Kolodko: 'Everything can be done better'
A graduate in economics from Warsaw's elite Central School of Planning and Statistics (SGPiS), Kolodko has worked both in academia and as a public servant. He served as advisor to the president of the National Bank of Poland from 1982-1988, as consultant to the International Monetary Fund and has written several books on economic policy.
Assuming his current post after an overwhelming Democratic Left Alliance electoral victory in 1993, Kolodko was assigned to weave a policy of economic stability and at the same time minimize social costs. He is outspoken and proud and, as such, has been heavily criticized. "I don't ask if I like the job or not," Kolodko said following the interview with WBJ staff writer Sean Bobbitt. "It's a mission for me."
Q: What key issues must be addressed in the 1996 budget?
A: Our Parliament has just accepted the report of the implementation of last year's budget. We brought the fiscal deficit down to 2.8% of GDP. As for this year, the fiscal stance is pretty firm. We are aiming again to keep the fiscal deficit below 3%, which means that for the third year in a row Poland is meeting the Maastricht agreement. These ratios are accompanied by falling inflation, which is below 24% in September (year-on-year), and is aiming for 21, 22% by year end. Inflation's supposed to be brought down to 17% at the most by end year 1996.
On the structural side, the biggest problem is reform of the social security system. This week our Parliament has to adopt a new law which would change the rules of indexation for the pensions, but only for the next year, and therefore, when we return we'll put on the agenda the whole reform of the system. We are going to get rid, step by step, year by year, of the pay-as-you-go system. Because on the side of the state budget, the state social security system is still very heavily subsidized by taxpayer money. This is my No. 1 client. My No. 2 client is health care, and the third is education.
I'm trying to shift some resources within the budget for export and growth promotion.
Now there is some discussion within the Parliament about taxation - no one should expect any major changes for next year. My effort is to stabilize the system. What we are asking our Parliament is first to extend the deduction of capital gains for next year, which is supposed to contribute to the further development of the capital market. Secondly, I asked the Parliament to decrease several import taxes, the surcharge tax imposed on imported consumer goods - 5% this year, and next year the government proposal is to decrease this to 3%. This, of course, will hurt part of Polish enterprises, private and public alike, for some of their international competition, but I feel that improving strong micro- and macroeconomic positions will make these enterprises able to compete in the future.
My strategic goal is to bring inflation down to one digit by 1997, to keep the fiscal deficit below the Maastricht criteria of 3% of the GDP and to bring the public debt below the Maastricht criteria of 60% ... (which) is to be met this year. This proves that we are very serious as far as our drive toward full-fledged membership within the European Union is concerned.
Due to the fact that in the meantime there is also the presidential campaign, I don't have any doubts that the budget discussion will be very colorful, lively and conflict-prone - but I'm in a position to overcome these things.
Q: So you're actually planning to push the Parliament to take some of these measures.
A: I wouldn't say that I'm trying to push the Parliament, because we are a democracy. I'm to serve my country, my society and I'm obliged to serve the law, which will be imposed by the Parliament. But I will insist, I will try to argue, I will try to convince that this budget is a good budget for economic development and macroeconomic stabilization and, of course, for the majority of the Polish society, because in the budget we guarantee real wage growth of white collar workers, which is significant and is now guaranteed in the draft budget at 5.5% real growth in white collar workers' remuneration.
Q: Poland's economic growth has been stronger than planned, exceeding presumptions set for the 1995 budget. But this is the first year that the assumptions concerning the inflation rate are exactly the same as last year. What can be done to bring inflation down?
A: The first year of strategy for Poland, 1994, looked like a really Polish miracle - the rate of inflation fell down, from 37.6% in December 1993 over December 1992 to 29.5%. The biggest improvement has happened on the current-account side. It was brought down from -2.7% of GDP in 1993 to -1.4% in 1994. What's going on in 1995? The rate of growth accelerated again. But of course, it may be a little bit lower in 1996, and of course, everybody will be screaming, 'Oh, the economy is slowing up.' No, I expect the rate of growth of GDP to be at this year 6.5% and next year at say '5.5%,' which is a remarkable achievement. As for rate of unemployment, here is significant progress, brought down by two percentage points this year. With such an achievement on the growth side and employment side, (inflation) was brought down from 29.5% to 24% already in September, and I expect 21, 22%. It depends what action will be taken on the money-supply side by the central bank. On the government side, I've done almost everything that is under my control as Minister of Finance, Deputy Premier in the government. But always as I say to my students and to my daughters and to my work staff, "Everything can be done better, or in a more efficient way."
We have problems with an excessive rate of growth of the foreign reserves and lack of ability to take advantage of these reserves by monetary policy. This is what we studied, we discussed, we solved, but unfortunately, this discussion is also engaged in this political debacle due to the fact that the acting governor of the central bank is a running mate on the extreme conservative Christian National Party. That doesn't make things easier, but the election is in only two months. I hope we come to a good coordination of the monetary and fiscal policy.
So inflation is stubborn, but I might say that this is quite a success E considering that at the same time there is a growth of real GDP during these two years 1994-1995: altogether by at least 12%, industrial output by 25%, export in terms of dollars last year by plus 20%, this first semester of the year by 40%, and we are breaking down the rate of unemployment.
When I proposed my Strategy for Poland to the Parliament some of the labor unions and politicians were claiming that one is bringing down the rate of inflation or rate of unemployment, but not both at the same time.
Q: Do you feel there's a danger of Poland joining the group of countries suffering from a chronic, moderate rate of inflation?
A: No. We are talking precisely two years after the general parliamentary elections. And the Poles decided that this particular coalition of the left-wing alliance (SLD) and the Peasants Party are now the majority of Parliament. And I may only quote one of my predecessors, currently leader of the Freedom Union, that this would be the government of the "creeping destruction." Or I may quote Mr. Bielecki, one of the previous Prime Ministers ... that by the spring inflation would be running 300%. Or at that time the representative of Poland to the European Bank for Reconstruction and Development, who said, "that is going to be the government of the National Catastrophe." Take a look. This is the government of the successful start of the Polish economy - of the soaring eagle of Europe. From the outside, the picture of Poland is a bit more colorful than inside.
So now we get back to inflation. We are not doing any shock therapy, because my strategy is to sustain export-led growth of 6%-7% annually for years to come to close the gap between Poland and the European Union in terms of a generation or so. Is it feasible to bring inflation down even farther? Yes, but the social costs would be much higher, and maybe would be unacceptable. And one had to distinguish between this political blah, blah, blah, theoretical discussion how the thing should work, or do work during this state of transition from planned to market economy ... The inflationary potential, the inflationary pressure is a very big one. It's quite like rafting white waters. One has to keep paddling, one has to push. Of course, paddling white water in Alaska is much more appreciated than fighting cataract inflation in Poland, especially since I have to hear each day that I don't know anything, that I don't understand anything, that I want to kill the Polish army, Polish agriculture, health care, education, science and so on. No, I'm trying to keep inflation down while allowing for development. This is a very tricky game.
Q: You said also that you're promoting export-led growth. It seems that the NBP also wants to protect exports by not allowing the zloty to appreciate.
A: This is not true. This is our policy, and the NBP has nothing to do with sustaining economic growth. The central bank in each country is responsible for inflation. Money supply, i.e. inflation. OK, I've taken my part of the responsibility for inflation. And I brought inflation, January-August, down a cumulative 13%. Money supply growth - and I have nothing to do with money supply - is 21%, and this is the driving force behind Polish inflation. And now there is the pressure for the appreciation of the Polish currency. But because we would like to sustain growth being led by exports, our policy is not to allow for such an appreciation, but so far there was, or has been, 6% appreciation due to the decisions of the central bank. This is an independent institution. I do respect this, and we adjust our policy to what the central bank is doing.
There is a trade-off between the rate of growth of export, industrial output, unemployment and so on, and money supply - the growth of foreign reserves, money supply, inflation. How to combine these contradictory targets in the medium and long run - this is the question. And now, of course, there is the question of how to manage the exchange rate policy, but I think that the answer to this question has to be linked always with the other part of monetary policy, which is the interest rate policy which should be forward-oriented not backward-oriented. It has already been announced by the central bank that they are going to decrease the interest rate. And I think that this will be very much welcomed by investors, especially the Polish investors, and of course, by the government, because there is the room for downward adjustment of the interest rates for very many months already.
Q: You mentioned the elections before. What type of economic policies would you expect from the top three presidential candidates?
A: Well, there are really only two candidates which have an economic program - Mr. Kwasniewski and Mr. Kuron. The rest of them have no real plan on the economic side. What Poland needs is a man - a man who will be ready to carry out my Strategy for Poland.
Q: You also said that you're planning to keep the income tax rates at the current level.
A: I personally would like to bring it down, but only if the Parliament is ready to bring down expenditures. I made an effort last year, and I failed unfortunately, with bringing down these taxes, and this time is the worst time to start a discussion again with simultaneous postulates within the coalition and opposition to raise the expenditures. It would only cause destabilization of public finances, which are better and better but still are not perfect.
Q: Higher tax rates can result in lower tax revenue for the state budget. That's the Laffer Curve theory. Do you subscribe to it and to supply-side economics?
A: As a driving force of history, yes. You know, when I teach my students or am lecturing in the States, I'm saying the same story. But in real life, (this) definitely (doesn't happen) in a year or two. I may say that maybe in a generation, if we bring taxes down to a dozen or so percent, there may be less incentive to make an effort or take a risk to tax avoidance or tax evasion. As far as the shadow economy is concerned, using the means of stick and carrot, we are slice by slice bringing them in - the number of VAT taxpayers, the number of small and medium enterprises in the private sector. And the process of absorption of the gray or shadow economy is going on. Always when there is a budget discussion this issue is being brought again to the fore. For what reason? To accuse, to blame the government that we are doing nothing or not enough. I'm not saying that we are doing enough. We are doing as much as we can. We are making an effort to absorb the shadow economy, and nobody likes it. There is a great feeling that we are driving these businesses into the shadow economy. No, we would simply like to shift from direct taxation to indirect taxation. In indirect taxation there is no shadow economy. Because if one is drinking coca-cola, one is paying indirect tax. If one is taxed only directly, they may try to avoid it. Of course, in the long run, there is an effort to bring taxation down.
Assuming his current post after an overwhelming Democratic Left Alliance electoral victory in 1993, Kolodko was assigned to weave a policy of economic stability and at the same time minimize social costs. He is outspoken and proud and, as such, has been heavily criticized. "I don't ask if I like the job or not," Kolodko said following the interview with WBJ staff writer Sean Bobbitt. "It's a mission for me."
Q: What key issues must be addressed in the 1996 budget?
A: Our Parliament has just accepted the report of the implementation of last year's budget. We brought the fiscal deficit down to 2.8% of GDP. As for this year, the fiscal stance is pretty firm. We are aiming again to keep the fiscal deficit below 3%, which means that for the third year in a row Poland is meeting the Maastricht agreement. These ratios are accompanied by falling inflation, which is below 24% in September (year-on-year), and is aiming for 21, 22% by year end. Inflation's supposed to be brought down to 17% at the most by end year 1996.
On the structural side, the biggest problem is reform of the social security system. This week our Parliament has to adopt a new law which would change the rules of indexation for the pensions, but only for the next year, and therefore, when we return we'll put on the agenda the whole reform of the system. We are going to get rid, step by step, year by year, of the pay-as-you-go system. Because on the side of the state budget, the state social security system is still very heavily subsidized by taxpayer money. This is my No. 1 client. My No. 2 client is health care, and the third is education.
I'm trying to shift some resources within the budget for export and growth promotion.
Now there is some discussion within the Parliament about taxation - no one should expect any major changes for next year. My effort is to stabilize the system. What we are asking our Parliament is first to extend the deduction of capital gains for next year, which is supposed to contribute to the further development of the capital market. Secondly, I asked the Parliament to decrease several import taxes, the surcharge tax imposed on imported consumer goods - 5% this year, and next year the government proposal is to decrease this to 3%. This, of course, will hurt part of Polish enterprises, private and public alike, for some of their international competition, but I feel that improving strong micro- and macroeconomic positions will make these enterprises able to compete in the future.
My strategic goal is to bring inflation down to one digit by 1997, to keep the fiscal deficit below the Maastricht criteria of 3% of the GDP and to bring the public debt below the Maastricht criteria of 60% ... (which) is to be met this year. This proves that we are very serious as far as our drive toward full-fledged membership within the European Union is concerned.
Due to the fact that in the meantime there is also the presidential campaign, I don't have any doubts that the budget discussion will be very colorful, lively and conflict-prone - but I'm in a position to overcome these things.
Q: So you're actually planning to push the Parliament to take some of these measures.
A: I wouldn't say that I'm trying to push the Parliament, because we are a democracy. I'm to serve my country, my society and I'm obliged to serve the law, which will be imposed by the Parliament. But I will insist, I will try to argue, I will try to convince that this budget is a good budget for economic development and macroeconomic stabilization and, of course, for the majority of the Polish society, because in the budget we guarantee real wage growth of white collar workers, which is significant and is now guaranteed in the draft budget at 5.5% real growth in white collar workers' remuneration.
Q: Poland's economic growth has been stronger than planned, exceeding presumptions set for the 1995 budget. But this is the first year that the assumptions concerning the inflation rate are exactly the same as last year. What can be done to bring inflation down?
A: The first year of strategy for Poland, 1994, looked like a really Polish miracle - the rate of inflation fell down, from 37.6% in December 1993 over December 1992 to 29.5%. The biggest improvement has happened on the current-account side. It was brought down from -2.7% of GDP in 1993 to -1.4% in 1994. What's going on in 1995? The rate of growth accelerated again. But of course, it may be a little bit lower in 1996, and of course, everybody will be screaming, 'Oh, the economy is slowing up.' No, I expect the rate of growth of GDP to be at this year 6.5% and next year at say '5.5%,' which is a remarkable achievement. As for rate of unemployment, here is significant progress, brought down by two percentage points this year. With such an achievement on the growth side and employment side, (inflation) was brought down from 29.5% to 24% already in September, and I expect 21, 22%. It depends what action will be taken on the money-supply side by the central bank. On the government side, I've done almost everything that is under my control as Minister of Finance, Deputy Premier in the government. But always as I say to my students and to my daughters and to my work staff, "Everything can be done better, or in a more efficient way."
We have problems with an excessive rate of growth of the foreign reserves and lack of ability to take advantage of these reserves by monetary policy. This is what we studied, we discussed, we solved, but unfortunately, this discussion is also engaged in this political debacle due to the fact that the acting governor of the central bank is a running mate on the extreme conservative Christian National Party. That doesn't make things easier, but the election is in only two months. I hope we come to a good coordination of the monetary and fiscal policy.
So inflation is stubborn, but I might say that this is quite a success E considering that at the same time there is a growth of real GDP during these two years 1994-1995: altogether by at least 12%, industrial output by 25%, export in terms of dollars last year by plus 20%, this first semester of the year by 40%, and we are breaking down the rate of unemployment.
When I proposed my Strategy for Poland to the Parliament some of the labor unions and politicians were claiming that one is bringing down the rate of inflation or rate of unemployment, but not both at the same time.
Q: Do you feel there's a danger of Poland joining the group of countries suffering from a chronic, moderate rate of inflation?
A: No. We are talking precisely two years after the general parliamentary elections. And the Poles decided that this particular coalition of the left-wing alliance (SLD) and the Peasants Party are now the majority of Parliament. And I may only quote one of my predecessors, currently leader of the Freedom Union, that this would be the government of the "creeping destruction." Or I may quote Mr. Bielecki, one of the previous Prime Ministers ... that by the spring inflation would be running 300%. Or at that time the representative of Poland to the European Bank for Reconstruction and Development, who said, "that is going to be the government of the National Catastrophe." Take a look. This is the government of the successful start of the Polish economy - of the soaring eagle of Europe. From the outside, the picture of Poland is a bit more colorful than inside.
So now we get back to inflation. We are not doing any shock therapy, because my strategy is to sustain export-led growth of 6%-7% annually for years to come to close the gap between Poland and the European Union in terms of a generation or so. Is it feasible to bring inflation down even farther? Yes, but the social costs would be much higher, and maybe would be unacceptable. And one had to distinguish between this political blah, blah, blah, theoretical discussion how the thing should work, or do work during this state of transition from planned to market economy ... The inflationary potential, the inflationary pressure is a very big one. It's quite like rafting white waters. One has to keep paddling, one has to push. Of course, paddling white water in Alaska is much more appreciated than fighting cataract inflation in Poland, especially since I have to hear each day that I don't know anything, that I don't understand anything, that I want to kill the Polish army, Polish agriculture, health care, education, science and so on. No, I'm trying to keep inflation down while allowing for development. This is a very tricky game.
Q: You said also that you're promoting export-led growth. It seems that the NBP also wants to protect exports by not allowing the zloty to appreciate.
A: This is not true. This is our policy, and the NBP has nothing to do with sustaining economic growth. The central bank in each country is responsible for inflation. Money supply, i.e. inflation. OK, I've taken my part of the responsibility for inflation. And I brought inflation, January-August, down a cumulative 13%. Money supply growth - and I have nothing to do with money supply - is 21%, and this is the driving force behind Polish inflation. And now there is the pressure for the appreciation of the Polish currency. But because we would like to sustain growth being led by exports, our policy is not to allow for such an appreciation, but so far there was, or has been, 6% appreciation due to the decisions of the central bank. This is an independent institution. I do respect this, and we adjust our policy to what the central bank is doing.
There is a trade-off between the rate of growth of export, industrial output, unemployment and so on, and money supply - the growth of foreign reserves, money supply, inflation. How to combine these contradictory targets in the medium and long run - this is the question. And now, of course, there is the question of how to manage the exchange rate policy, but I think that the answer to this question has to be linked always with the other part of monetary policy, which is the interest rate policy which should be forward-oriented not backward-oriented. It has already been announced by the central bank that they are going to decrease the interest rate. And I think that this will be very much welcomed by investors, especially the Polish investors, and of course, by the government, because there is the room for downward adjustment of the interest rates for very many months already.
Q: You mentioned the elections before. What type of economic policies would you expect from the top three presidential candidates?
A: Well, there are really only two candidates which have an economic program - Mr. Kwasniewski and Mr. Kuron. The rest of them have no real plan on the economic side. What Poland needs is a man - a man who will be ready to carry out my Strategy for Poland.
Q: You also said that you're planning to keep the income tax rates at the current level.
A: I personally would like to bring it down, but only if the Parliament is ready to bring down expenditures. I made an effort last year, and I failed unfortunately, with bringing down these taxes, and this time is the worst time to start a discussion again with simultaneous postulates within the coalition and opposition to raise the expenditures. It would only cause destabilization of public finances, which are better and better but still are not perfect.
Q: Higher tax rates can result in lower tax revenue for the state budget. That's the Laffer Curve theory. Do you subscribe to it and to supply-side economics?
A: As a driving force of history, yes. You know, when I teach my students or am lecturing in the States, I'm saying the same story. But in real life, (this) definitely (doesn't happen) in a year or two. I may say that maybe in a generation, if we bring taxes down to a dozen or so percent, there may be less incentive to make an effort or take a risk to tax avoidance or tax evasion. As far as the shadow economy is concerned, using the means of stick and carrot, we are slice by slice bringing them in - the number of VAT taxpayers, the number of small and medium enterprises in the private sector. And the process of absorption of the gray or shadow economy is going on. Always when there is a budget discussion this issue is being brought again to the fore. For what reason? To accuse, to blame the government that we are doing nothing or not enough. I'm not saying that we are doing enough. We are doing as much as we can. We are making an effort to absorb the shadow economy, and nobody likes it. There is a great feeling that we are driving these businesses into the shadow economy. No, we would simply like to shift from direct taxation to indirect taxation. In indirect taxation there is no shadow economy. Because if one is drinking coca-cola, one is paying indirect tax. If one is taxed only directly, they may try to avoid it. Of course, in the long run, there is an effort to bring taxation down.
