make the same points about Russia’s similarly dirigiste system.

We’ll start with Russia’s scores from the latest edition of Economic Freedom of the World.

Not exactly a good set of numbers, particularly with regards to “size of government.” And it’s safe to assume that Russia’s overall score will decline when a new version is released later this year.

But I want to make the point that Russia faced serious economic problems well before Putin decided to invade Ukraine.

Indeed, he may have attacked in part to distract from Russia’s ongoing economic problems.

To some degree, this is a story of weak demographics, as I observed last month.

But Putin is making a bad situation worse.

Consider what George Will wrote for the Washington Post back in 2020.

n Putin’s ramshackle Russia…as recently as 2018, almost a third of medical facilities lacked running water, 40 percent lacked central heating and more than half lacked hot water. …in Catherine Belton’s exhaustive new book…, “Putin’s People: How the KGB Took Back Russia and Then Took On the West…” says that “by 2012 more than 50 percent of Russia’s [gross domestic product] was under the direct control of the state and businessmen closely linked the Putin.” …state-directed capital allocation actually is crony socialism.

It’s sometimes not easy to measure crony socialism (which technically should be called fascism), but even the International Monetary Fund recognizes its downsides.

Here’s some research from the IMF, authored by Gabriel Di Bella, Oksana Dynnikova, and Slavi Slavov.

The size of the Russian State…economic footprint remains significant. Concretely, the state’s size increased from about 32 percent of GDP in 2012 to 33 percent in 2016, not far from the EBRD’s estimate of 35 percent for 2005-10. …a deep state footprint is reflected in a relatively high state share in formal sector activity (close to 40 percent) and formal sector employment (about 50 percent). The deep footprint is also reflected in market competition and efficiency. Although sectors in which the state is present are more concentrated, concentration is large even in sectors where the state’s share is low. …Finally, state-owned enterprises’ performance appears weaker than that of privately-owned firms, which may be subtracting from growth.

Last December, Jarret Decker analyzed Russia’s state-controlled economy in an article for Reason.

There’s a thorough discussion of how the oligarchs gained control of key sectors of the economy, as well as this discussion of other policy mistakes.

The 1990s in Russia and throughout most of the former Soviet Union were a time of dizzying change… As price controls were lifted and the money supply increased, inflation exploded. In 1992, Russian inflation was about 2,000 percent, with another 1,000 percent inflation the following year. Life savings disappeared almost overnight. …plummeting social indicators were all tied to the disastrous performance of the Russian economy, a chaotic mix of large enterprises still under state control, a central government heavily in debt…the “crown jewels” of the former Soviet economy—in sectors such as oil and gas, mining, and steel production—remained under state control. …in GDP per capita, Russia has fallen far behind its fellow former Soviet republics in the Baltic region, with output per person about half of Estonia’s and about 40 percent less than Lithuania’s and Latvia’s. Not coincidentally, the Baltic countries all rank in the top 30 in the world in the Heritage Foundation’s 2021 Index of Economic Freedom.

I’ll wrap up with a story that is particularly disappointing to me.

One of the few good policies Putin implemented was a flat tax.

But rather than build on that successful reform, he decided to reverse it and adopt a system with discriminatory rates. Here are some excerpts from a 2020 report in the Moscow Times.

Russian President Vladimir Putin on Monday signed a law on increasing income tax for high earners in the first move away from a flat tax system in place since 2001. Starting next year, the tax rate will rise from 13% to 15% on incomes over 5 million rubles (about $65,800/55,370 euros at the current exchange rate). …The reform is expected to give state coffers an additional 60 billion rubles, the president said… The current flat tax system was introduced in 2001 and was among the key reforms of Putin’s first presidential term.

The bottom line is that the yoke of communism has been removed but statism remains.

Which explains why Russia is not converging with the United States, as theory would predict. Here is a chart based on the Maddison database.

This is quite depressing, especially if the economy’s poor performance gave Putin an extra incentive to “wag the dog” with military aggression.

But let’s end on an optimistic note. It’s possible that Putin has miscalculated and his attack on Ukraine eventually will result in his ouster.

The best-case scenario is that he gets replaced with a free-market reformer. The Russian version of Mart Laar, perhaps. Then Russia could become a success story, which is exactly what we’ve seen in the Baltic nations.

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Can Economic Aid Help Ukraine?

Regarding Russia’s reprehensible attack on Ukraine, I’ve written three columns.

• Russian oligarchs don’t deserve much sympathy because they got their riches through cronyism rather than capitalism.
• Western nations should weaken Putin by opening their doors to young and educated Russians who wish to emigrate.
• Russia is being hit by sanctions because of the long-standing recognition that trade restrictions weaken a country’s economy.

Today, let’s address the topic of foreign aid for Ukraine, specifically whether American taxpayers should help restore that country’s economy once the conflict ends.

I’ll start by recycling an observation I made back in 2014, which is that Ukraine has been an economic laggard because of statist economic policies.

More specifically, I compared Poland (which has engaged in substantial liberalization) and Ukraine (which has not) and showed a growing gap between the two nations (another case study for the anti-convergence club).

Now let’s look at some updated data from the latest edition of Economic Freedom of the World.

As you can see, Ukraine is a cesspool of statism, ranking a miserable #129 out of 165 jurisdictions.

That’s lower than Russia, which is #100.

And the same is true if you look at the latest edition of the Index of Economic Freedom, which ranks Ukraine #130 and Russia #113.

At the risk of stating the obvious, giving economic aid to Ukraine would be flushing money down the toilet.

Unless, of course, western nations such as the United States somehow made aid contingent on sweeping economic liberalization.

We know what works. Don Boudreaux, Deirdre McCloskey, and Dan Hannan have all explained how Western Europe and North America became rich in the 1800s and early 1900s with the tried-and-true approach of free markets and limited government.

Even a curmudgeonly libertarian like me would relax my long-standing hostility to aid under those conditions.

The odds of that happening, however, are slim to none. And I would put my money on none, as explained by the “Foreign Aid Paradox.”

P.S. Some people incorrectly claim Western Europe recovered after World War II because of government aid (the “Marshall Plan”). The real credit belongs with people like Ludwig Erhard.

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A Secret Weapon to Deploy Against Russia

One can be against war with Russia, against Ukrainian membership in NATO, and even be skeptical about NATO’s continued existence, but still cheer for Ukraine as it defends itself from Putin’s aggression.

There are even some peaceful steps that the western nations can take to punish the Russian government.

I’ve already written about sanctions against Russia’s oligarchs.

Today, let’s consider how immigration policy can be used to penalize Russia.

We’ll start with the observation that Russia is demographically declining. This is true for many nations, but Russia is in especially bad shape.

As you can see, Russia’s population pyramid has turned into a population cylinder.

The combination of falling birthrates and increasing life expectancy is very damaging to any nation with a tax-and-transfer welfare state.

Working age population will be less than 60% of total population at year 2051. Total population reaches its peak in 1993 at 148,373,584. The elderly population will account for 25.24% of Russian Federation’s population in 2100, population aging is serious.

So how can the countries such as the United States take advantage of Russia’s grim Demographics?

Simple, just invite lots of young, educated Russians to emigrate.

To some extent, this already is happening, as Gian Volpicelli explained in an article for Wired.

Confronted with the likelihood of crippling sanctions, a plummeting ruble, and a country turning aggressively inwards, Aleks made it to the airport with his wife and hopped on a plane to Georgia, where he has some relatives. He was among the first Russian technology workers to make a run for neighboring countries at the outset of the Ukrainian war, but he soon realized he would by no means be the last. Over the past few weeks, throngs of fellow Russian techies have joined him… According to RAEK, a Russian technology trade group, between 50,000 and 70,000 tech workers have already fled Russia, and 70,000 to 100,000 more could leave in April.

As you might expect, the Russian government is trying to discourage emigration.

Here are excerpts from an article in the Washington Post by Joseph Menn.

Russian officials are trying to stem the brain drain, dropping the tax on tech company profit to zero, offering reduced-rate mortgages for their employees, and pledging that information workers will not be conscripted before age 27, according to Borenius, a Finnish law firm. That promise backfired among some workers who have grown so distrustful of government that they feared it meant they would be drafted, said a Russian-born principal at a global investment firm that extracted its few Moscow employees.

The United States easily can counter Russia’s efforts.

James Freeman of the Wall Street Journal wants to allow lots of Ukrainians into America, but also dissident Russians.

…the president and the vice president…are missing out on a huge opportunity to do good in the world and to do well for the United States. …the United States is still only willing to accept a tiny fraction of those fleeing the war zone. …With the region now in flames, not all of the potential new Americans are ready to come here. …Private firms in various countries are already on the hunt for talent. And the available talent eager to live in peace includes Russians… Wharton finance professor Nikolai Roussanov has been noting the brain drain from Vladimir Putin’s Russia.

Heck, we don’t need to limit the invitation to dissidents. We can open the door to economic refugees as well.

There presumably are millions of young and ambitious Russians who would eagerly grab the opportunity to escape Putin’s dirigiste economy.

After all,Russia ranks a lowly #100 in the most recent edition of Economic Freedom of the World. and does even worse (#113) in the most recent edition of the Index of Economic Freedom.

And every young person who leaves would exacerbate Russia’s demographic imbalance.

By the way, this isn’t merely an issue of foreign policy.

It’s quite likely that an influx of Russians would be good for America’s economy.

Russian-Americans are not included in this chart, but I would be very surprised if they were not among America’s high-earning immigrant communities.

I realize that immigration is a divisive issue in the United States. But I assume that opposition is much lower for populations that are likely to earn high incomes and create jobs rather than rely on government handouts.

So it would be a win-win situation. The emigrating Russians would have a chance to become wealth-creators in America (win #1) and the Russian government would lose productive members of its population (win #2).

Actually, it would be a win-win-win situation since America’s economy would benefit from a more vibrant private sector (win #3).

P.S. To ensure that win #3 actually happens, it would be nice to keep Russian immigrants from getting ensnared in America’s dependency-creating refugee system.

P.P.S. Ukraine also suffers from bad economic policy. If Russia ultimately succeeds in taking over the country, the U.S. should welcome escaping migrants, especially if they are young and educated. One would have to imagine that they would have an anti-socialist mindset, much like Cubans and Venezuelans who also have escaped to the United States.

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The Hidden Tax of Cronyism

I don’t like it when poor people receive handouts from government, though not because I think they’re being grifters. I mostly view them as victims who are vulnerable to getting trapped in the quicksand of government dependency.

The people I despise are the rich people who manipulate the levers of power to get undeserved goodies. These well-heeled sleazeballs generally have the brains and ability to earn money honestly, but they decide it’s more lucrative to steal money from ordinary people, using government as the middleman.

That’s the moral argument for separation of business and state. But there’s also an economic argument against government cronyism.

There’s a very interesting new study from the World Bank that estimates the impact of government favoritism in Ukraine. Here’s how the authors define the problem.

Rent seeking is the manipulation of public institutions to obtain…income…without the creation of new wealth. …Rent seeking is sometimes legal. …In Ukraine, rent seeking includes the award of public resources to companies through tax exemptions, direct subsidies and procurement contracts to connected companies that cannot be justified in terms of the economic benefits to society as a whole. The rent seeking activities provide a basis for the existence of so-called “crony capitalism” ….Crony capitalism allows politically connected businesses to enjoy benefits that other companies cannot access. It allows politically connected businesses to create barriers to entry in those sectors where they operate. As a result, crony capitalism allocates resources inefficiently, restricts competition, increases economic costs and limits economic opportunity. …This paper estimates the economic cost of crony capitalism in Ukraine.

They start with the challenge of trying to measure cronyism.

If we are to assess the impact of crony capitalism in Ukraine, we must first define political connection and distinguish politically-connected firms from non-connected firms. …We use two approaches to identify politically connected firms. The first approach is based on publicly available information on the ownership and control of businesses by politically exposed persons. …A PEP is a person who has been entrusted with prominent public functions, including senior politicians and party officials, senior government, judicial or military officials, and senior executives of state-owned corporations. …The second approach is…to include companies that are not formally controlled by PEPs, but enjoy a political connection through an oligarch or a business group they belong to. …Between half a percent and 2 percent of the total number of firms in Ukraine are politically connected. However, politically connected firms controlled over 20 percent of the total turnover of all Ukrainian companies.

Here are some of their empirical results.

The economic performance of politically-connected firms in Ukraine is significantly different from that of their non-connected peers. …Politically-connected firms are larger than their non-connected peers. …Politically-connected firms pay a lower effective tax rate. …Politically-connected firms are less productive. Politically-connected firms have a negative Total Factor Productivity (TFP) gap compared to non-connected firms. …This indicates that there could be a potentially large pay-off from policies that promote competition. …Politically-connected firms grow slower than non-connected firms. …Such firms tend to have better access to rents and less incentives to compete. …The politically-connected firms reap the benefits from preferential treatment when interacting with the state and limiting market competition.

The bottom line, as illustrated by this chart, is that cronyism promotes and protects inefficiency. And when an economy is less productive, that results in lower incomes and diminished living standards.

Sadly, this isn’t just a problem in developing and transition nations.

Cronyism exists wherever governments have a lot of power, and that includes the United States.

The federal government has myriad policies that tilt the playing field in favor of connected companies. The purpose of policies such as ethanol handouts, the Export-Import Bank, protectionism, tax favoritism, bailouts, subsidies, and green energy is to provide unearned wealth to the friends of politicians.

Here’s a recent example of how Obamacare is a vehicle for cronyism, as explained by the Wall Street Journal.

Big business feasts on big government, and ObamaCare has been a bonanza for companies that have figured out how to exploit it. …Ohio contracts with five managed-care organizations (MCOs) to administer Medicaid benefits, four of which outsource their drug benefits management to CVS Caremark… CVS appears to be billing the state for far more than what it is paying pharmacies, driving up taxpayer costs. …CVS is also attempting to drive independent pharmacists out of business and expand its retail market share. …Ohio’s Medicaid enrollment has swelled by more than half to 21.4% of the state population, driven in large part by ObamaCare’s expansion to people earning up to 133% of the poverty line. …In the last three years, Ohio has lost 164 independent pharmacies while CVS has added 68. …States ostensibly have an incentive to curb their Medicaid spending… Yet many may be turning a blind eye because they can pass on the bills to the federal government, which picks up 63% of the costs for Ohio’s pre-ObamaCare population and 94% for the expansion population.

But cronyism isn’t just enabled by bad policies from Washington.

State governments also are guilty of favoritism, even when the feds aren’t involved. Consider the oleaginous handouts for Foxconn in Wisconsin.

…the Foxconn deal is a condemnable example of corporate welfare in its most egregious form. …Wisconsin could end up delivering $3 billion in tax credits to Foxconn. …If the jobs target of 13,000 is met, Wisconsin taxpayers will pay $219,000 per job. If only 3,000 jobs are created, they will pay $587,000 per job in the form of a $1.7 billion tax credit. …Who wins? The politicians. Who loses? Fiscal sanity and those footing the bill for political pet projects.

And the goodies for Foxconn are just the tip of the iceberg.

States and cities dole out billions of dollars every year to attract businesses through cash grants, tax breaks, and new infrastructure. …The search for Amazon’s second headquarters (HQ2), for instance, has left around 230 state and local governments genuflecting before the altar of the Seattle-based tech deity, offering tributes amounting, in several cases, to billions of dollars. …The cost of these kind of incentives is astoundingly high — there is little research that points to their success.

As I’ve previously argued, the pro-growth way for governments to compete is having low tax rates for everyone.

…the most effective solution is the simplest. New Hampshire is a dark horse candidate to receive HQ2, and its pitch is entirely reasonable: Low tax rates for every business, across the board. That approach removes the incentive to attract businesses through what amounts to legal, nonsensical bribery.

Let’s close with this visual from libertarian Reddit. It’s simple, but a very accurate summary of how the real world operates.

P.S. Elizabeth Warren wants to turn all big companies into cronyist entities.

P.P.S. American taxpayers are subsidizing cronyism in Ukraine.

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Four Quirky Moments in Overseas Taxation

In my research and travels, I come across all sorts of strange stories about tax policy.

• Sometimes I learn about bizarrely foolish tax policies, such as the German tax on online coffee sales that loses money for government.
• Sometimes I learn about heartening protests against government greed, such as Irish taxpayers refusing to pay a housing levy.
• Sometimes I learn about inexplicable taxation rules, such as porn being taxed at lower rates than high culture in Spain.
• Sometimes I learn about strange forms of tax enforcement, such as transgender tax collectors in Pakistan.
• Sometimes I learn about how governments get very creative, such as a German plan to tax prostitutes with parking meters.
• Sometimes I learn about clever forms of tax avoidance, such as the Spanish theatre that gave free passes to patrons who bought lightly taxed carrots.
• Sometimes I learn about x-rated tax protests, such as the brothel owner in Austria who provided free “services” to lower his tax bill.

While I’m quite amused by these oddball examples, I actually prefer writing about overseas tax policies that provide teachable moments about big issues such as the Laffer Curve, taxes and growth, tax competition, and how higher tax burdens “feed the beast” by enabling more government spending.

Let’s look at some new examples and see what we can learn about politicians and fiscal policy.

We’ll start with a Bloomberg story from the Ukraine, where taxpayers go above and beyond to escape extortionary taxes on foreign vehicles.

Take a close look at the cars crawling through Kiev’s traffic-laden streets and you’ll notice something odd: a surprisingly large number of them aren’t registered in Ukraine. The explanation isn’t a sudden inflow of tourists, but rather a work-around by local drivers who crave foreign-made vehicles and refuse to pay restrictively high import duties to buy them. Instead, schemes have popped up where buyers effectively acquire cars from nearby nations and bring them across the border on temporary arrangements. They must then leave and re-enter Ukraine every year, or sometimes more frequently. “It’s amazing,” said Oleksandr Zadnipryaniy, a 30-year old entrepreneur who paid about $3,000 for a second-hand Opel Vectra from Lithuania. “Taxes are exorbitant. Why must poorer Ukrainians pay three times as much as richer Europeans?”

The answer to Mr. Zadnipryaniy’s question is that they don’t pay the tax. At least not if this chart is any indication.

Needless to say, I’m on the side of taxpayers and don’t have sympathy for the politicians, who are motivated by a desire to extract revenue and curry favor with domestic interest groups.

Such cars represent a headache for the government. Dodging import duties trims budget revenue… Cracking down is also tricky. …Drivers blame the government, accusing it of pandering to local car lobbies by setting high import duties.

Now let’s shift to another story about tax avoidance, though this one doesn’t have a happy ending.

The BBC reports that a big tax hike may put an end to “booze cruises” from Finland to Estonia

The Estonian government is set to impose a 70% rise in taxation on alcoholic drinks in July, Finnish broadcaster YLE reports. It’s a blow to drinkers from Finland who, since Estonian independence in 1991, have taken the short 54-mile (87km) ferry trip from Helsinki to Tallinn to enjoy prices which are less than half of those back home. …a 12-euro crate of beer will increase to 18 euros, making the concept of the money-saving “booze cruise” much less inviting.

But fortunately Finns still have an option.

Finnish tourist Erno Sjogren said that the tax rise might make him think again – but not on giving up the concept. Speaking to Helsingin Sanomat as he loaded his car outside an Estonian supermarket, he said he would consider taking his trade to Latvia instead – a 2.5-hour drive cross-country from the ferry port in the Estonian capital. The Latvian town of Ainazi is already benefitting, Helsingen Sanomat says, with the appropriately named SuperAlko store visible from the Estonian border and offering cheaper prices than its Baltic neighbours.

Let’s toast to tax competition!

Last but not least, I’m a giant fan of decentralization and a partial fan of secession (done properly and for good reasons), but you don’t automatically get results.

Consider what’s happening in Scotland, as reported by the U.K.-based Times.

Nicola Sturgeon has given her clearest indication to date that Scots will be in line for substantial income tax rises next year. In an interview due to be published today the first minister dismissed suggestions that a high-tax agenda would deter businesses, arguing instead that paying for good public services could be just as attractive to investors and people as low taxes. Ms Sturgeon’s comments came as the Scottish parliament backed a motion calling for higher taxes to pay for public services.

Ugh. I’m sympathetic to Scottish independence, but stories like this make me pessimistic about what will happen if politicians like Sturgeon are in charge of an independent nation.

Assuming, of course, she’s actually ignorant enough to believe that investors want higher taxes.

And I haven’t written about whether Catalonia should be independent of Spain, but this blurb from the EU Observer leaves a sour taste in my mouth.

Catalonia’s regional government said Monday that increases in staff at the tax office, from 321 to 800, have made the Spanish region ready to collect taxes for an independent Catalonia if citizens vote for independence on 1 October. A law to organise the referendum will be to a vote on Wednesday, but the national government in Madrid has dismissed the bill as a way to “cheat democracy”.

Technically, this won’t be bad news if the 479 new tax bureaucrats replace a similar number (or larger number) of officials that formerly harassed people on behalf of the national government in Madrid.

But I’m automatically suspicious that politicians and bureaucrats will maneuver to be the winners of any change. This isn’t an argument against secession, but it is a warning that independence won’t yield economic benefits if there’s no reduction in the burden of government.

Advocates of an independent Catalonia should first and foremost be making plans to unleash the private sector, to make themselves the Hong Kong or Singapore of Europe.

Assuming, of course, that they would want their new country to be highly ranked by Economic Freedom of the World.

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The Simple Lesson We Should Learn from Global Economics

I very rarely feel sorry for statists. After all, these are the people who think that their feelings of envy and inadequacy justify bigger and more coercive government.

And I get especially irked when I think about how their authoritarian policies will hurt the most vulnerable in society.

But I nonetheless feel sorry for statists when I see them fumble, stumble, duck, and weave when asked why global evidence contradicts them.

In other words, it’s almost painful to watch when they are asked  why nations with varying degrees of statist policy – such as Venezuela, France, the United States (under Obama), Argentina, and Greece – suffer from economic stagnation and decline.

And it’s equally uncomfortable to watch them struggle and squirm when they’re asked to explain why jurisdictions with more pro-market policies – such as Bermuda, Estonia, Switzerland, the United States (under Reagan), Chile, and Singapore – tend to enjoy growth and rising living standards.

However, I can’t help adding to their discomfort. Let’s look at more evidence.

Here’s some of what Richard Rahn wrote for the Washington Times about Hong Kong’s economic miracle.

Hong Kong is about as close to the ideal free-market capitalist model that you can find on the planet — which came about largely by accident. …The British basically left Hong Kong to fend for itself… here was no foreign aid and no welfare state — but there was a competent government that kept the peace, ran an honest court system with the rule of law, provided some basic infrastructure, and little more. Also, Hong Kong had economic freedom — for the last several decades, Hong Kong has been ranked as the freest economy in the world (according to Economic Freedom of the World Index). Economic freedom allowed the people to create an endless number of productive enterprises, and because they had free trade, they could import necessary goods and services to fuel these enterprises. …average real income has gained parity with the United States, and it will probably be double that of France in a couple of years.

By the way, if you don’t believe the last sentence in that excerpt, check out this remarkable chart.

But the big takeaway is that free markets and small government have made the people of Hong Kong very rich. Gee, it’s almost as if there’s a recipe to follow if you want prosperity.

Let’s look at another example. Writing for the Wall Street Journal, former Senator Phil Gramm and Michael Solon compare economic policy and outcomes in Ukraine and Poland.

They explain that statist policies in Ukraine have stymied growth in a nation that otherwise could be very prosperous.

There is no better modern example of the power of an economic triumph than the experience of Ukraine and Poland in the post-Cold War era. …Ukraine has largely squandered its economic potential with pervasive corruption, statist cronyism and government control. …The per capita income of Ukraine, in U.S. dollar equivalence, has grown to only $3,900 in 2013 from a base of $1,570 in 1990. …Ukraine should be a wealthy country. It has world-class agricultural land, it is rich in hydrocarbons and mineral resources, and it possesses a well-educated labor force. Yet Ukraine remains poor, because while successful Central European nations have replaced their central-planning institutions with market-based reforms, Ukraine has never been able to break the crippling chains of collectivism.

Poland was in the same position as Ukraine after the collapse of the Soviet empire, but it followed better policy and is now several times richer.

By employing free-market principles and unleashing the genius of its people, Poland has triggered an economic triumph as per capita GDP, in U.S. dollar equivalence, soared to more than $13,432 by 2013 from $1,683 in 1990. Today Poland is the fastest-growing economy in Europe. …The man largely responsible for Poland’s transformation is Leszek Balcerowicz, the former finance minister who was later governor of Poland’s Central Bank. …The Balcerowicz Plan was built around permitting state firms to go bankrupt, banning deficit financing, and maintaining a sound currency. It ended artificially low interest rate loans for state firms, opened up international trade and instituted currency convertibility. …A miracle transition was under way and the rest is history.

Since I’ve also compared Ukraine and Poland, you can understand why I especially liked this column.

One final point. Today’s post looks at just a couple of nations, but I’m not cherry picking. There are all sorts of comparisons that can be made, and the inevitable conclusion is that markets are better than statism.

Here are some previous iterations of this exercise.

I’ve compared South Korea and North Korea.

The data for Chile, Argentina, and Venezuela is very powerful.

I’ve shown how Singapore has eclipsed Jamaica.

Here’s a comparison of Sweden and Greece.

And we can see that Hong Kong has caught up with the United States.

So hopefully you can understand why I have a tiny (very tiny) degree of sympathy for my left-wing friends. It can’t be easy to hold views that are so inconsistent with global evidence.

P.S. When presented with this kind of evidence, leftists oftentimes will counter by saying that many nations in Europe are rich by global standards, while also having large governments. True, but it’s very important to understand that they became rich nations when they had small governments. Moreover, some of them have wisely compensated for large public sectors by maintaining ultra-free market policy in other areas.

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Obama’s Accidental Brush with Libertarian Foreign Policy

One of the many challenges of being libertarian is that people sometimes think you’re naive about foreign policy (sort of like the first entry in this 24-part satirical collage of libertarians).

In large part, I think that’s because they confuse non-interventionism with pacifism.

To elaborate on why they’re wrong, I’ve shared some thoughts from Mark Steyn, George Will, and Steve Chapman on the libertarian mindset on foreign policy. And to augment their analysis, here’s John Stossel’s very good synopsis of the clear-headed libertarian approach.

Most libertarians believe our attempts to create or support democracy around the world have made us new enemies, and done harm as well as good. …Some conservatives respond to that by calling us isolationists, but we’re not. I want to participate in the world; I just don’t want to run it. …it’s realistic to acknowledge that America has dangerous enemies, it’s also realistic to acknowledge that going to war is not always worth the loss of money and lives, and that it makes new enemies. War, like most government plans, tends not to work out as well as planners hoped.

And in a version of Mitchell’s Law, he points out that screwups become the excuse for further mistakes.

Occasionally government acknowledges mistakes in domestic policy — but that doesn’t mean it then becomes more efficient. It usually just spends more to try, and fail, to fix the problem. It’s the nature of government. Politicians don’t face the competitive incentives that force other people to make hard decisions. Candidate Obama garnered support by criticizing Bush for costing money and lives through a protracted stay in Iraq. But that didn’t stop Obama from putting more money and troops into Afghanistan. …Our military should be used for defense, not to police the world.

So where exactly does Obama fit? He’s obviously not a neo-con, but how should he be characterized?

My colleague at Cato, Gene Healy, writes that the President has stumbled upon a good guide for foreign policy.

…there’s something to be said for President Obama’s latest foreign-policy maxim: “don’t do stupid stuff.” …Yet “DDSS” has been greeted with contempt by the D.C. commentariat. “How far we have come from the audacity of hope, yes we can” moans David Rothkopf, publisher of Foreign Policy magazine. “DDSS” just isn’t an “elevating notion,” he complains. (Neither, I suppose, is the Hippocratic Oath.) …The concept of avoiding catastrophic error shouldn’t be hard to grasp.

But having a good guide doesn’t mean anything if you don’t live up to it (just like Bush didn’t live up to his pronouncement that he wanted America to have a “humble” approach to the world).

It’s true that Obama has never lived up to the cautious foreign policy maxim he’s coined: launching a destructive “dumb war” in Libya, doubling down on Afghanistan with precious little to show for it. But “DDSS” is a sound, even noble, foreign policy goal, one that can help us avoid further sacrifice of American blood and treasure — even as we try to extricate ourselves from past stupidities.

I add my two cents to this discussion, pointing out in this interview about Ukraine that Obama sometimes veers in the direction of libertarianism. Or at least non-interventionism.

Unfortunately, I suspect that Obama doesn’t genuinely believe in non-interventionism. Instead, he sometimes winds up doing the right thing because of passivity rather than some underlying and principled desire to avoid foreign entanglements.

Speaking of libertarian foreign policy, this Steve Breen cartoon is a pretty good summary of what we’ve been doing in Afghanistan for the past decade.

This reminds me of being in a coalition meeting last decade and somebody from the Bush Administration was saying the mission  was a success because tax dollars had been used to build a bunch of schools and sewer system in Afghanistan.

Being the disagreeable type, I pointed out that the federal government shouldn’t even build schools and sewers in America, so why on earth were we doing that overseas.

I thought it was a good point, but the silence in the room reminded me that libertarians aren’t always the most persuasive people.

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Ukraine’s Self-Imposed Statism Crisis

Using a comparison of Jamaica and Singapore, I recently argued that growth should trump inequality.

Simply stated, a growing economic pie is much better for poor people that incentive-sapping redistribution programs that trap people in dependency.

In other words, nations with smaller government and less intervention produce better results than nations with bloated governments and lots of meddling.

You see that relationship by comparing Jamaica and Singapore, and you also see it when examining other nations.

This is fresh in my mind since I just spoke at the Kyiv stop on the Free Market Road Show.

I told the audience about the reforms that Ukraine needs to strengthen economic performance, but I probably should have simply read what one expert recently wrote about Ukraine and Poland.

Here’s some of what Allister Heath had to say for London’s City A.M.

In the dreadful communist days, Ukraine and Poland used to be equally poor. The former was part of the Soviet Union, and Poland was one of the USSR’s satellite nations, belonging to the Warsaw pact. In 1990, both countries had roughly the same GDP per capita – their economies were eerily similar. A quarter of a century later, everything has changed… It’s a tale of two economic models, and a central reason why Russia – a waning world power desperate to cling on to its historic zone of influence – has felt able to bully Ukraine in such a shocking way. …The big difference is that Poland has pursued free-market policies, reducing the size of its state, introducing a strict rule of law and respect for property rights, privatising in a sensible way, avoiding the kleptocracy and corruption that has plagued regimes in Kiev, and embracing as much as possible Western capitalism.

Allister cites World Bank data to state that “Poland’s GDP per capita is now 3.3 times greater than Ukraine’s.”

I prefer the Angus Maddison data, which doesn’t show quite the same divergence. But if you look at the chart, you still see an amazing change in relative living standards in the two nations.

These numbers are shocking. Even with the Maddison data, Poland quickly passed Ukraine after the collapse of communism and now enjoys more than twice the level of per-capita output (and would probably have about three times as much per-capita GDP if the numbers were updated through 2014).

This doesn’t mean, by the way, that Poland is a pro-market paradise. As Allister explains, it’s not exactly Hong Kong or Singapore.

Poland’s tax system remains far too oppressive, the red tape is too strict and the bureaucracy still too redolent of the bad old days, the labour market is excessively regulated, parts of the population rejects elements of the new order and the country remains relatively poor, which explains why so many of its most ambitious folk have moved to the UK and elsewhere. But Poland has been one of the great success stories of the post-communist era, whereas Ukraine, tragically, has been one of the great failures.

To add some details, Freedom of the World ranks Poland as the 59th-freest economy in the world.

That’s not great, but it’s a lot better than Ukraine, which ranks only 126 out of 152 nations (behind even Russia!).

More important, Poland’s overall score was only 3.90 in 1990 and now it is up to 7.20.

Ukraine, by contrast, has only climbed to 6.16.

As I’ve already stated, their big problem is Putinomics. If they want to catch the West, they need free markets and small government.

P.S. If you examine the five major factors in Freedom of the World, Ukraine does best in the fiscal policy measure (in part because it has a flat tax!), but it has a horrible grade for monetary policy and doesn’t do well in the other areas.

P.P.S. On the issue of ethnic division in the country, Ukraine also would benefit from Swiss-style decentralization.

P.P.P.S. This chart comparing Argentina, Chile, and Venezuela also should be very persuasive to every open-minded person.

P.P.P.P.S. I visited the Maidan Square, which is where the recent revolution took place.

Here’s one of the main buildings that caught fire.

Here are pictures of those killed by (presumably) government snipers.

And here’s yours truly playing tourist.

It’s only an armored personnel carrier, but it got me thinking that maybe I should copy other Americans and get my own tank?

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Ukraine’s Biggest Problem Isn’t Putin, It’s Putinonomics

With Crimea potentially breaking away from Ukraine and the ongoing risk of conflict, it’s time to revisit the topic.

I explained a few weeks ago that decentralization was one way of defusing the crisis.

Now Kevin Hassett of the American Enterprise Institute has a refreshing and important analysis explaining how bad economic policy has hindered Ukraine’s development.

He explains that Ukraine was one of the former Soviet Bloc nations that made the mistake of not copying the more market-oriented nations of Western Europe.

Prior to the breakup [of the Soviet Empire], Eastern Europe was underdeveloped relative to the West, mostly because of the failure created by central planning. When a market economy is unleashed in such a setting, “convergence” of the standard of living to that of the developed world can be quite rapid. …A large academic literature has emerged analyzing the impact of “going west.” The literature documents that those nations that assimilated into the EU saw dramatic economic growth. …The countries, like Ukraine, that failed to take that path have stagnated.

The impact is remarkable. Using EU membership as a proxy for nations that “went west,” Kevin put together a graph showing how the more market-oriented nations have dramatically out-performed the rest.

He notes that per-capita income has climbed far faster in the western-oriented nations.

Income per capita has grown sharply since the mid 1990s, more than doubling for the former Soviet countries, and increasing about 50 percent for the Eastern Bloc countries (such as the Czech Republic) that have joined the EU. …The three lines on the bottom of the chart depict what has happened to those nations that have not joined the EU. Each of these countries has stagnated, seeing a standard of living that has barely budged since the fall of the USSR.

So what’s the moral of the story? Kevin bluntly writes that people who want to affiliate with Putin are traitors because they are condemning their fellow citizens to economic misery.

Vladimir Putin’s desire to maintain a zone of influence has had a dramatically negative effect on the economic well-being of citizens of the affected countries. It is hard to imagine how anyone could look at such data and not conclude that Putin supporters outside Russia are traitors, if not to their nations at the very least to their compatriots’ prospects of economic security and prosperity.

Now I want to build on what Kevin wrote by stating that “going west” is important because it is a proxy for more economic freedom.

Let’s take another look at his chart, but augment it with some numbers from Economic Freedom of the World.

I collected both the absolute ranking and relative economic freedom scores for the former Soviet Bloc nations, and then put together averages for each of the categories in Kevin’s chart. The first number is the average ranking and the second number is the average score. As you can see, the nations that have enjoyed more growth are the ones that have the most economic liberty.

Time for some caveats. Because of data limitations, the EFW Index does not have numbers for nations such as Kosovo. Moreover, Kevin didn’t include the former Soviet states that are in Asia, and I confess I don’t know for sure whether that means nations such as Armenia and Georgia are excluded.

But those issues only influence the green and red lines, and adding or subtracting those nations doesn’t change the look of the graph.

That having been said, the real moral of the story is that Ukraine needs economic liberty. It doesn’t have that now, and it almost surely won’t have that if it falls more under Putin’s influence.

Why? Because Ukraine already has been practicing Putinonomics (which is a sordid mix of cronyism, regulation, corruption, and weak rule of law), so more Russian control presumably will mean jumping from one frying pan to another.

Simply stated, if you want more prosperity, there’s no substitute for free markets and small government. The more nations move in that direction, the richer they will become.

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Ukraine, Ethnic Division, Decentralization, and Secession

Ukraine is in the news and that’s not a good thing.

I’m not a foreign policy expert, to be sure, but it can’t be a positive sign when nations with nuclear weapons start squabbling with each other. And that’s what’s happening now that Russia is supposedly occupying Crimea and perhaps other parts of Ukraine and Western powers are complaining.

I’m going to add my two cents to this issue, but I’m going to approach it from an unusual angle.

Look at this linguistic map of Ukraine. The red parts of the country show where Russian is the primary language and most people presumably are ethnically Russian.

Now look at these maps (from here, here, here, and here) showing various election results in the country.

Like I said, I’m not overly literate on foreign policy, but isn’t it obvious that the Ukrainians and the Russians have fundamentally different preferences?

No wonder there’s conflict.

But is there a solution? And one that doesn’t involve Putin annexing – either de facto or de jure – the southern and eastern portions of the nation?

It seems there are two options.

1. Secession – The first possibility is to let the two parts of Ukraine have an amicable (or at least non-violent) divorce. That’s what happened to the former Soviet Union. It’s what happened with Czechoslovakia became Slovakia and the Czech Republic. And it’s what happened (albeit with lots of violence) when Yugoslavia broke up.

For what it’s worth, I’ve already suggested that Belgium should split into two nations because of linguistic and cultural differences. So why not the same in Ukraine?

Heck, Walter Williams has argued that the same thing should happen in America, with the pro-liberty parts of the nation seceding from the statist regions.

2. Decentralization – The second possibility is for Ukraine to copy the Swiss model of radical decentralization. In Switzerland, even though there are French cantons, German cantons, and an Italian canton, the various regions of the country don’t squabble with each other because the central government is relatively powerless.

This approach obviously is more attractive than secession for folks who think that existing national borders should be sacrosanct.

And since this post is motivated by the turmoil in Ukraine, it’s worth pointing out that this also seems to be a logical way of defusing tensions across regions.

I confess I have a policy reason for supporting weaker national governments. Simply stated, there’s very strong evidence that decentralization means more tax competition, and when governments are forced to compete for jobs and investment, the economy is less likely to be burdened with high tax rates and excessive redistribution.

Indeed, we also have very strong evidence that the western world became prosperous precisely because the proliferation of small nations and principalities restrained the natural tendencies of governments to oppress and restrain economic activity.

And since Ukraine (notwithstanding it’s flat tax) has a very statist economic system – ranking only 126th in the Economic Freedom of the World index, maybe a bit of internal competition would trigger some much-needed liberalization.

P.S. If you’re intrigued by the secession idea promoted by Walter Williams, you’ll definitely enjoy this bit of humor about a national divorce in the United States.

P.P.S. If you think decentralization and federalism is a better option than secession, the good news is that more and more Americans have unfavorable views of Washington.

P.P.P.S. The tiny nation of Liechtenstein is comprised of seven villages and they have an explicit right to secede if they become unhappy with the central government in Vaduz. And even the statist political crowd in the United Kingdom is considering a bit of federalism.

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Greetings from Ukraine, and Dismal News from Europe

I’m on the Crimean Peninsula for a meeting of the European Resource Bank. It’s my first trip to Ukraine, and the conference is being held at a hotel on the Black Sea, so I can’t complain about the scenery.

But the news from the various European think tanks is generally not favorable.

Marcin Nowacki of Project Lodz in Poland spoke about how the government is confiscating most of the money that workers contribute to personal retirement accounts.

Pierre Garello of France’s Institute for Research in Economic and Fiscal Issue gave a less-than-hopeful analysis of regional developments.

And I was given a rather depressing analysis of Portugal from Orlando Samoes of the Instituto de Estudos Politicos.

Last but not least, from an American perspective, I added to the misery by looking at the fiscal mess in the developed world, but I’ll provide the gory details tomorrow.

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While Obama Fiddles, Ukraine and Taiwan Reduce Corporate Tax Burdens

The United States has the world’s worst corporate tax system, with a job-killing tax rate of about 40 percent. In the European Union, the average rate is about 25 percent, but that’s just one part of the world that is moving in the right direction. My Cato colleague recently did a blog post about Taiwan’s politicians lowering that nation’s corporate tax rate to 17 percent. Now Tax-news.com is reporting that Ukraine’s government is doing something similar, reducing the corporate tax rate from 25 percent to 17 percent.

Ukraine’s new Prime Minister, Mykola Azarov has announced his government’s intention, in a revised tax code, to slash the country’s corporate income tax rate starting 2011, and then further on a transitional basis through 2014 to enhance the nation’s economic performance and fiscal attractiveness. According to the Prime Minister, the corporate income tax will be cut from 25% to 20% in 2011, and cut 1% annually from then on, until 2014 when the rate will stand at 17%. The Value Added Tax is to also to be reduced on a progressive basis over a similar timescale. Explaining the government’s methodology, Azarov was quoted by the national radio station NCRU as saying: “This innovative document is a real tax reform that will improve the investment climate in Ukraine and will improve the nation’s attractiveness for conducting business.”

It’s worth noting that a low corporate tax rate is not a silver bullet for an economy with other bad policies. Ukraine has one of the world’s most repressive economies, so reducing the corporate tax rate is just one of many reforms that is needed. But, all other things being equal, lower tax rates always are a good idea.

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