Estonia – tax system role model for transition economies”
Mart LAAR,
Prime Minister of Estonia

Ladies and gentlemen,
First of all, I would like to thank the Taxpayers Association of Europe for the great honour of nominating me. The award I received today is the mark of success that Estonia has achieved in the build-up of a sound tax system and state finances. This award is intended to those people in Estonia who have been involved in the set-up and implementation of our tax - system. I would like to stress that there has been political consensus not only in the state-finances, but in the whole economic policy implementation, regardless the political cycle and parties in power.
Designing our economic policy all governments in Estonia has followed Milton Friedman’s ideas of liberalism. Especially in a transition country, where the economy has to move from a fully government-controlled system to a market based one, it is very important to free the private initiative and give freedom of action to create economic value. The government must not punish entrepreneurial people; it has to encourage them, also through the tax system. The government must ensure the fair play only.
Let me go through our tax-system briefly. The flat income tax rate for both enterprises and private persons are already well known. As I have noticed, this idea is gaining support also in some of our European colleagues in recent years. Well known is also that since the beginning of last year, the enterprises pay the income tax only on dividends – a decision that is quite unprecedented in the world. Reinvested earnings are not subject of taxation because in our opinion, this is the money that goes to the creation of new value in our economy, something that Estonia really needs.
While being liberal in the tax-system design, we are very conservative in our fiscal policy! This approach has kept the state debt within 5% of GDP. We have left room for our private companies to borrow. And these are not just words. All the main rating agencies have upgraded their ratings for Estonia step by step, as they have come to believe that the strict fiscal policy will last for long period.
We did not privatise in order to get money to the government pockets to finance next day’s expenditures. We privatised because we see that private capital is more efficient to manage our enterprises. And the privatisation money will be realised to finance the second-tier structural reforms, especially the pension reform.
The public sector has to be as small as possible indeed, but we have to take into account the socio-economic situation. So we have to solve a difficult optimization exercise on how to keep the state participation in the economy as small as possible and still keep a social balance. Here, the government has to find the optimal way of allocating spare resources. A good way to save money for this is to provide our people with all government services through internet. One example of this is the Internet-based tax board that has won quite a lot of popularity among our people. Last year, approximately twelve thousand private persons and forty-five hundred enterprises declared their incomes through the Internet.
Talking about the fiscal policy outcome, the overall tax burden is now 34,6% of GDP, down from 36,4% in 1998. Having experienced the shock of the Russian crisis that on one hand, pushed the whole economic system towards western countries, but on the another hand, increased the budget deficit to minus 4,7% of GDP, the public sector deficit was back to around 1% of GDP last year and as the budget bill foresees, balance this year.
What are the implications of such an economic approach to the macroeconomic development? Thanks to overall liberal approach of the policy, Estonia’s economy has turned its face almost entirely to the west. Our export is noteworthy 100% of GDP and pushes the whole economic growth in the range of six to seven percent annually. The main article that we sell in west Europe markets is not low-value timber and other raw material, but telecommunication technology, especially mobile phones and their components.
Dear friends. The more Estonia moves ahead on the road of European integration, the more we ask ourselves: why does the European Union need us among the member states? What can we offer to Europe, so that the benefits of our accession will be there for the Union as well? The answer is that we have to offer new ideas, new solutions, and new opportunities. We believe that the tax-system and internet-based tax board that I described above is one example of that. I would like to mention one more thing: the new electronic system of the government meetings that we launched last summer. The so-called e-government is not a decoration. This is a way to save money. Its implementation costs were one hundred sixty thousand euros. Considering only the huge load of paper saved, we cut our costs at least sixty thousand euros annually.
Ladies and gentlemen! My first government that took power in 1992 had a slogan: ”clean the house”. We did it! Now, a foreign journalist has described Estonia: ”the Little Country that Could”. I believe we deserved this title and we will keep it!
Thank you for your attention.