Taxation of Employers and Unemployment
In seeking solutions to high unemployment – one of Estonia’s most serious economic problems – the tax system and job market have fallen under the lens more and more often. In addition to structural factors, tax burden is a potentially significant factor influencing the level of unemployment. The article examines Estonia’s tax burden in an international context as well as the links between employment and taxation.
It is theoretically possible to increase employment by reducing tax rates, but only if certain conditions apply. In appraising the effect on possible tax changes, we must therefore consider many factors, the most important of which are given below.
One of the most important is the flexibility of the market and the competitive scene in various branches of the economy. Flexibility of the market is an important requirement for decreasing taxes, since it is one of the main factors that determines how great a burden taxes are on employers. Measures taken to increase flexibility can prove just as important as decreasing tax rates.
Second, it is important to consider how tax cuts will be covered. It is possible, for example, to reduce taxes and increase indirect taxation, with employees bearing the burden of indirect taxes. Though a growing burden of indirect taxes can eventually affect employees’ earnings, it would in the longer term offset the influence of changing the tax rate.
It is important from the standpoint of changes in employment how unemployment benefits or severance payments are taxed. A consideration in a person’s accepting a job offer is how much better than an unemployment check the money from wages is. If the personal income tax rate decreases on both unemployment insurance as well as paychecks, then the income from both sources will increase. A change in tax rates is more effective when the ratio changes.
The situation of minimum wage-earners has to be viewed separately, since in their case it is important whether an employee’s tax burden or employer’s tax burden changes. The employer’s taxes are harder to shift onto employees, since a smaller wage than the minimum cannot be paid out and the growth of the minimum wage over time does not depend on the employer. The negotiating position of minimum wage-earners is also likely to be weak. Decreasing social taxes in the case of this group will decrease unemployment (the effects will be felt in decreased employers’ expenditures and the demand for employment will increase) while decreasing the income tax will not affect employment (the employee would have a higher net income, since it would not be possible to decrease the gross income so that net income remained the same). It must also be considered that, in Estonia, the tax burden at the minimum wage level is much lower than at the average wage level, and thus any change would be less significant.