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. Last Updated: 07/27/2016

Taxes, Corruption Biggest Impediments

RIGA, Latvia -- The countries of Eastern Europe and the former Soviet Union must rein in regional governments and ensure consistent tax administration to encourage investment, a panel of experts said Saturday.

The experts, talking at a forum during the European Bank for Reconstruction and Development annual meeting, said governments must also tackle corruption to encourage investment.

In Russia, central government places too many financial obligations on the far-flung regions, which forces municipalities to seek funds through barter or other means, a study by the Organization for Economic Cooperation and Development found.

"The highly centralized and often unfeasible nature of the system gives a direct excuse for subnational officials to absolve themselves of responsibility for formal budgetary management," John Litwack, principle administrator in the OECD's economics department, told the conference.

"The necessity of conducting economic policies underground, working to conceal them from the federal government ... by its very nature favors an orientation toward corruption."

Possible solutions proposed by the OECD include boosting the powers of subnational entities to allow them to introduce taxes and conduct independent fiscal policies while giving the central government more power to replace regional administrations.

"We are hopeful the current period will be a real turning point for Russia in the creation of an environment more conducive to business," he said.

If the regions have insufficient powers, Kazakh regional leaders have too much, said Baker & McKenzie managing partner Curtis Masters, who has worked in Kazakhstan for four years.

He said one large oil company was asked by the local government to forfeit its entire revenues for 1995 to the present simply because it had missed one license in 1995-96.

The central government intervened, but their decision to quash the fine caused some controversy and illustrates how much regional officials can hamper investment, he said.

"Overwhelmingly, taxes were seen as the primary problem in the region," said Joel Hellman, senior counselor at the EBRD's Office of the Chief Economist.

Croatian central bank Governor Marko Skreb said the degree of regulation was less important than its enforcement, as foreign investors need the certainty of knowing how and when tax codes and other legislation will be applied.

Corruption remains a particular problem in the region, with small- and medium-sized enterprises - a crucial driving force behind future growth - suffering most, the EBRD's Hellman said.

Smaller companies pay an average 25 percent of their profits in petty bribes, much more than larger firms do, according to an EBRD survey of 3,600 firms in 22 countries.