Suspect subsidies

Date: 22/11/03

Take the money but cut taxes too

THE European Union earmarks about €30 billion ($35 billion) each year for payments to its poorer regions, in the hope of helping them get richer. The accession countries will all qualify for shares of that money, though some may get less than they expect in the first year or two because they have been slow or careless in applying for it.

Those that feel robbed can console themselves with a recent book from the World Bank*, which finds that regional subsidies may be much less useful than the EU seems to think. The conclusions are mixed, but there is something close to a consensus among the book's contributors that regional policy functions as a second-best substitute for labour mobility. It can help bring jobs to people in backward areas, when people in those areas will not go to the jobs.

But it probably does so at a cost to efficiency, since it leads firms to make investments where they would not otherwise have made them. It may reduce regional disparities, in other words, at a cost to national growth.

Subsidies are best used to improve transport, communications, power, water, education and other infrastructure in depressed regions. The benefits are much more durable and widely distributed than if the same money is spent on a programme, say, of small business incentives. But beware perverse effects, even from good roads: firms may relocate away from depressed regions if they can ship their goods in more easily.

In the end it is national policies, especially in the areas of taxation and labour law, which determine a country's attractiveness to investment. Subsidies, from the EU or anyone else, will be counter-productive if they mitigate the effects of mistaken policies and so delay change.

What should poor but clever governments do? If EU money is there for the taking they should take it (or somebody else will). But they should use it to replace national spending, so taxes can be cut too. Since this contradicts the spirit of EU policy, they should also be economical with the truth when discussing it.

* “European Integration, Regional Policy, and Growth”, edited by Bernard Funck and Lodovivo Pizzati; World Bank; Washington, DC; 2003

Article is part of a survey 'When east meets west: a survey of EU enlargement'.

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