TREASURY UNDER SECRETARY ADAMS STUDIES ESTONIAN

UNCLAS SECTION 01 OF 02 TALLINN 000568

SIPDIS

SENSITIVE
SIPDIS

E.O. 12958: N/A
TAGS: ECON ETTC PREL EUN EN
SUBJECT: TREASURY UNDER SECRETARY ADAMS STUDIES ESTONIAN
ECONOMIC REFORM MODEL


TALLINN 00000568 001.2 OF 002



1. (U) Summary: In a June 12 visit to Estonia, Treasury
Under Secretary for International Affairs Timothy Adams
met with Finance Minister Aivar Soerd, Central Bank
Governor Andres Lipstok and representatives of the
American Chamber of Commerce. He also hosted a
roundtable discussion with leading reformers who managed
Estonia's successful post-Soviet economic transition.
Adams' trip focused on lessons the successful Estonian
economic reform model might offer for other economies in
transition, but it also provided an opportunity to hear
about the challenges the Estonian economy faces moving
forward. End Summary.

U.S. Business Community on Success and Challenges
- - - - - - - - - - - - - - - - - - - - - - - - -


2. (SBU) In a meeting with the Estonian AmCham
participating companies gave a broad overview of the
Estonian tax system, which, with its flat tax and zero
corporate tax rate on reinvested profits, is simple and
competitive. The companies also pointed to technological
innovation as a reason for Estonia's rapid economic
transformation. They described Estonian usage of e-
banking, electronic signatures, and e-voting as examples
of ways Estonia is well ahead of other western states in
terms of technology usage.


3. (SBU) The companies cited the amount of time and
money it takes to register a business and a cumbersome
notarial system as areas where improvement is needed.
The companies agreed that the biggest challenge facing
the Estonian economy in the future is labor. A
representative of the North Carolina-based veneer company
Baltispoon noted that the labor shortage is causing the
company to rethink its plans for expansion in Estonia.
Estonian Railways CEO Chris Aadnesen said that his
company had to increase wages for its train operators 70
percent in a three month period. The companies agreed
that the GOE needed to do more to simplify immigration
and foreign work permit procedures in order to keep
Estonia competitive. They also expressed concern about
uncertainly over future Estonian tax policy, as EU
requirements demand that Estonia give up its present
corporate tax structure by January 2008.

Minister of Finance Notes Record Growth
- - - - - - - - - - - - - - - - - - - -


4. (SBU) Minister of Finance Aivar Soerd told U/S Adams
that the Estonian economy is seeing record growth. The
first quarter of 2006 showed 11.6 percent real GDP
growth, with unemployment at seven percent and falling.
Soerd noted that Estonian public sector debt is the
lowest in the EU at 4.8 percent of GDP, and mentioned
that Estonia ran a budget surplus last year of 1.6
percent of GDP. Soerd said the government had just
approved a comprehensive budget strategy through 2010,
and confirmed that Estonia's new target for entering the
euro zone is January 1, 2008. Adams welcomed the
Minister's statement that Estonia planned to gradually
graduate from the EBRD. Adams also raised a tax issue
faced by the USAID-funded Baltic American Enterprise
Fund.

Central Bank: Estonia Victim of its Own Success
- - - - - - - - - - - - - - - - - - - - - - - -


5. (SBU) At the Central Bank Governor Andres Lipstok
reviewed Estonia's economic reform process, focusing on
the creation of the currency board. Turning to the
present, the delegation discussed the integration of the
Nordic-Baltic banking market and the effect membership in
the euro would have on Estonia. In conversation on the
delay in Estonia's planned adoption of the euro due to
higher-than-expected inflation, Lipstok lamented that
Estonia was becoming a victim of its own success. He
called the EU's euro accession criteria "excessively
legalistic." Adams closed the meeting with an update on
G-8 preparations and focused on the impact of rising
energy prices on the world economy.

Reform Roundtable
- - - - - - - - -


6. (SBU) A roundtable on Estonian reform at the Embassy
brought together officials who shaped the Estonian reform
policy and experience in the 1990s. Participants
included Vaino Sarnet, former head of the Estonian
privatization agency; Ain Aaviksoo, chairman of Estonia's
leading social policy think tank Praxis; Hardo Pajula, a

TALLINN 00000568 002.2 OF 002


former economic advisor to Estonian Prime Ministers; and
Allan Martinson, a leading entrepreneur and venture
capitalist. All representatives agreed on three keys to
Estonian reform success. First, Estonia kept
administrative reforms simple. It introduced a flat tax
and zero tariffs, for example, because these would be
easy to understand and administer. Second, Estonian
reformers offered sufficient incentives to convince
Estonians to endure tough reforms. At the beginning of
the reform process, the GOE quickly restituted
apartments, homes, and land, while at the same time
administering the less popular, rapid privatization of
industry.


7. (SBU) The third key to Estonian reform success was
strategic management, or knowing what the state was not
capable of managing effectively. Estonia's reform
governments recognized they lacked broad economic
experience, so they created a currency board arrangement
to take monetary policy out of the hands of the
government. For the same reason they adopted a simple,
virtually unregulated, liberal trade policy, and put a
balanced budget provision in the constitution. All of
these efforts built confidence in Estonia's economic
policies and encouraged increased trade and foreign
direct investment, allowing the Estonian economy to
expand at a rapid rate.


8. (U) Following the reform roundtable U/S Adams held a
press conference which resulted in positive media
coverage in Estonian print and television media outlets.

WOS