A Pocket of Prosperity in the Alps

This essay is about the country that the CIA Factbook regularly lists as having the highest gross domestic product per inhabitant, ahead even of gas-rich Qatar. It is more industrialised than Germany, has been outpacing Switzerland’s economic growth and, for the past 150 years, has done without a military force. This essay is about the Principality of Liechtenstein.

A tiny sliver of a country, it is wedged between Austria and Switzerland, a short distance south of Lake Constance. Its 36,200 inhabitants (2011) live on a triangle of real estate some 25 kilometres from north to south and 15 kilometres from east to west. About half of the 160 square kilometre territory is steep, breathtakingly beautiful Alpine scenery. An Australian friend, when recently travelling on the express from Zurich to Vienna, did not even realise his train had traversed this 160th sovereign member of the UN!

Now why should anyone in Australia take an interest in such a faraway, tiny place? I for my part always have, because I attended a village primary school there and have been attracted back regularly ever since. And I believe Liechtenstein can offer concerned Australian citizens and policy-makers valuable food for thought, though it is not a model that we could or should emulate. 

The attention-getting CIA statistic about production per inhabitant cited above is misleading, for 43 per cent of Liechtenstein’s workforce arrives every day from across the border, mainly from Switzerland and Austria. Obviously, this is an exceptionally good place to work, earn money and be taxed. Indeed, low and simple taxes explain part of the success story, as does the long history of trusted financial and advisory services for affluent people who seek some shelter from the confiscatory grasp of high-taxing welfare states. It will, however, come as a surprise that Liechtenstein is Europe’s most highly industrialised country (more than 40 per cent of all jobs are in manufacturing) and that the asset-management business now accounts for less than 30 per cent of the national product, a share that has been falling over recent years.

For a long time, Liechtenstein—like Switzerland—was one of the poorhouses of Europe. It existed half-forgotten on the western periphery of the Habsburg empire. The Liechtenstein princes lived in Vienna or on their vast estates in Bohemia. After Austria-Hungary lost a war with Prussia in 1866, the Liechtensteiners abolished their tiny army, which had been part of the Austrian military, never again to pay for military defence. After the First World War, when the Austro-Hungarian empire found itself on the losing side and its currency collapsed in hyperinflation, the Liechtensteiners dissolved their customs and monetary union with Austria. They nimbly and informally joined their neutral Swiss neighbours, adopting the Swiss franc. With princely support, the new customs and monetary union was formalised only a few years later, in 1924. Due to inflation losses, the early 1920s were a time of near-bankruptcy for the government, and for many enterprises and families. But this sobering adversity laid the foundation for future prosperity: a few eminent citizens argued for a low-tax regime and the creation of versatile legal vehicles in which wealthy foreigners might park their wealth securely in Liechtenstein-based holding companies, which laid the basis for the future wealth-management business. Eventually, the country became a financial entrepôt: wealth was taken in by trusted middlemen and channelled into secure, profitable investments, normally through major Swiss banks.

From the 1920s, Liechtenstein has been able to free-ride on the good governance, the neutrality and the stability of its adopted big brother. Liechtensteiners have benefited enormously from sharing the stable Swiss currency. (When the Italians adopted the Euro in 2002, one Swiss franc, which bought one Italian lira in 1894, was buying well over 1000 lira.) From 2006 to 2011, annual Swiss inflation averaged 0.8 per cent.

During the first half of the twentieth century, Liechtenstein’s modernisation lagged far behind neighbouring regions. Per capita incomes in the 1930s and 1940s were estimated to be 30 to 40 per cent below those of modernising Switzerland. Matters changed after the Second World War, when new industries set up shop in Liechtenstein and the asset-management business expanded rapidly. The jurisdiction earned a reputation for secure property rights, bank secrecy, trusted and respected financial advice, and circumspect banking services. Liechtenstein law permits the setting up of anonymous trusts and similar flexible organisational devices, which may be dissolved again without fuss. Only 0.1 per cent of asset values are taxed annually (or de facto often only a fixed sum of 1000 francs). Financial services, trusts, holding companies and the government thus turned the tiny country into a trustworthy tax haven.

Managing other people’s wealth became a major driver of economic growth. At the turn of the millennium, some 85,000 such asset holding trusts were run by about 2000 experts; but, by then, only around 10 per cent of the government’s revenue was still derived from this source. Innovative, specialised manufacturing had become much more important—for example high-end food processing, medical equipment, car components, and electronics. Equipment made by Liechtenstein’s family-owned Hilti has become so famous for its quality that tradies on Australian construction sites keep dogs to guard their Hilti tools; few people probably realise that the tooth implants in many Australian mouths have been “made in Liechtenstein”.

In the development of industrial and service enterprises, foreign entrepreneurs often played a decisive role. They were attracted by Liechtenstein’s civilised living conditions and reliable institutions. Honest people with productive ideas have always been made welcome, and innovative ventures encounter low barriers to trying out new ideas. And when growing businesses required more skilled workers than the local labour market was able to provide, they could readily hire trans-border commuters. As a result, per capita incomes grew at an average annual pace of around at least 6 per cent from the mid-1950s to the mid-1970s and nearly 5 per cent in the 1980s and early 1990s. Since then, growth has slowed—as elsewhere in Old Europe—but remains positive.

Because Liechtensteiners realise that shared moral and legal institutions economise on transaction costs and constitute the essential, valuable shared property of all, residence permits—let alone citizenship papers—are not granted indiscriminately and readily to foreigners. Unlike Australia, where the importance of shared institutional capital is poorly understood and happily compromised by enemies of capitalism, who favour non-selective immigration from all corners of the world, Liechtenstein is selective in who is allowed to join in.

At a time when at least half of all costs of producing and distributing the national products of advanced countries consist of transaction costs, rules that economise on these costs (the institutions) are crucial. Good habits and expedient rules are therefore a common property worth protecting and cultivating, not only for reasons of prosperity, but also to conserve a civilised, peaceful social environment. Amorphous mass immigration from dysfunctional communities would destroy such a rule system. Liechtensteiners understand this and therefore critically examine the character and rule compliance of those who are given permission to settle in their small, crowded country. To this end, the government negotiated explicit exemptions to the free mobility of people within the Economic European Area (EEA).

Judicious openness to ideas, enterprise, people, capital and trade has helped to make Liechtenstein an attractive location for entrepreneurs, investors and workers in two other respects:

First, the government of such a wide-open country is not able to adhere to illusions about overruling the laws of supply and demand by engaging in industry policies, picking winners and—more likely—featherbedding senescent losers. Thus, the formerly important textile industry was allowed to vanish to make room for more productive and more profitable undertakings.

The lesson that rent-seeking by business and rent-creation by politicians are foolish, even counterproductive in an open economy had, however, to be learnt in Liechtenstein, too. In 1937, the local traders’ association got parliament to prohibit department stores. The people consented in a referendum, but soon increasingly voted with their feet, shopping in nearby Swiss department stores. The law was dropped only in 1970, by which time everyone had acquired the habit of shopping abroad. In recent decades, when the Swiss franc area became a “high-price island’, people increasingly also shopped in nearby Austria.

Only agriculture has long been subsidised as part of the Swiss government’s outdated rural protection policy. Farm subsidies notwithstanding, many a high Alpine meadow is now no longer being trampled to mud by grey-brown cows and again displays a luscious carpet of summer flowers. Even more than the Swiss—the only Europeans to rank ahead of Australians in measures of economic freedom—Liechtensteiners enjoy secure property rights and great freedom to use them with confidence. With few exceptions, people therefore work for a living. Few have the illusion, so often prevalent in Australia and other mature welfare states, that they can simply vote for it.

Second, bureaucrats and politicians in a small, wide-open economy like Liechtenstein cannot even dream of “anti-cyclical fiscal policy”, although cyclical swings have often been considerable. As they do not have a currency of their own to manipulate, they cannot even envisage “monetary easing”. In such a setting, Keynesian “macro-mechanical” demand manipulation is readily perceived as evident nonsense. Micro- and macro-economics are near-identical here. A branch of industry may consist of one firm, and the faces of individual investors, savers and consumers can still be seen behind “aggregate demand”. In such a setting, people understand that jobs only come from prudent capital formation and producing goods and services, which others want sufficiently so that the producers make a profit. Markets and technical opportunities thus determine where capital and other scarce resources are deployed. We know how important politically unimpeded structural change is for growth and that only enterprise- and competition-friendly supply-side policies make sense.

These factors increasingly came together to create Liechtenstein’s steady growth. By 1960, average incomes and wage levels were probably on a par with the Swiss, and the principality’s economic growth has outpaced that of Switzerland ever since, though recently by decreasing margins. It is remarkable that—at a time when Old Europe de-industrialises and erstwhile industrial champions relocate to East Asia, Mexico or Turkey—Liechtenstein maintains respectable industrial prowess. As a consequence, Liechtensteiners now enjoy average real living standards at least 50 per cent higher than their affluent Swiss neighbours and way above the European average.

Economic success tends to incite envy. Contemporary Europe’s political elites and the Left often resent political competition by citizen- and business-friendly institutions. Like Switzerland, Liechtenstein therefore attracted the attention of the European cartel of high-taxing, control-happy governments in the 1980s and 1990s. Bureaucrats and politicians in Berlin, Paris and Brussels took particular offence at low tax rates, muttering darkly that Liechtenstein sheltered mafia money. Although no proof of that allegation could ever be produced, the formation of the open “European economic space” gave European power brokers a tool to put pressure on Switzerland and Liechtenstein to ease their traditional policy stance, including their protection of bank secrecy.

One might think that their economic history would have taught Europeans that diversity and competition to foster good institutions promote long-term prosperity and freedom. After all, it was the rivalry between small, open states in post-Medieval Europe that induced absolutist rulers to self-constrain their powers by guaranteeing individual religious and economic freedoms. They did this not out of noble generosity, but to attract footloose merchants and producers, who would fill their treasury coffers and hence augment their political power. Economic freedom—secure private property rights, free markets and the rule of law (also in taxation)—favoured private economic initiative and enhanced trust, thus creating the “European miracle” of sustained economic growth. By contrast, powerful unitary states that sheltered behind protective borders (such as the Ming and Ch’ing dynasties in China, Mughal India, the Ottomans, and Bourbon Spain) drifted into political malaise and economic stagnation. Yet, the tendency in the present-day European Union is towards a unitary, top-down regime, “harmonising” taxes, centralising regulations, erecting defensive protection schemes and bullying potential political competitors, such as Liechtenstein and Switzerland, to conform. Perhaps the recent exodus of affluent French citizens from socialist France’s confiscatory income tax regime, such as Gérard Depardieu’s to Belgium and Russia, will rekindle an understanding among the European political elite that they have to compete with countries offering low taxes and good administrative support to producers.

As it would be unthinkable for small countries in the middle of Europe to be excluded from the free flow of trade and capital, the Liechtensteiners and the Swiss had to accept certain EU-dictated abridgements of their national sovereignty, when a shared “European economic space” was created in the early 1990s. This implied certain strictures on their tax and banking policies. The citizenry accepted these reluctantly in referenda on the European Economic Area (EEA). Given their historic experiences, the Liechtenstein citizens may not have found the argument of European bureaucrats convincing that they could not enjoy all the advantages of Europe-wide markets without accepting some transnational controls. But they knuckled under. They knew that the benefits of free trade cut both ways: The country’s inventive export industries benefit those who (voluntarily) buy Liechtenstein-made products and services, as well as enriching foreign producers who can sell their wares freely in Liechtenstein. But the EU’s bureaucratic powerbrokers do not think about the mutual benefits of voluntary exchanges to private citizens; they only care for their scope to tax and regulate. Small nations can therefore no longer stand up to the political strong-arm tactics of Europe’s big boys!

The underlying clash between the classical liberal vision of free-trading, competing sovereign states and the centralist-collectivist vision of the “harmonisers” came starkly to the fore in the 1990s, when a feisty German finance minister famously threatened to “send the cavalry” into Switzerland and Liechtenstein to force them to abandon their time-honoured commitments to bank secrecy and instead share information with foreign governments, amongst other things to help the German tax authorities with collecting German taxes. Liechtenstein was increasingly vilified by high-taxing foreign governments—little wonder when one compares the annual tax take on capital gains: in Liechtenstein, financial assets are taxed at most at a rate of 0.1 per cent of their value, whereas, for example, capital gains taxes in Germany are 25 per cent, often augmented by confiscatory income taxes. Eventually, in 2007, a “Financial Action Task Force on Money Laundering” in OECD—a think-tank of rich-country governments—was made to declare Liechtenstein “temporarily non-compliant” with OECD rules on government-to-government information sharing. Liechtenstein’s official defence against the foreign onslaught was that the production of mattresses should not be prohibited simply because some people might be hiding illegitimate moneys under them. It cut no grass. Liechtenstein has since managed to implement some supervisory adjustments and has been removed from the OECD’s black list of tax havens.

Tensions over banking privacy reached a new low in the wake of the so-called “Kieber affair” (also sometimes referred to as “Zumwinkel affair”). In 2002, a computer technician, Heinrich Kieber, who had been hired by Liechtenstein’s LGT Group (Liechtenstein Global Trust) to help with digitising client records, stole highly confidential data tapes with the personal details of foreign depositors. This crime hurt LGT, a respected ninety-year-old trust company owned by the Liechtenstein royal family. Kieber was convicted for theft and the violation of Liechtenstein’s strict bank secrecy laws. After a clemency deal, he was soon on the run again, possibly because of some dubious business entanglement in Barcelona. In 2008, the German intelligence service bought a CD copy with the stolen information from Kieber, who had previously assured the authorities that he had returned all stolen information to LGT. The price the Germans reputedly paid was €4.2 million or more.

The German authorities reportedly co-operated with Australian counterparts to settle the convicted thief and fraudster in Australia under a new identity. He surfaced on the Gold Coast under the alias of Daniel Wolf. The German authorities—serious questions about the legality of their actions notwithstanding—used the stolen information to investigate LGT clients suspected of evading capital gains tax. They also on-sold (or sometimes offered for free) the confidential information to other governments. Some, such as the Danish government, refused to deal in stolen goods; others, such as Australia’s Rudd government, obviously acquired information and used it to investigate some Australian citizens. To the extent that Australian authorities profited from Kieber’s theft and helped to settle him here, they became accessories to a crime after the fact. However, such old-fashioned legal notions apparently count for naught in the arena of modern taxation, for many other governments also used the Kieber data to go after taxpayers and bad-mouth little Liechtenstein.

LGT is said to have reimbursed clients for their tax losses, implicitly admitting responsibility for not protecting the confidential data from theft. They also paid German prosecutors a fine of €50 million to protect some of their employees from prosecution, though without admitting to any wrongdoing. The LGT Group went out of its way to restore confidence, as reputation is the lifeblood of asset management trusts. It also withdrew completely from doing business in Germany. The Liechtenstein government gave in to international pressure by concluding tax treaties with a number of countries, thus undermining its traditional reputation for bank secrecy. Existing internal and official surveillance mechanisms were also strengthened to ensure that no criminal funds are handled in or through the country.

How one assesses the Kieber affair and Liechtenstein’s trust industry depends of course on where one stands philosophically along the spectrum between (a) an insistence that individual rights to privacy must remain sacrosanct and private property rights secure, and (b) a position that considers all income primarily belonging to the state and citizens obliged to subject all their private dealings to official scrutiny. It also depends on an understanding of the fuzzy dividing line between legitimate tax minimisation and tax evasion by breaking the law. Entrepreneurs, wealthy individuals and classical liberal analysts tend to embrace position (a), whereas socialists, welfare activists and bureaucrats lean towards position (b). In the redistributionist, deficit-plagued welfare states of Europe and in many Australian quarters, position (b) has increasingly gained ground, whereas tax haven operators from Vaduz to the Cayman Islands and Panama still stridently defend the traditional primacy of secure private property rights, once Caesar has been paid his legal dues.

The Kieber case was exploited by foreign powerbrokers to cast aspersions on Liechtenstein, but nevertheless much of the country’s reputation as a safe place in which to keep legal assets appears to have been restored. The events of the late 1990s and early 2000s have done little to permanently dent the country’s continuing economic prowess. Nor have they perverted the internal and external institutions that underpin it. Short-term investor risks of relevant share prices were affected by the Kieber affair, but the medium-term level of investor returns apparently not. Everyone concerned seems eager to move on and do the best within the institutional framework still permitted by the international powerbrokers.

The economic success of Liechtenstein—as well as the quality of life and the civility that come with secure private property—cannot be understood by inserting “dummy variables” into econometric models. Instead, an understanding requires an approach that pays heed to the lessons of history, sociology, law and politics.

The country’s history has bred a culture of sobriety, resourcefulness and local patriotism. Its small size means that everybody knows almost everybody else—or with just one or two degrees of separation. Reputations therefore matter greatly. Civic communal life—the clubs and choirs, churches and saints’ days festivals—are essential to weaving a robust civil society together. One is strongly reminded of what Nobel economics laureate Eleanor Ostrom wrote in 1990 about the prosperity and resilience of northern Italian communities (in contra-distinction to the secretive, isolationist social habits in the poor, dysfunctional mezzogiorno): voluntary community organisations are essential foundations of a prosperous, trust-based society. Moreover, what tend to be anonymous, circuitous decision processes in bureaucrat-run democracies are expedited face-to-face in Liechtenstein. Producers prosper because much is based on trust, predictability, reliability and clear internal institutions of society, rather than formalised government rules and bureaucratic surveillance.

After all, government agents invariably suffer from constitutional ignorance and often lack the means or the will to enforce the rules, whereas private contract partners and competitors tend to respond to rule breaches by direct, spontaneous feedback, such as tit-for-tat, reprimand or ostracism. Such private rule enforcement tends to work immediately, effectively and cheaply. Most importantly, the rules are obeyed, as everyone is concerned for his private and collective reputation. When some investment adviser, for example, violates written or unwritten rules, his rivals call him to order or report him to supervisory authorities, because the entire industry’s reputation is at stake.

In Liechtenstein’s small-scale setting, dishonesty and loafing are quickly uncovered. Since reliability, honesty and similar civic virtues are considered essential human capital, the place has become the model of a low-transaction-cost economy. This matters greatly nowadays as the transaction costs of innovation and service production have been raised by advanced specialisation and ceaseless evolution. Good institutions have become a decisive factor in a location’s international competitiveness.

Liechtenstein’s intangible cultural capital interacts well with what has been called “Swiss business culture”. It differs from the Anglo-Saxon approach: business tends to be based more on long-term loyalties, not short-term gain. The strategy is informed by moderation, a preference for long-term stability, quality and security, and a commitment to innovation, even where long lead times are involved. The bosses do not pay themselves huge dividends, and conspicuous consumption is frowned upon. One does not brag about one’s good fortune, which is probably why so little is published about the principality’s outstanding success story. Liechtensteiners refer to their country modestly as the “Little Land” and most take pleasure in each other’s comfortable wealth, which is reflected in widespread support for paternalistic official insurance schemes against personal mishaps. This is far from a civic and business culture of elbow individualism, where greed is good.

Private property is genuinely respected. Citizens with wealth are not on the receiving end of envy attacks, since it is widely assumed in this competitive, open economy that wealth is mainly the reward for effort and skill, whether of the present owners or their forebears. This view comes naturally in a society where the visible hand of government does little to redistribute wealth and incomes and where few cases of official corruption have ever come to light. Part of the strict protection of private property is that officialdom respects the bankers’ promise to keep information about their clients’ belongings secret, in the same way as authorities respect the strict professional confidentiality of lawyers, doctors and priests. Indeed, betrayals of bank secrecy are criminal offences. This is why the Kieber affair and the coercive bullying from the EU and the OECD to diminish bank privacy hit such a sensitive nerve.

Liechtenstein’s political system buttresses this internal institutional infrastructure, which—in my opinion—is the linchpin of Liechtenstein’s economic prowess. In talking to citizens and officials, one discovers that most are somehow vaguely aware of the fact that trust-inspiring societal and political institutions are valuable intangible production factors. This insight is important, as government administrations and civil societies indeed create intangible human capital, which is now a decisive factor in international competition. Though themselves not internationally mobile, administrations nowadays produce rule systems that can attract or repel internationally mobile capital, talent and enterprises. That good government and good work habits are important production factors is a fact which is not yet fully understood by Australian bureaucrats and politicians, who still claim a “primacy of politics”.

Under the principality’s written constitution, the country de facto has two sovereigns. There is the traditional prince and his family in their castle above Vaduz, the main locality; and there are the people. Although the citizens often resolve issues informally by talking to each other and the ruler, they have a right to initiate referenda if necessary. Citizen-initiated referenda add a sharper element to democracy than Australia’s politician-initiated referenda and polls do.

In Liechtenstein, a cabinet of five is elected by a twenty-five-member parliament and then appointed by the prince. Governments have for a long time been formed by both major (conservative-liberal) parties, a rare case where grand coalitions seem to work. The main reasons for this are probably the small size of the government and strong direct feedback from an engaged citizenry.

Taxes on property and business earnings are low. The latter range from 3 per cent to a maximum of 17 per cent. In 2010, revenues from property and business income averaged about 4300 francs per inhabitant (about A$4000). An attempt in 1990 to replace the taxes on property and business earnings by a general income tax was defeated by referendum. Of course, everyone has to bear the value-added tax, which the Swiss government collects (originally at 6.5 per cent) and a generous proportion of which it remits to the Vaduz government. In addition, the substantive wealth of Liechtensteiners and foreigners, who entrust their wealth to Liechtenstein financial organisations, yields public revenues, even at low rates of taxation. The fees and taxes from the wealth-management industry have made it possible to keep other taxes low. Financial attractiveness has also created an abundance of capital, which makes credit easy and thus favours industrial growth. Overall, national and local governments raise revenues equivalent to less than A$33,000 per inhabitant, a substantial portion of which consists of compulsory insurance fees against job loss, illness, the need to draw an old-age pension, and the like.

Most public expenditures serve to fund comprehensive social security and free education, including tertiary scholarships for young Liechtensteiners studying abroad. The national and the various local governments hold a healthy stock of investments, having managed to produce almost uninterrupted, though modest, fiscal surpluses. This, together with substantial private wealth, gives Liechtensteiners an enviable “wealth cushion” and does much to recession-proof the country. The politico-economic regime thus does not conform to a libertarian model of strict self-responsibility and minimal government, but displays features of the European cradle-to-grave welfare state, though coupled with rule-bound government. The share of government in total spending has gradually climbed to 24 per cent, so that Liechtenstein’s “slender state” of earlier days has gradually disappeared. It is, however, still much slimmer than in the big European countries, where governments often buy about half of all goods and services. The fact that the growth of government has apparently not created disincentives and corruption can be attributed to the country’s small size and an almost Calvinist work-and-save ethic among the predominantly Catholic population.

The monarchy has a long history. In 1342, an earldom was created at Vaduz, which became directly subject to the Holy Roman Emperor of the German nation. After the emperor had deposed a scandalous, exploitative dynasty from that jurisdiction in the fifteenth century, the Liechtenstein family acquired this imperial principality. It evolved into a sovereign state first within Germany, then Habsburg Austria. Democracy, too, has fairly old roots: Liechtenstein’s constitution of 1862 provided for an elected parliament.

The princes in this constitutional monarchy have arguably often been a stabilising political element. They enjoy a more powerful position than other European monarchs. Their power was even increased somewhat by recent reforms, but this is balanced by the citizens, who take their rights—and their duties—seriously. Interaction between the ruler and the citizens is probably made easier by the fact that the prince and the royal household play a dual role. The present ruler, Prince Hans-Adam II, summarised this nicely when he said in an interview that he had to spend his mornings earning the money that he needed to rule the country in the afternoons. Having a head of state who earns his keep in business (although he enjoys far-reaching privileges of tax exemption), has also been helpful to the country’s official finances, as has been a long history of princely donations to the people when the need has arisen.

The royal family is well-to-do, although it lost massive land holdings in Bohemia and elsewhere in Central Europe after communist Czechoslovakia expropriated them and post-socialist Czech governments refused to return them, having reaffirmed the 1940s “Beneš decrees”, which extend a blanket amnesty to post-war murderers and thieves of Germans, Austrians and Hungarians, and retrospectively obviously also Liechtensteiners. However, in the turmoil of the approaching Soviet front in 1945, the princely family managed to transfer much of its unique art collection to the principality. Some of these treasures are now exhibited in splendid art galleries in Vaduz and Vienna.

Liechtenstein’s constitutional set-up reminds students of political and economic history of the “dual-sovereign model” of Renaissance Ferrara, Gubbio, Florence and other Italian city-states: the powers of a hereditary prince (podestà ducale) were balanced against a civil authority (podestà civile) chosen mostly by the merchant elites. Given the openness and political rivalry of northern Italian jurisdictions in the Renaissance, this led to a voluntary self-constraint of political powers and thus created credible economic and religious freedoms. Prosperity and cultural flourishing followed.

Traditionally, the principality’s government has been able to outsource some of the conventional tasks of modern government and to commercialise its sovereignty where possible. There has, of course, been no need for a national airline or a railway monopoly. Public bus services were until recently run by the Swiss post bus company. Much of Liechtenstein’s busy north-south motor traffic detours across Rhine bridges to travel on a faster, toll-paying Swiss motorway. For a long time, most secondary and tertiary education was bought with government-provided scholarships from schools and universities in neighbouring countries. Swiss tax collectors still handle the value-added taxes imposed on the Swiss-Liechtenstein economic area, remitting a share to the Liechtenstein treasury, thus shouldering a part of the onus of taxing the population. Most importantly, Liechtenstein is able to free-ride on Swiss neutrality and—to some extent—military security, although neutral Switzerland has as a matter of principle never made any commitments to defending this or any other “foreign” country.

The government in Vaduz has not shied away from pursuing the odd commercial profit. Thus, the post office turned the production of pretty stamps into a lucrative money spinner, now less important than it was in the 1960s and 1970s. For a long time, wealthy people were sold expensive Liechtenstein citizenships, a profitable way of deriving commercial benefit from the country’s excellent institutional capital endowment. After the International Court of Justice at The Hague discredited the practice in 1955, this source of revenue was abandoned. However, wealthy individuals were still able for some time to gain permanent residence—and hence a favourable tax status—by paying the government a “rentier tax”. The Liechtenstein government also developed hydroelectric power, which it sells, and built a leading-edge hospital. As a consequence, the productive function of government has increased over time. Public-sector employment has grown to nearly 5 per cent of total jobs (Australia’s is 16.5 per cent).

As the welfare states in Europe and the Anglosphere are confronted with massive cynicism about politicians and bureaucrats, as the concept of leadership is increasingly in disrepute and as deindustrialisation, job losses and general decline produce social instability, Liechtenstein’s stable, secure, trust-based and pragmatic approach has much to recommend itself. This small example would seem to deserve more benevolent and less envious­ attention.

Reflecting on the Liechtenstein story, one cannot help but think of the widely discussed thesis of US economists Daren Acemoglu and James Robinson that the difference between sustained poverty and growing, widespread prosperity lies in the inclusiveness or otherwise of a country’s institutions. In societies where everyone is challenged to make responsible decisions and societal pursuits are open to everybody, prosperity is generalised and sustained and people have the satisfaction of feeling engaged in a thriving community. Where all are able to participate, where effort and risk-taking are rewarded and those who earn market rewards can keep them, we observe sustained and general economic development. Where, by contrast, the ground rules of societal and economic interaction (the institutions) make for exploitation of some groups by others and where rent-seeking and top-down controls proliferate, we observe “extractive rule systems”. These produce cynicism, disloyalty, a lack of responsibility, and poverty. This insight is clearly supported by Liechtenstein’s record. Liechtenstein’s living example, however, makes me add critically to the Acemoglu–Robinson thesis that the internal, cultural institutions of society and the shared values on which they are based, are more important than the two authors have affirmed. Possibly because they worked for the World Bank, a public organisation that interacts mainly with governments, Acemoğlu and Robinson under-rate the spontaneous, informal rules of social and economic life.

The lessons Australian readers might wish to draw from this account are best left to them. Yet, we should be inspired to ask ourselves: How can enterprise-friendly institutions be cultivated for the benefit of future generations? Can Australians cultivate the pre-conditions that will enable them to remain high on the ladder of economic freedom and income when new competitors are climbing up vigorously? How can our society and economy be made more inclusive again to counter spreading political and group antagonism and the loss of self-responsibility? Policy wonks and commentators in search of inspiration might look less to the welfare-bureaucratic model, which the big European states so loudly promote, and more closely at the unassuming, even self-effacing cases of Switzerland and Liechtenstein. In many countries, we are now observing an “investors’ strike” of proportions not seen since Roosevelt’s anti-business interventionism prolonged the Great Depression in the 1930s. A similar “strike” is now manifest in Europe (thanks to the Euro time bomb; untenable debts and deficits; high taxes; austerity-triggered social unrest and political instability; Greenery; and a lack of leadership), in America (thanks to “fiscal cliffs” and untenable debt mountains beyond) and Australia (thanks to frivolous tax surprises; political uncertainty; and Greenery).

Can statecraft in steady, confident Liechtenstein teach us something useful in our predicament? Can a constitutionally bound monarch and citizen-initiated referenda help to constrain the opportunism of elected politicians and self-seeking bureaucrats? Is openness to trade, capital and enterprises, coupled with selective immigration, more conducive to a prosperous and stable future than admitting all comers indiscriminately? Is our abusive, noisy political adversarialism the best way to identify good policies? Is a two-party electoral see-saw the best way to offer a policy framework of stability and continuity? Is there merit in devolving more government functions to smaller, more autonomous, “Liechtenstein-sized” communities, such as local governments?

Australians used to share fundamental civic values and attitudes and obey civil and political institutions not all that different from what is still cultivated and practised in those Alpine parts. These shared values facilitated compromise and gave policy a degree of cohesion. This is why I suggest that neither the United States nor the big European welfare states are the only inspirations to which we might look, if we believe that we must equip ourselves better for future prosperity and wellbeing. 

Wolfgang Kasper is the lead author of Institutional Economics—Property, Competition, Policies, just published by Edward Elgar. He is most obliged to Dr Andreas Brunhart of the Liechtenstein-Institut and local friends for relevant information, many insights and critical comments, but of course remains solely responsible for what is said here. 

 

References

D. Acemoğlu—J. Robinson (2008), The Role of Institutions in Growth and Development (Washington, DC: World Bank).

D. Acemoğlu—J. Robinson (2012), Why Nations Fail: The Origins of Power, Prosperity and Poverty (New York: Random House).

R.J. Breiding—G. Schwarz (2011), Wirtschaftswunder Schweiz, Ursprung und Zukunft eines Erfolgsmodells (Zürich: Verlag Neue Zürcher Zeitung).

A. Brunhart (2012a), “Stock Market’s Reactions to Revelations of Tax Evasion: An Empirical Assessment”, KOFL Working Papers, no. 9*.

A. Brunhart (2012b), “Identification of Liechtenstein’s Historic Economic Growth and Busienss Cycles by Econometric Extensions of Data Series”, KOFL Working Papers, no.14 (November)*.

A. Brunhart (2012c), “Liechstensteins neuere Wirtschaftshistorie: Ergebnisse der ökonometrischen Verlängerung ökonomischer Zeitreihen”, KOFL Economic Focus, No. 4 (November)*.

A. Brunhart (2012d), “Liechstensteins neuere Wirtschaftshistorie: Erste Einsichten und Interpretationen der neu geschätzten Zeitreihen”, KOFL Economic Focus, no. 5 (November)*.

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* All papers published by the Business Cycle Research Centre at the University of Liechstenstein (KOFL) are available on <www.kofl.li>.