Why Get Rid of Investment Stimuli?

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The investment incentives (part of state aid) are like a looser relative at a family meeting. Nobody is too excited to see him, but everybody is accepting that he has to be there. Every single economist will confirm that the incentive represents market disorder. Since the majority of incentives are represented by tax relief, granting them is kind of a silent confession that companies benefit from lower taxes.

Let’s put the fact that the incentives in Slovakia often end up in the hands of “well-known companies“ aside and let’s take a look at their economic effect. The fulfillment of social objectives, especially reducing (or unfortunately maintaining, in the latest period) unemployment rate in a poor region are mainly used as a justification of using incentives. But is this what it is truly about?

The European Commission approved the aid for the Duslo because “In the region of Šaľa, there is high unemployment and the life standard is lower than it is in the rest of the European Union“. That is correct, Šaľa belongs to the region NUTS2 Západné Slovensko (Western Slovakia) which is, in terms of unemployment rate, above the European average. The Commission couldn’t do anything else, it is just like an officer who considers the formal side of the decision. But when we focus only on Slovakia, things are different. The Šaľa county has the unemployment rate significantly below the Slovak average (8.37% against 12.25%), so do all the other surrounding counties, with the exception of one. Šaľa county has even lower rate of unemployment than the average in the European Union.

This is not an exception. Two years ago INESS prepared a study in which we have analyzed data about investment incentives in Slovakia for the period 2002–2012. And are incentives aimed at poor regions? Not at all. Out of 128 incentives, 67 were directed at the regions with below-average unemployment rate.

There was even greater disparity in other indicators. The richer regions got incentives in the amount of more than EUR 950 million while the poorer got only 430 million. In the regions with unemployment below the average, 29,339 new job places were planned to be created in the supported investments, while in the regions with unemployment above the average only 16,007 jobs.

Economic convergence of Slovak regions has not materialized until recently. Five counties with the highest unemployment in 2002 were the same ones with highest unemployment in 2014. The Šaľa case shows that even endless modifying of Slovak state aid laws did not change a lot. The incentive is going to the rich region and the goal is not even to create but only to maintain the current number of jobs.

Yet, the aim of jobs’ creation is not relevant from the economical point of view. Number of jobs is in no way the indicator of the investment quality. The objective of business activity is to create an added value thus to combine inputs with market value of EUR 100 to produce a product with market value of EUR 120. The project of digging holes in the ground and then filling them up can create thousands of job opportunities. But from the point of view of the whole economy, this is going to be just a waste of scarce resources.

Investment incentives cannot be tuned. They cannot be justified by job creation in underdeveloped regions. They can only be cancelled.

Nonetheless, there is an alternative to investment incentives It is politically more difficult but much more beneficial for the economy – it is called improvement of business environment. An empty economic phrase, one may say, but a phrase behind which every entrepreneur can recognize weeks of fights with bureaucrats, taxmen, courts and public agencies.

Translation: Marek Šlesár