Key Challenges

Focus on budget balance, public investment
Estonia is recognized internationally as maintaining a balanced budget and low government debt. However, the current government is actively stimulating the economy via large-scale infrastructure projects, which according to the Bank of Estonia may have negative effects. One negative effect could be increasing labor shortages, leading to a decline in private sector investment and slow productivity growth. The government should avoid fast and simple solutions, such as allowing low-skilled labor migration from third countries. A package of motivation and risk-sharing measures to encourage private sector investments and promote a more cooperative organizational culture will provide more sustainable results. Furthermore, R&D activities in universities must be better linked to the country’s economic and social priorities, and benefit SMEs.
Tax system poorly suited
to current economy
The Estonian tax system, designed in the early 1990s, is straightforward and transparent, but poorly suited to today’s work and lifestyle patterns. The current government has proposed several measures to diversify revenues and increase the vertical equity of the tax system. While the 2017 income tax reform was aligned with these targets, having introduced regressive tax exemptions, it will also affect higher income groups, and may alter employment patterns and labor contracts. Consequently, the budgetary and social effects of the tax reform must be carefully monitored and negative effects must be addressed. Likewise, the government’s plan to decouple state pensions from previous earnings requires meticulous consideration to ensure optimal employee incentives.
Tax hikes have
reduced revenue
The recent sharp increase in the excise tax demonstrated that, in a small open economy, tax hikes can reduce rather than increase tax revenue. Reform of social insurance systems, based on standard employment, is increasingly urgent in order to provide adequate protection to digital sector and non-permanent workers, and to secure sufficient government revenue to finance the welfare system. Thus, a systemic and comprehensive reform of the tax system remains crucial.
Well-established governance framework
The institutional governance framework is well established. Consequently, policymakers can focus on increasing executive capacity by firmly following democratic principles of checks and balances, and public accountability. In modernizing governance, Estonia must revise the current conception of knowledge-based governance, which has led to an overproduction of strategies and analyses that are often poorly linked to decision-making. To overcome this fragmentation and excessive reporting, the government should consider four measures.
Policy evaluation, open-data use can be improved
First, the government must critically revise the numerous small-scale strategies (most of which end by 2020) and keep a smaller number of important targets that can be aligned with the national “Estonia 2035” strategy. Second, the government must improve coordination between ministries, and between the ministries and the Prime Minister’s Office (PMO). Third, the government must significantly improve policy evaluation, including the appraisal of regulatory impact assessment results. Fourth, instead of commissioning studies with exhaustive explanatory analyses, the government should promote open data use and secondary analysis. To remain a pioneer in e-governance, the pace of innovation needs to be increased and the quality of e-governance tools improved.
Quality of life more important than efficiency
Contemporary governance requires appropriate capacities both internationally and locally. Estonia has made impressive gains in the former (evidenced by the Estonia’s presidency of the European Union in the second half of 2017), but not to the same extent in the latter. The process of municipal mergers, finalized in the fall of 2017, must be complemented by a clarification of local government tasks, guarantees of adequate funding and fostering citizen involvement in local governance. The improvement of citizens’ quality of life must be prioritized over efficiency gains.

Party Polarization

Coalition able to reach consensus on major policies
Estonia uses a proportional representation electoral system, which has produced a multi-party system with four to six parties represented in recent parliaments. Two to three parties usually form a coalition government. The coalition in place at the end of 2018 included parties from the both center-left and center-right. As with similar previous coalitions, the current coalition has been fairly successful in reaching consensus on most significant policy issues. Only a limited number of policies have been delayed due to disagreements between coalition partners (e.g., concerning the legal status of same-sex couples).
Radical-right party is divisive factor
The radical-right Conservative People’s Party (EKRE), which holds seven out of 101 parliamentary seats, is the most polarizing feature of the Estonian party system. In light of the forthcoming March 2019 elections, some political parties have declared that they would not join a coalition with the EKRE. As the EKRE is likely to increase its seat share, this stance will make it more difficult to form a coalition government and secure parliamentary support for government policies. (Score: 8)
Back to Top