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The land of the flat tax

Steven Pearlstein is traveling around "New Europe," and has some interesting observations. For one, Slovakia has created a tax code with low marginal tax rates - a flat 19% tax - and avoids heavy taxation of dividend and capital income. Economists Robert Hall and Robert Lucas can finally claim a victory for their advocacy of the flat tax, and low taxes on capital income, respectively.

Pearlstein's story suggests that this policy has quickened the transformation of state enterprises into functioning private firms.

It's easy to see why Steve Forbes calls this an "investor's paradise." The new business-friendly government has pushed through a flat 19 percent tax that applies to corporate and personal income and sales, with dividends and capital gains largely excluded. ...

Here in Bratislava, much of the restructuring is driven by corporate raiders such as the Penta Group, which has imported sophisticated Wall Street tactics to an economy rife with inefficiency and ripe with arbitrage opportunities.

While there is considerable debate about whether these "sharks" get inside help from friendly politicians, there's no doubting their ingenuity in taking control of public companies, or the ruthlessness with which they fire managers, spin off subsidiaries, lay off workers and sell what remains.

At Penta's sleek new offices, a staff of 160 controls companies with a combined payroll of 10,000. They have outfoxed U.S. Steel, partnered with Credit Suisse First Boston, mapped strategy with the Boston Consulting Group, and followed every deal done by Kohlberg Kravis Roberts and the Carlyle Group. According to one of the five founders, Jozef Oravkin, Penta has turned a $20,000 stake into a company worth $350 million.

"We are hated by many in this city, even though we are cleaning things up," Oravkin said.

Nevertheless, there seems little instinct to slow the pace of reform.

Although they may not understand or even trust global markets, 50 years of experience tells them they like government management even less. It is that embrace of frontier capitalism that makes Schroeder and the German business establishment so nervous.

In an earlier dispatch from Wroclaw, Poland, Pearlstein compares New Europe with the old:

A curtain has descended across Europe. On one side are hope, optimism, freedom and prospects for a better life. On the other side, fear, pessimism, suffocating government regulations and a sense that the best times are in the past.

This is not the same "iron curtain" famously described by Winston Churchill at the outset of the struggle against communism. But it is a psychological barrier demarking the part of Europe that is embracing global capitalism, and the one that wishes desperately that it would go away. This time, however, it is the East that is likely to prevail. The energy and sense of possibility are almost palpable here in this thousand-year-old city once attacked by the Tartars and Napoleon, and ruled at various times by the Germans, Austrians, Czechs and Hungarians. Although unemployment remains in double digits and household incomes in Poland remain far below those to the west, Wroclaw has the feel today of a hip and charming European city.

Money and companies are pouring in -- not just the prestige nameplates like Bombardier, Siemens, Whirlpool, Toyota and Volvo, but also the network of suppliers that inevitably follows them. At first, most of the new jobs were of the semi-skilled variety. Now they have been followed by design and engineering work that aims to tap into the largest concentration of university students in Eastern Europe.

The competition between these neighboring states will be interesting to follow in the next decade or so. Will this competition move Old Europe's policies towards more protection or more liberalization? For their sake, let's hope it's the latter.