In order to illustrate the findings we have therefore compared two countries with totally opposite economic and fiscal policies: Belgium and Ireland.
n 1985, Ireland's economical situation was dramatic, and much worse than Belgium’s: excessive budgets deficits, weak growth performances, and a wealth that amounted to only 65% of the Belgian level. In addition, Irish unemployment outfigured the Belgian one by 17% to 10%. Until 1985 both countries followed similar Keynesian policies and let government spending derail. In 1983 Belgian public spending exceeded the psychological cape of 50% of the GDP...
This excessive spending was accompanied by a continuous increase of the tax burden, state debt, and much unproductive public spending. The negative spiral was initiated. On the graphics one notices that until 1980 Irish public spending evolved approximately similarly with the Belgian, and growth performances of both countries also paralleled.
In 1985 Ireland however changed policies dramatically. They drastically lowered the tax burden. All superfluous government spending was dropped, and in three years time the public spending was lowered with no less then 20%. In this way Ireland gave the start to a period of explosive wealth growth averaging 5.6% in the period 1985 until 2002. This is roughly the triple of the Belgian growth rate.
Belgium chose for a very different policy. Belgium barely lowered the tax burden at all, but tried to boost the economy with all sorts of micro-measures. Even under favorable cyclical conditions, public spending remained above the 50% GDP level. Under these policies, growth stagnated around the 1,9%. In 2003 the authorities still took 51.4% of the Bealgian wealth creation. In the meantime Irish Authorities had had pushed back public spending to 35.2% of GDP.
Today Belgian public spending is 46% larger than the Irish is, and the growth rate differential is accordingly. Although the Irish prosperity in 1970 was barely half Belgium's, today it is significantly larger.
As consequence of unequaled wealth growth Irish authorities today have large margins for all sorts of social, cultural and environment-initiatives as in absolute terms Irish government disposes of more resources than the Belgians do.
However, the Irish wealth is still felt best in purses of its citizens. The increase of the BNP/head by 167% in a 17-year period with an additional drop in the tax burden of one-third amounts to a multiplication of disposable income with no less than a factor 3.5. Can you imagine what this means?
One notices this wealth explosion when one visits Ireland in all aspects of daily life; one notices the unequaled optimism. Around Dublin, a forest of tower cranes limits the skyline. In the countryside new houses everywhere, the newest car models, modern factories and offices. One also notices it in the reorganization of people’s neighborhoods, and in the care they spend at the environment. The wealth is visible in the absence of criminality and in the view of unclosed cars. One reads also luck in the ey now climbes of people, in the birth rate, and in the welfare-ranking. In this ranking Ireland hased to number one as the most pleasant country in the world to live in.
Very impressive performance indeed. How does such a turnaround to a production policy happen in practice? Fundamentally, such production-stimulating policy consists of a substantial reduction of the tax burden on labor and on profit; in other words a decrease of direct taxes. This motivates people to go back to work: it stimulates to entrepreneurship, to dare to take risks, to perform some overtime or to delay retirement. Of course, this does not work with a vague promise for a minor tax cut sometime in the far future as is customary in many countries. Cuts must be felt immediately and they must be substantial.
Between 1985 and 2001 Ireland lowered the tax burden on wages from 37% in 1985 to 19.3% in 2001. They roughly halved the burden. In Belgium the burden on labor even slightly continued to rise from 46% in 1985 until 47.9% in 2001. Today the Belgian burden on wages is 2.5 times as high as the Irish. Does it surprises anyone that in Belgium nobody wants to do an hour overtime, and that businesses run away from the country in an ever faster rate?
However, it was the cut of the rates on company profits that led to the greatest improvement of the entrepreneurial climate. When Ireland was at the bottom its crisis in 1985 tax burden on company profits amounted to no less than 50%. In 2002, Ireland had reduced that tariff to 16%.
Belgian rate cuts on the contrary were marginal, and clearly insufficient to raise any effect at all. The recent decrease of their rates had to be "budgetary neutral" and were compensated by the limitations of many deductions. In fact, the cut was meant at dressing up internationally published rate tariffs, and had in fact no effect at all.
However, tax cuts mainly profit the rich is it not? This is exactly the misunderstanding of the ideologists of envy in many countries! Under a production stimulating policy, everyone is better off, and certainly not in the least the worker, unemployed or disadvantaged. Look at job creation and social expenditures. Since 1985 Ireland crated 31,2% new jobs. In Belgium with its so called social policies and its innumerable expensive employment measures they barely created 7,6%, and for a large part in government employments.
Does a rate cut not lead to a cutback of the social spending? A first misunderstanding is to suppose that rate cuts lead to lower tax receipts. Nothing is less true. Here the Laffer-effect comes into play. Every rate cut broadens the tax base because tax evasion and fraud becomes less profitable. The Flamisch government had already a small taste of the benefits of this Laffer-effect. Since they lowered inheritance rates, their tax receipts from inheritances have dramatically risen.
Morover one should remark that lowering inheritance rates does not motivate to die early. If governments cut rates on incomes however, they may expect the supplementary benefits of the so-called Armey-effects. Low rates on income motivate people to go back to work, to perform some overtime, to start their own business, or to delay retirement. This broadens the tax base still further. Moreover, the financial resources that flow back to the private sector are invested much more productively there than in the public sector.
Ireland has demonstrated the effectivity of the combined Laffer-Armey effects on direct taxes all to well. Its tax receipts have continued to rise as the tax burden went down.
A second miscalculation is to underestimate the dynamics of growth. As the percentage of the GDP Irish social spending roughly remained constant, just as as the case in Belgium, but the dynamics growth lead to an increase social spending in real terms with 118% between 1980 and 1998. In Belgium, this was barely 43%. Such a difference is felt all to well in the purse of the disadvantaged! Ireland has demonstrated that production-stimulating policy is in reality much more social than the Keynesian alternative, meant at boosting consumption.
