Public Budgets in Doldrums: Czech Tax and Benefit Systems and the Poverty Trap
|Author(s):|| doc. Ing. Ondřej Schneider MPhil., Ph.D., Jiří Večerník|
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|Published in:||Institute for Social and Economic Analyses|
|Abstract:||The project “Public Budgets in Doldrums: Czech Tax and Benefit Systems and the Poverty Trap” was launched in the summer of 2004, when a grant from the Open Society Fund in Prague was awarded to the Prague-based Institute for Social and Economic Analyses (ISEA). The project has had a straightforward mission: to gauge the efficiency of the Czech tax and social security systems. The goal is to determine, by using detailed microdata sets, the underlying reasons for the weak condition of the Czech labor market, which has fed mounting public budget deficits since the mid-1990. The project culminated in a conference, organized by the ISEA and sponsored by the Konrad Adenauer Stiftung with a kind contribution from the Anglo-American College in Prague. Researchers from the ISEA presented their results and Peter Haan of the Deutsches Institut für Wirtschaftsforschung in Berlin contributed his paper on distributive effects of the German tax reforms. The conference took place on June 22 and this volume brings together its main findings.
Ondřej Schneider, Tomáš Jelínek, and Gabriela Hrubá analyzed household data in order to determine the redistributive effects of the tax and social-security systems. The two papers published in this final report summarize their research. The first paper, “The Distributive Impact of Czech Social Security and Tax Systems: Dynamics in Early 2000s,” co-authored by Schneider and Jelínek, analyzes trends and dynamic effects in the social-security system, using data from the 1999–2002 period. Their research shows that successive governments expanded illness benefits by 72 percent over the four years –– already the greatest and least-targeted of the social-security programs. This largesse failed, however, to improve the income situations of the poorest households given the benefit’s inefficiency. They also find that spending on more focused programs (e.g., social supplements and parental allowances) rose the least.
In “Czech Public Budgets: Persistent Deficits and Powerful Poverty Trap,” Schneider, Jelínek, and Hrubá look closely at data from 2003 and combine estimates of tax incidence with social security’s redistributive effects. Their analysis shows that only the poorest income deciles gain from the combined tax and social systems, in which income is increased by more than 20 percent. On the other hand, the income of the five richest deciles is cut by 20 percent–30 percent. This combination creates a substantial poverty trap for low-income earners. While income taxes are (mildly) progressive, the authors show that consumption taxes (excise taxes and, to a larger extent, value-added tax) are regressive. Their analysis identifies a high level of income redistribution and strong disincentives for the labor-market participation of low-income groups in the Czech Republic.
Jiří Večerník, in the paper “Income Taxes and Benefits among Czech Employees: Changes since 1989 and a Cross-National Comparison,” identifies the separate and joint effects of taxes and transfers on the distribution of household income among Czech employees compared with the pre-1989 situation (i.e., during a planned economy). He finds that the redistributive effect of the new system is much stronger. Considering taxes and benefits separately, it can be said that the Czech state taxes upper-income households significantly but not in the extreme, and that the targeting of benefits to low-income families is rather narrow. In a cross-national comparison, the Czech system appears to be no more redistributive than those of other countries. Personal-income-tax reforms, proposed by several Czech political parties in a run-up to the 2006 parliamentary election, affect overall redistribution flows to a limited degree, as taxes are not the most important redistributive factor.
The last paper, “Who Is Poor in the Czech Republic? The Changing Structure and Faces of Poverty after 1989,” also by Večerník, summarizes the development of poverty in the Czech Republic since 1989. Sources and measures of poverty are described, and Večerník shows the impact of labor-market participation on poverty indicators. The paper also discusses a variety of measurements that reveal different faces of poverty, comparing so-called objective and subjective indicators. Finally, the “working poor” are examined and compared with the non-working poor. Večerník shows that before 1989 poverty was caused mainly by demographic factors. In contrast, unemployment became the leading factor of poverty in the market economy. This transpired largely after 1997, when there was a rapid increase in unemployment in the Czech Republic, which was outpaced by the rise in the number of long-term unemployed. Simultaneously, the problem of the working poor appeared, but it is less acute in the Czech Republic than in other European Union countries.
Peter Haan in his paper shows how the 2000 German tax reform improved work incentives and, thereby, fostered employment. Drawing on data of the German Socio Economic Panel (SOEP), he analyses the work incentive and employment effects of this reform on the basis of a behavioral microsimulation model. Haan finds that the significant reduction of marginal tax rates implied by the tax reform resulted in a substantial increase in labor supply, a slight reduction of market wages and an increase in employment of about 130 thousand people (full-time equivalents).
The project aimed at explaining the roots of the social-security paradox in the Czech Republic: the country has the lowest poverty level in the EU, and yet it has rather high unemployment and persistent long-term unemployment. We show that the Czech system can “afford” this as it heavily taxes all income groups, namely through aggressive and efficient use of social-security contributions. However, this very efficiency contributes to unemployment, the relatively high levels of which did not subside even during the economic expansion of earlier this decade.
Our results confirm that the Czech budgetary crisis is structural in nature. Any reform must thus tackle the roots of the crisis, not its manifestations. Ambitious reform of the minimum living standard system is crucial for any tangible positive results. Our results also complement the current ISEA project on pension reform, as it shows that pensioners are heavily concentrated in the second to fourth decile of income distribution, i.e., the most vulnerable households typically consist of families with children.
The project results show that increased attention must be given to the “institutional environment” of jobs with the aim to employ as many people as possible (including older workers). As our pension-project results illustrate, Czech society faces very dramatic demographic changes that will require considerable change in Czechs’ attitude to social security and work participation. The country can ill afford further policy errors, and certainly cannot afford to inure the persistent poverty traps identified in our project.