Commentary

Making All of Europe ‘New’ Again

By Mart Laar
This article appeared in the Wall Street Journal Europe on May 3, 2004.

Many long-held dreams were finally realized on Saturday. The enlargement of the European Union saw eight countries from Central and Eastern Europe, along with Malta and Cyprus, return home after a long and eventful journey, reuniting the continent after 50 years of division. The enlargement has been hailed by some as the “end of history.” But while this is a historic occasion that offers a good opportunity to remember heroes of the struggle for freedom on the both sides of the Iron Curtain, the history of Europe is certainly not ending. In fact it is just beginning.

The effects of EU enlargement will go deeper than most people are predicting, changing Europe beyond recognition. From the core bureaucratic structure of the union itself, to fiscal policy and ideological identity, it will not be possible for the union to continue as before. The current structure will be unmanageable with 25 member states and will have to undergo a radical overhaul. The Common Agricultural Policy will have to be reformed, as there simply isn’t enough money to extend it to new member states in its present form.

Meanwhile, the enlarged EU will have to reconcile the low-tax, low-regulation economies of the incoming members with the high-tax, high-regulation policies in much of the existing union. This will be the great tension within the union over the next decade.

Nearly all the new member states — even those more inclined to the left — have introduced far-reaching and necessary economic reforms. They have undergone the most radical fiscal reforms and abolished most of their subsidies. They have privatized their economies and opened them to foreign investment. Social-security networks and pension systems have been overhauled. The role of agriculture in GDP has been dramatically decreased. The business climate in new member states is open, the labor market is not overregulated, the tax burden is low.

But if “old Europe” is to compete effectively with “new Europe,” it will have to lower taxes and rethink the social-welfare systems that high taxation supports. Ten years ago Estonia became the first country in Europe to introduce flat rate proportional personal income tax, a policy designed to energize our people and stimulate growth. It was a huge success. Latvia and Lithuania followed, then Russia, Ukraine and now Slovakia. We can only sit back and wait for the next dominoes to fall. It looks quite possible that within five years the whole of Central and Eastern Europe will move to flat-rate income taxes.

Such developments put pressure on old Europe, pushing down taxes in countries neighboring new member states, and so creating more room for investment and development. But this has also made old Europe nervous. Enthusiasts of social welfare see enlargement as a serious threat to European civilization, akin to the barbarian invasions at the end of the Roman Empire.

The welfare state is considered a core part of European identity, despite its negative impact on European competitiveness, and its long-term unsustainability. Swedish Prime Minister Goran Persson and German Chancellor Gerhard Schroeder have complained that the rich are not taxed heavily enough in new member states and are seeking to extend the EU’s power into areas of taxation and take away the national veto in a number of areas of regulation. Both of these would have a negative impact on the open economies of new member states.

The danger is that such moves will crystallize the problems inherent in the economies of current members and export them to EU level, interfering negatively with those economies that have increased competitiveness through radical reforms — reforms that have been suggested by every EU panel and expert group over the past decade, but which have been consistently rejected by European leaders for domestic political reasons.

Enlargement should be the catalyst that at last forces their hand. Europe’s economic malaise must be confronted if it is to compete with its global rivals. The Continent needs a clear vision and a new agenda for the 21st century. The enlargement should provide the impetus to work out this agenda and regain the momentum for reform. New member states are poor today and still bear the burden of their communist heritage, but if they stiffen their resolve and maintain their liberal approach and open economies they may succeed not only in improving their own countries and economies, but also in injecting all Europe with a new dynamism and momentum for reform.

It is essential that new members, along with Britain, resist attempts to introduce tax harmonization and increase the burden of regulation in the enlarged EU, sucking vibrant new members into the old stagnant Europe — a Europe that is slowly but steadily losing its importance in the world, and consistently lagging behind its global competitors economically. This is the moment when Europe can move in a new direction. If everybody dreaming of a new Europe works together, then they can do miracles. They can make all Europe new again.

Mr. Laar was prime minister of Estonia between 1992-1994 and 1999-2002.