Why has the crisis been bad for private pensions, but good for the flat tax? The sustainability of 'neoliberal' reforms in the new Member States. CEPS Working Document No. 356, October 2011

Beblavý, Miroslav (2011) Why has the crisis been bad for private pensions, but good for the flat tax? The sustainability of 'neoliberal' reforms in the new Member States. CEPS Working Document No. 356, October 2011. [Working Paper]

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Abstract

In this paper, we examine two questions related to the sustainability of the major, neoliberal, economic and social reforms in the new EU member states, namely the flat income tax and private pension pillars. First, we look at the relationship between the political consensus/controversy at the time major policy reforms were passed and the future sustainability of these reforms after a change of government. Second, we explore what we call a paradox of reverse sustainability, whereby the flat income tax has been more politically resilient during the global financial and economic crisis than private pensions, even though ex ante expectations and the literature would lead us to expect the opposite. The paper shows that controversy at the time the reforms were passed had no effect on subsequent sustainability, and the levels of partisanship and public support with regard to a specific reform seem less important than the political costs and benefits. We also find that despite their apparent neoliberal bent, the two policies are versatile enough to be shaped towards a variety of policy goals, allowing their introduction and retention in a variety of economic and social circumstances. In other words, even though private pensions and particularly the flat tax have powerful political connotations, they are by no means policy straitjackets. While both reforms could sustain themselves throughout the ‘good’ times before the global crisis, their fates diverged during the crisis. Neither public support nor the large constituency of savers could fully protect private pensions from a policy reversal during a period of exceptional fiscal pressure. That is because a reversal was associated with significant, short-term fiscal gains and the states where these reversals took place also took a range of other decisions that were politically extraordinarily difficult. On the other hand, we demonstrate that the introduction or potential reversal of the flat tax was not associated with significant, short-term revenue gains. It is the relatively ‘cheap’ nature of the flat tax that distinguishes it from private pensions, because it sends a highly cost-effective signal in terms of revenues lost owing to its existence.

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