European Taxes and Skilled Labor

The tax system in Europe and in the United States differs greatly.  America adopts a system based on low income (capped at 35%) and social taxes, with high corporation taxes (35%), while Europe used the opposite, with high income (capped at 45%) and social taxes, and low corporation taxes (15% in Germany).  At a quick glance, this seems to help European corporations by charging them lower taxes, but does it really?  

In the American system, companies pay more of their profits, but must also spend lower money on wages to give its employees the same net income.  Also, with lower social taxes (1.45% for Medicare and 6.045% for social security up to 6,045 USD), it fosters giving many jobs, because each individual costs the company little in this kind of taxes.  Since the corporations income taxes are high at 35%, it promotes paying high wages to qualified employees because they will produce more for the company.  If an american company raises the wage of an individual already making over 100,000 USD per annum by 100 dollars, it really only increases the cost to the company by 66.55 USD, because it saves money on taxes by having a lower income.  I reached this number because after 100,000 USD per year, social security tax does not increase, as it is capped, and Medicare still costs 1.45%, so by lowering their income by paying 100 extra dollars, they save 35 Dollars in income taxes, and must pay 1.45 Dollars in Medicare tax.  This system also promotes charitable contributions in order to gain tax breaks.  A 100 Dollar increase on a salary of less than 100,000 USD, would cost the company 72.595 USD, because the Social Security tax would still be in effect, costing the company slightly more.

In the European system, lower income taxes mean that by increasing a salary by 100 Dollars, only cuts the companies taxes paid by 15 Dollars, much less than 35 Dollars for American companies.  Also, this 15 Dollar "savings", is further cut into by the higher social taxes in Europe.  This does not promote lowering income by increasing wages to save on taxes at all.

What about personal income taxes?  We've see that in the US, it makes more sense for a corporation to raise wages than for a European one.  On top of receiving a smaller gross paycheck in Europe, the European worker will be forced to pay larger amounts in taxes than the American worker, lowering his net income even further.

The result of this is that skilled workers generally leave Europe for America or for a country with a lower tax system where their work is better remunerated.  This over a longer period of time, leaves Europe less highly skilled workers, and a larger percentage of unskilled, low paid workers.  The effects can already be seen.  The US has many more science nobel prizes than Europe, because American companies pay these great scientists better than European companies.  Think of the best colleges in the world.  The only European university that can compete with American ones is Cambridge.  Again, this is because good Scientists and economists are paid better in the US, and therefore go there to work.  

Socialism promotes mediocrity, whereas capitalism promotes excellence.  The results can already be seen, but this contest just got started.  The US is a very young country, and is slowly leeching the best thinkers out of Europe, seducing them with higher incomes.  WE'll see how this turns out, but if it keeps going the way it has been, I don't see Europe toppling the US in technological breakthroughs any time soon.

A Strong Euro: Good for Who?

Most Europeans I talk to are thrilled with the high value of the Euro, some even go as far as to believe that it proves the European Union with surpass the United States in economic power.  In reality, this could not be further from the truth.

First, lets go over the best thing that the strong Euro has given Europeans.  That is a large purchasing power for items outside their economy.  This means vacations and imports all of a sudden become extremely cheap for europeans.  This, however, is only the short term effect, but is what they have been noticing so far.  The long term effect is much different in reality.

Over a longer period of time, having a currency that recently increased in value kills the economy.  Because their currency is expensive in relation to other countries, production within Europe increases in cost.  When the Euro rose against the dollar, american imports greatly dropped in price for Europeans.  This is because they still made the same amount of Euros, but those Euros were a lot more Dollars than before.  This allowed american companies to begin selling much higher volumes in Europe.  The downside for the European economy is that while american companies produce in Dollars, European ones produce in Euros.  A company cannot lower the salary of an existing contract simply because its currency rose, so European were effectively costing corporations many more Dollars than before.  

What happens next is a chain reaction.  While an american corporation can produce item X for 100 Dollars, a European one must spend a higher amount.  Let's say 120 Dollars to keep it simple.  The result is higher profit margins for american companies in Europe, and European companies struggling to cut a profit in the United States.  A good example of this is the MSRP of a car in Europe and in the United States.  A Focus costs much more in Europe than in America, which makes sense, because it is designed and produced by an American company, but a Mercedes also costs more in Europe, which makes less sense, since it is made by a European corporation and then exported to America.  Prices in Europe are reflective of its companies manufacturing cost, while prices in the States are reflective of American manufacturing costs.

In order to stay competitive in the world, European companies must make smaller profit margins than american ones.  This results in lower profits, and in turn will be reflected by lower salaries over a long run, as companies can't keep up with increased costs and reduced profits.  

Another area where a high Euro hurts European economy is in tourism.  Europe has always has a large portion of its income based on tourism.  France was for a long time the leading country in tourism revenues, only to be recently surpassed by Spain.  This mean Europe has the two biggest incomes from tourism in the world.  When the Dollar was strong, Americans flocked to Europe to vacation, and left their money there.  Now it is a different story.  The newest trend in Europe is to take a quick trip to New York to go shopping.  Want a nice vacation?  A ticket to Miami isn't too expensive, and staying there is much cheaper than vacationing in Ibiza.  When Europeans leave their country and go outside the EU, they help the place they go to by leaving their money there, and hurt Europe's economy by taking their money away.  In lowering the income of the tourism industry in Europe, those hotels and restaurants are also forced to lower wages and cut jobs in order to keep making money.

In Europe a strong Euro, along with some of the highest taxes in the world, make it extremely difficult for European corporation to compete on a worldwide level.

How a "Rich" Country Can Go Bankrupt

Last year, if you were to look at the GDP per Capita country listings, you would have found Iceland at number four.  Nowadays, It has moved down the list quite a lot.  This is because its 3 biggest banks have gone under.  Now you may be thinking, this is not such a big problem.  Lately, huge corporations, including financial institutions have filed for bankruptcy in the United States, and while the repercussions of this have been easily noticeable, the US itself is still the economically most powerful country in the world.  

The main difference between the United States and Iceland is its population.  However, this alone would make no difference in what happened to Iceland.  How this influences, is because with a very small country, it is much easier to have corporations be much more financially powerful than the government.  Powerful corporations, can take out very big loans, and in Iceland, this is exactly what happened.  The GDP (nominal) of Iceland in 2007 was 20.2 billion US Dollars, which even though small compared to bigger countries, is very respectable for its population.  This brought its GDP per capita (nominal) to 65,500 US Dollars. By Comparison, The US's GPD (nominal) in 2007 was 13.8 trillion US Dollars, giving it a GDP per capita (nominal) of 45,700 US Dollars.  

In Iceland, the debt amassed by its 3 largest banks was close to 80 billion US Dollars, or roughly 4 times it's GDP (for reference, Germany was only required to pay about 85% of its GDP in reparations after World War II).  The reason for this debt is that because Iceland had a high inflation, and to make up for this inflation, its banks raised interest rates (which were extremely high, around 15%).  This paved the way for an influx of investments in Icelandic banks, mainly from, Britain and the Netherlands.  The Icelandic banks in turn sought after high return investments to pay that high interest rate.  These high return investments also carried a high risk associated with a higher return.  When the US's economic crisis hit the rest of the world, Iceland was hit hard.  Many of Iceland's investments were hit, and The government could not afford to bail out its banks.  After one of its banks went broke, Britain froze the assets Icelandic banks had in Britain, to protect itself from Iceland defaulting on its loans.  This caused the other 2 big banks to go bust because they couldn't make payments that were due on short term loans.  

Iceland is now turning to its oldest lucrative industry to try to repair its economy.  Fishing.  

Normally when people look at countries like this, they never believe they will be hit so hard by a financial crisis.  Other Countries like this include Luxembourg, Monaco, and to a lesser extent, Switzerland.  By moving a countries industry mainly to finance, without producing anything, there is a very big risk, because it places the country at the mercy of the "big players" of the world.  In an economy like this, if the US or the EU sneezes, Iceland got pneumonia.  

Lets hope what happened to Iceland is the exception, and not the rule, because otherwise, we will be seeing many other financial based countries succumb the same way Iceland did.  One large advantage Luxembourg and Monaco have is that the belong to the EU, which would shield them somewhat, but what some people consider the mecca of finance does not belong to the EU.  That is Switzerland.  

Introduction

Hi:

This is mainly an introduction to my blog.  I will be talking mainly about political and economic issues worldwide, with a lot of material about the European Union, public healthcare, and social programs.

A little about me:

I work mainly as an investor and a consultant.  I started studying at MIT, but after 2 years, I took some time off to work on my business, and haven't returned yet. I plan on returning in a year to finish my studies there.  At MIT I study Economics and Finance, but also completed coursework for several engineering majors.  I have lived in the United States, Mexico, Germany and Spain, and will be covering some of the differences in the economic and political climate of these places, as well as the way their policies are perceived from within.