Singapore: "Automatic Stabilizers" Done Right

Here's some rare praise for Singapore on the international scene. There're some merits to a strong government that isn't afraid to do what's fiscally correct and not what's politically expedient. Strong governments are needed to for harsh corrective measures. For instance, think of India's feticide problems: strong laws and active enforcement are needed to break the cruel cycle that roots in the unreasonable dowry each family pays for its girls to be married out, and which ends in active sex selection and feticide.

In a sense, Singapore's government really does strive for the best of both worlds - a strong government with pervasive societal influence and active spending on it's people but also pro-business.

Now, if only the Singapore government would release the wing-clips on the population's political maturity...different forms of government for different stages of a society's growth eh?

From Bryan Caplan @ Econlog,

Imagine my surprise, then, when I discovered that Singapore has figured out a stunningly clever way to use tax cuts to reduce unemployment. Instead of focusing on stimulating demand, Singaporean tax policy hits the margin that matters: labor costs. When there is a surplus of labor, they cut employers' share of the payroll tax (known in Singapore as the CPF). Details appear in Henri Ghesquirre, Singapore's Success:

The government directly intervened to temporarily lower the cost of business in Singapore through... its power to lower the CPF contribution rate of employers...

Elsewhere, substantial nominal currency devaluation is often the last and only resort in the face of downwardly sticky nominal wages, often with higher inflation as an undesirable side effect. In contrast, Singapore uses the direct intervention methods at its disposal. In addition, there is built-in wage flexibility, because an important portion of workers' remuneration is automatically lowered if GDP falls short of target.

With flexible wages, of course, it doesn't matter who legally pays the a tax. But the whole problem with recessions is that wages are somewhat sticky - you can have surplus labor for years before wages fall enough to restore full employment. By cutting employers' share of the tax, the Singaporeans greatly speed up the wage adjustment process.

We should expect the Singaporean system to work very well. Suppose we conservatively assume that labor demand elasticity is only -.4. Then a 1 percentage-point cut in employers' share of the payroll tax will roughly increase employment by .4 percentage-points. With a more optimistic elasticity of -1.0, every percentage-point cut in taxation would raise employment by 1 percentage-point. This approaches the Lafferian dream of tax cuts that fully pay for themselves. (In savings-obsessed Singapore, unsurprisingly, they also raise the payroll tax during booms).

The original article can be found here.