Economic transformation and the fiscal crisis : a critical look at the Central European experience of the 1990s

The authors argue that traditional explanations of the fiscal crisis in reforming ex-socialist economies overlook crucial connections between key components of the deficit - particularly between reductions in spending and declines in revenues. Almost all studies of the fiscal aspects of the transition stress the impact on the fiscal budget of the performance crisis in state-owned enterprises. The authors contend that this aspect of the fiscal crisis has been overstated. The enterprise sector's net contribution to the government budget - that is, net income from profit taxes after subtracting subsidies - has increased during the transition in Czechoslovakia and Poland and has not changed substantially in Hungary. After reexamining the data, the authors argue that although the fiscal crisis is certainly structural, the main blame should be attributed to the explosion in spending (especially social spending) rather than to the crisis in revenues. Many of the social costs of adjustment were previously hidden within the state-owned enterprises system. These social costs include unemployment benefits and the cost of supporting - through pensions or social assistance - the people displaced from the work force by the transformation. It is important to continue reforming the tax system and tax administration - to deal with the widespread hiding of profits and cheating on taxes - but all three countries already have relatively high levels of taxation. Society in the three countries may not be willing to provide the resources required to support or extend current spending levels.