More On Inflation

One of those "I got into it in a forum, and might as well repost the whole thing" articles. The original topic was on the correlation of payroll tax levels and unemployment levels - statistically there doesn't seem to be a very strong one. Edited slightly for clarity. I'll update the post if there's any further interesting discussion.

Fwiw, any government that is that worried about unemployment should just employ people.

And pay them out of what? (Other than a few energy exporters like Russia or Venezuela, the state depends on tax revenues from private commerce. Short-term countercyclical surges like the New Deal are one thing, but government hiring is not a viable long-term solution.)

Money. Something that any government (well, any not dumb enough to sign maastricht) doesn't even have a theoretical limit of.

 The Finance Minister of Zimbabwe called, he said to tell you "Bitch please".

Zimbabwe didn't run out of its own currency. It never faced a problem of 'not having enough money'. Its problem is hyperinflation. Different problem entirely.

If you think deficit spending leads one inexorably on to the path of Zimbabwe-style hyperinflation, well I'd like to introduce you to Japan. Still fighting deflation after 20 years of massive deficit spending leading to a national debt at 200% of GDP. They could (and probably should) deficit spend even more.

The fact that Japan has a 200% GDP debt rate is exactly because they don't treat their money supply as inexhaustible. Otherwise their debt rate would be zero. They wouldn't borrow money, they'd print it.

Anyway, Japan's got an economic problem because it's a high-wage country with an insular culture and an aging population right next to a gigantic source of cheap labor; the majority of its population can't produce anything that would be competitive on the world market, so it's turned to internal consumption. It can run up 200% GDP debt because of the unique circumstance that its real estate is far too expensive for young people to afford, and the money that would be parked in equity in any other developed country is diverted either to discretionary spending (bouncing around the economy and cyclically taxed as VAT) or to savings accounts, which the domestic banks use to buy government bonds.

From the Weimar Republic to Zimbabwe to early-90s Russia or more-recent Belarus - every time a state has actually treated its currency supply as inexhaustible, it's only led to hyperinflation.

(Other participant:) So you're agreeing with the part where he says "spending is inflationary", right? Any comments on deflation?

 Printing money and releasing it into the economy is inflationary, yes. The reason why QE hasn't caused as much inflation in the US, or the EU for that matter, as it ought to have, is because all that liquidity is actually parked in bank reserves - not bouncing around the economy.

Not all spending is necessarily highly inflationary though - an excellent example is US foreign aid to Israel, which is required to be spent on purchasing military hardware from US manufacturers. Effectively it is a form of government welfare spending - pumping money into the economy - but because it keeps people at work, the rate at which that money is released into the economy is hard-limited. This, incidentally, is part of why the EU is so happy to pump money into its periphery: most of it is earmarked spending, and is effectively the creation of a market for the core's vital manufacturing sectors. (We just got a huge pile of EU money to overhaul our commuter rail network, but the trains we buy can only be Spanish or Austrian.) This kind of spending, which is associated with real production and export of goods, and a gainfully employed population, is not immediately inflationary beyond the natural inflation caused by income growth - the problem is when the foreign aid comes from borrowed money. You can keep it up for a while and not have dangerous levels of inflation, but only until people stop lending to you.

As for deflation... Do not conflate falling real incomes with deflation. Deflation by definition is a numeric decrease in consumer prices, and that's a very rare thing indeed - although it did happen in Estonia for one year in the middle of the crisis, when the sharp drop in incomes and, inevitably, spending, actually did force retailers to decrease prices on primary consumables - through market pressure alone, not government regulation. But that was a fluke.

(First participant:) You do realize that I was saying only that a country could create limitless amounts of money, not that it actually should create near limitless amounts of money.

You were saying that they could somehow "run out", and required the private sector to produce it. The private sector doesn't produce it and even Zimbabwe didn't run out. It created hyperinflation. Fine. Not a problem that's on our horizon, so rather irrelevant.

It's not a problem on your horizon because you're not dumping massive amounts of printed cash into the economy. Your central bank is playing a shell game with creditor confidence, creating the illusion if liquidity by printing money but keeping it warehoused. If all that cash that private banks borrowed from the BoE at near-zero interest actually gets lent out as small business or consumer loans, you'll see a huge inflation spike immediately.

So: it's not a problem on your horizon exactly because your government is not doing it.

 (Other participant:) It's not going to cause inflation if rich people pocket it and get richer, in other words.

Yes, if they actually pocket it, as in, keep it in a big vault and not spend it. But in this case they're not even pocketing it. The government is letting them hold on to it for a little while, so they can show their business partners that they have a suitcase full of cash and can be trusted to pay for the truck full of frozen fish within 30 days, not immediately on delivery.

There's the problem of the rich people giving themselves massive paychecks out of that money, of course, but that's a different issue.

Of Banks, Thanks and Tanks

Further to this:

There is an ever-louder discussion of why exactly Estonia should help bail out the Southern Eurozone countries. Here's a link to an interview with our Finance Minister (in Estonian). Although the current cabinet is full of people who often speak more directly and more insultingly than most European politicians, and Ligi is one of those people, I think there is room for an independent voice to provide more clarity still.

We're part of the bailout because Germany wants us there, and why Germany is willing to bail out those countries is actually irrelevant to Estonia's own internal political discussion. Estonia has benefited very heavily from European solidarity in financial terms. Being on the other side of that solidarity now, helping out others instead of just receiving help, not only repays some of the moral debt we owe to Europe, but accrues moral credit. We're pulling our weight, even though it's a difficult thing for us to do, and we have good short-term reasons not to do it. It makes the rest of the continent see us as an integral part of Europe. It is a favor we're doing, and the fact that we're not doing it for our own obvious gain is what allows us to expect a favor from Europe at some indeterminate point in the future. And that's where it comes down to the unspoken but well-understood, and well-founded, paranoia that underlies Estonia's political discourse, the ultimate purpose that the failing, dysfunctional, spent generation of Estonian statespeople still understands far better than the millennial generation which takes Europe for granted.

A strong bond with a weak Europe is still Estonia's best geopolitical choice.

Today, Estonian money protects Spain's banks; so that tomorrow, Spain's tanks would protect Estonia's borders.

How would this work, exactly?

There's a common argument that making taxes too high just leads to sneaky rich people squirreling away their capital in tax havens. The argument is, on the face of it, compelling: a huge number of filthy-rich Brits are not domiciled in the UK, meaning that they don't pay income tax to Her Majesty's Customs & Excise. Conversely, the new French president is talking about a 75% income tax on top earners, leading to the British PM saying he, for one, welcomes his new cheese-loving donors. I'll leave you to ponder just how much money a French tycoon is willing to pay just to avoid moving to London.

But does that work with the Estonian tax model? Since corporate profit gets taxed at the point it becomes someone's income, is it really possible to put the money in a bank in Grand Cayman and tell EMTA to go to hell? Yes, an investor gets his dividend in a lump sum and is personally responsible for setting aside the tax until it's due. But let's assume I took all the money and moved it abroad, to a place where the Estonian government can't get their hands on it.

What about next year?

The tax man knows exactly how much tax I owe, because the corporation is submitting its own records. If I am behind, enough for the tax man to really take an interest, surely he just orders the corporation to stop next year's dividend payout, and confiscates it to cover the taxes due.

This could get quite difficult in countries that attempt to tax one chunk of earnings multiple times, such as a tax on a person's net worth, or the notional appreciation of their non-liquid assets. Once somebody's moved their cash offshore - the clean cash, on which all the proper taxes have been paid - and continues growing that capital, either through deposit interest rates or stock market investments via offshore-based funds - it can be very hard to get a clear idea of just how much money they have at any one point. But Estonia only taxes actual income, at the point that it is converted to cash.

Leaving aside the issue of payroll taxes. Property taxes in most of Estonia are minuscule and only pay for the administration of the county clerk's office; this year, mine was too small for them to bother collecting. There is no inheritance tax. Capital gains of some types are charged as income - for example, buying a condo and selling it shortly after for more, if you can't prove that you actually lived there, the price difference is treated as income. I'm not sure how sales of artwork by private individuals are taxed, if at all. There is no car tax or pet tax, if we're getting really ridiculous.


I am genuinely interested. Is capital flight really an issue of loopholes, or simply of shoddy enforcement? I don't seriously believe the richest Estonians are paying their full share of tax, even though that share is the same as the rest of the country. I'm just trying to figure out the hole in my argument.


An investor won't abandon a working, profitable business just to avoid one year's tax. This is borne out by the convincing argument that the US has had tax rates of over 90% in the 20th century, and indeed, nobody's going to say, "if I make money on this deal, I'll have to give a lot of it to the government; so out of spite, I'll leave the deal and make no money at all!"

And to the French captains of industry: Welcome to Estonia! Our income tax is 21%, for everyone. And if we have to, we can learn to cook our snails and frogs.

On Balance

1) Estonia's contribution to EFSF: 555 million euros in guarantees.

2) Estonia's contribution to ESM: 150 million euros in guarantees.

3) EU structural funds actually paid out, out of those assigned to Estonia for the 2007-2013 period: 1 643 524 431 euros (1.65 billion).

Yeah... we might want to shut the fuck up about the Greek bailout and do what Miss Merkel says.

Progressive Income Tax and You

I love hard data.

Here is a little website where you can input your current net salary (per month), and see how much less/more you would be paying under the progressive income tax proposals of SDE and the Center Party.

What I would also love to see is the impact of this on the budget, but unfortunately there is probably no way to get a breakdown of taxes paid by each resident (even if it's just a list of numbers, with no personally identifiable information). I'm sure the Tax Board has that info, and I would love it if they made the calculations and published the results, but I doubt they will. So I tried a very, very approximate method to get something vaguely resembling useful numbers.

The most relevant numbers I can find in the Statistics Database are the total amount of personal income tax paid into the state budget (191 728 390 Euro) and municipal budgets (584 706 720 Euro) in 2010. This table shows the average number of persons engaged in each industry, adjusted for fulltime work, and this one shows the average net and brute salary for the same industries (both tables show data for Q3 2010).

If there are any statisticians in the audience, please tell me if I've got the logic heavily wrong somehow. I took the number of employees in each industry, and the net wage for that industry; then used the net wage with the link above to calculate the impact.

Click the image to see the full-size version.

So for the wages listed above, alone, it seems that the Social Democrats' progressive income tax plan will result in an increase of budget revenues of around 3 million euro per year; whereas the Center Party's plan, which actually cuts the tax rate for the lower income bands, will result in a loss off around 638 thousand euro per year in budget revenue.

Of course, these numbers do not include income tax generated from corporate dividends and investment income, but those numbers are far harder to find. But they would not make a significant impact on the magnitude of the budget impact. Remember that the total revenue from personal income tax in 2010, for the state and local budgets, was 191 728 390 + 584 706 720 = 776 435 110 euro. Whereas the people in the table, together, would have paid 701 085 072 Euro in flat income tax, adjusting for the untaxable minimum.

Again, all these numbers are very approximate. As always, if you can point me to the right data, I'll appreciate it.

How well off are Estonia's pensioners?

A bit of number-crunching for you. I was just watching the new Have I Got News For You, and it mentioned that the new UK government was raising old-age pensions, to a flat rate of 140 pounds per week.

That's 20 pounds per day, or 600 pounds per month for ease of calculation - about 10 823 kroons. The Estonian statistics database tells me that the average old-age pension in Estonia was 4 766 EEK in the second quarter of 2010.

Of course, the cost of living is higher in the UK as well. I've yet to find a clear source of data for actual Purchasing Power Parity coefficients between countries, the closest data is GDP by PPP - and using absolute GDP numbers, you can use that to determine actual PPP factors. But an easier comparison is The Economist's Big Mac index. Here's the latest historical data: a Big Mac costs the equivalent of 3.68 USD in Britain, and 2.85 USD in Estonia. This gives us a factor of 1.29. So, the cost of living in the UK is 29% higher than in Estonia.

For a UK pensioner to have the same purchasing power in Estonia as they enjoy in the UK with this new increase, they would only need 8390 EEK. 

So on average, British pensioners are 76% better off than Estonian ones.

I'd love to compare working people's relative wealth as well, but the UK doesn't seem to be publishing good wage statistics - the closest I got was this, which is a bit out of date, and only reports gross numbers. If a reader can point me at a better source of numbers, I'd appreciate it.

The Krugman Fallacy

This started as a Facebook comment, but got long enough to post as a separate article on here.

It's in reply to an editorial by Paul Krugman in the NY Times:

The key thing to bear in mind is that for the world as a whole, spending equals income. If one group of people — those with excessive debts — is forced to cut spending to pay down its debts, one of two things must happen: either someone else must spend more, or world income will fall.

Krugman's being disingenuous. He says that globally, spending equals income, and if you don't spend, others don't get income; and that people with high debt levels stop spending, which is a Bad Thing(tm).

However, where does the borrowed money come from? Either from "quantitative easing", which means it really does come from nowhere, or from capital markets, which is money that was saved and invested (i.e. not spent) by others.

Spending your way out of a recession is a short-term fix. Long-term, the world needs fiscal responsibility (not necessarily austerity, but responsibility), so that people do save money and put it into banks and treasury bills, so that the capital markets do have liquid cash to lend to businesses. 

(The severity of the financial crisis was not due to a lot of lost money - it was due to the financial institutions' unwillingness to extend credit to businesses, even ones in good fiscal shape. Global business does not work on cash up front, it works on promises backed by banks, and when banks stop supporting the promises, the entire machinery seizes up. That was the main problem - the billion-dollar losses only impacted the banks' employees and shareholders.)

In this crisis, quantitative easing kinda-sorta did the job it was supposed to, in the short term. But its usefulness is limited to emergency relief. If you keep pumping liquidity into capital markets via quantitative easing, you just get hyperinflation.

Krugman says that government should pump money into the economy, if the private sector is too scared to spend. That's fine, but where does the money come from? Either from quantitative easing, which has been stretched to the limits already (because that's what the US and the Eurozone have been doing), or from capital markets. Where do capital markets get the money? Either from quantitative easing, or from private sector savings.

Krugman's advice for the US is to spend on public works, driving up internal consumption. That's money that will never be compensated by liquidity gathered from outside the US economy. (Germany pumped money into its economy briefly, before switching to austerity; and it actually managed to stimulate industrial production and export growth. The tax revenue from that, the influx of liquid cash into the German economy, will probably outweigh the money spent on the stimulus.)

Krugman advocates debt relief for homeowners, saying that it will do less damage to the economy than mass foreclosures. He's technically right, but the argument doesn't reflect the big picture: without great damage, there will be no change in behavior, and without a change in behavior, the mistakes that led to the global crisis will simply be repeated.

You can blame the greedy and unethical investment bankers all you want - and don't get me wrong, they are complete bastards and deserve every last morsel of hatred they are getting - but all of their evil schemes would never have worked if it was not for the greed and short-sightedness of the everyday consumer, who wants a McMansion and a BMW and a 60-inch plasma TV, and ignores the fact that he can't actually afford any of it. Politicians won't say it, for obvious reasons, but the underlying cause of the financial crisis is not the greedy lenders - it's the greedy borrowers.

The failure of the financial oversight mechanisms to prevent the bubble is so apparent because the mechanisms themselves are so obviously necessary: nobody ever actually expected the lenders to not be greedy. It was always assumed that their greed will expand to fill any available volume. That greed can be checked by two means: government regulation, and the common sense of the borrowers. Yes, government regulation failed. That is no excuse for borrowers to escape responsibility for their own common sense.

Back to Krugman's arguments. For capital markets, and by extension the globalized economy as a whole, to be efficient and healthy in the long term, there needs to be a supply of genuine assets, genuine liquidity. Any kind of deficit spending must be covered by money borrowed from people (or companies) who saved it. People who have actual asset-equivalent that is not being used right now, and can be given to someone else to use for a time.

These savings only appear when the private sector spends less than it earns. It's a crucial and irreplaceable component of a healthy financial system. It's not about morality, mr. Krugman - it's about mechanics.