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Insight: Swedes tire of tax cuts as welfare state shows strains

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[March 17, 2014]  By Daniel Dickson and Alistair Scrutton

STOCKHOLM (Reuters)  To glimpse Swedish angst under its picture postcard prosperity, look no further than film director Lisa Ohlin, who has enjoyed years of tax cuts in an economy the envy of Europe. Homes in her Stockholm neighborhood cost around $1 million.

But this leafy, well-heeled area is a microcosm of Sweden, where eyes are on a struggling school with strained finances, not enough teachers and poor results. Like many Swedes, Ohlin wants her cherished welfare state back.

"Classes are more about storage (of kids) than anything. Teachers cannot handle the workload they have in some classes," said Ohlin, a mother of two. "There is poor discipline and poor attention. There is a huge fear of going over the budget."

Voters like Ohlin are returning to faith in cradle to grave welfare after eight years of center-right Prime Minister Fredrik Reinfeldt, who cut income, wealth and corporate taxes. Sweden's tax burden has fallen by four percentage points of GDP  now lower than France.

In the eyes of many Swedes, the welfare state withered. Sickness and unemployment benefits were cut. Private firms started to run tax-funded schools and hospitals. But a tipping point may have come as a September general election approaches  and many now point to a U-turn.

To win over voters, both the government and opposition are campaigning to end tax cuts months before a general election.

"We do not see that there is room for any broad tax cuts in 2015 and 2016 and also when we look ahead, there's limited room," Finance Minister Anders Borg told Reuters.

By any standards, Sweden is healthy. Its public debt is around 40 percent of GDP, half of Germany's.


But Sweden has one of the world's most generous welfare states  like subsidized child care with up to 480 days of parental leave per child. Its Nordic model depends on keeping to a strict national bookkeeping unusual in much of Europe.

At the same time as demands grow for more spending on schools and hospitals, Sweden's public finances have worsened. The country may now be heading for years of rising tax burdens if it wants to keep its public finances in order.

"There isn't as much money as people think," said Torbjorn Hallo, economist at the Swedish Trade Union Confederation, which has links to the Social Democrat opposition. "Swedish voters do not want more tax cuts. Neither do they want tax hikes."

"Whatever government will have to find money for missing billions," Hallo added, saying Sweden could need to raise 70 billion Swedish crowns ($11.02 billion), or around 2 percent of GDP, just to keep the current welfare ticking over.

TRIPLE-A RATING

It contrasts to the heady days when Borg gifted Reinfeldt, on his 45th birthday, a framed graph showing the tax burden falling to 45 percent of GDP for the first time in decades.

Flush from income tax cuts, middle classes have also enjoyed cheap loans and a property boom. As wealth grew  with clusters of Michelin star restaurants in Stockholm  Sweden remained one of the few economies in Europe with the top AAA credit rating. It also has the fastest growing economic inequality of any OECD nation.

Those days of market reform have faded. Week-long riots last year in Stockholm from largely poor immigrants put inequality under the spotlight.

But if there was one event that swayed opinion it was the OECD's PISA survey last year where Swedish 15-year-olds racked up the biggest decline in results of any participating nation. Swedish children ranked below OECD averages in many areas.

One of the biggest private education firms in Sweden went bankrupt in 2012, leaving 11,000 students in the lurch. Other state run schools have seen class numbers rise and teachers' salaries fall behind. There is only one Swedish university classified in the world's top 100 rankings, according to the Times Higher Education.

The angst also extends to health  where private firms run a fifth of hospital services. Scandals surfaced at elderly care homes with reports about residents being locked up in closets and some people not being fed for nearly a day. Staff switched off alarm systems at night so as not to be disturbed.

Hundreds of nurses also protested over poor resources for maternity wards.

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"There's simply no reason in cutting taxes in a country where neither the school system nor health care works," said Ohlin.

Polls show the Social Democrat opposition, campaigning for more spending on welfare, should trounce the government.

PRESSURE

The concern is whether Sweden can afford demands of people like Ohlin. More spending on education and health may come amid a fiscal squeeze. That may leave any future government with less room to spend as tax cuts have eaten into public finances.

When Reinfeldt came to power, the structural budget surplus was 2 percent of GDP. By 2014 a deficit of 1.2 percent of GDP is expected, according to state-run National Institute of Economic Research (NIER). It says the government may need fiscal tightening of 2.4 percent of GDP to balance the budget by 2017.

"The Swedish economy is in a good position," said Mats Dillen, NIER head. "But the most likely scenario will be for taxes to rise. It will be difficult to increase welfare spending without tax rises. There will be pressure on fiscal policy."

That may prove a conundrum for the Social Democrats, running on a ticket of increased welfare spending.

"I am really worried about the state of public finances," said Magdalena Andersson, economics spokeswoman for the Social Democrats and widely tipped to be Sweden's next finance minister if the opposition wins September's election.

Mindful of the deficit, the government has already announced increased taxes on alcohol and private pensions. But these are low lying fruits. Other decisions, such as whether to increase taxes on the rich, will be more controversial.

"The opposition and the government have said that they are not interested in any significant tax increases. Then a really tough policy will be needed to get back to surpluses," said John Hassler, chairman of the Swedish Fiscal Policy Council, a government agency.

Dillen said Sweden could see marginal tax rates on high incomes gradually rise to 60 percent, from 56 percent, if the government phases out tax deductions.


Some businesses are worried.

"What puzzles me is that you sit in a government with a strategy to cut taxes," said Jorgen Rasmusson, CEO of Lodde Plat, a construction company based in Malmo. "Then you start saying that you should not lower taxes, but rather retain and then possibly announce hikes."

The government and the Social Democrats have already announced more spending on schools. Few see a return to the Sweden of the 1970s, when marginal tax rates of the wealthy were over 80 percent.

But with an election looming, taxes may soon rise.

"I don't think we are going back to the past," said Arne Karlsson, chairman of Ratos, a Swedish private equity firm. "Both sides understand Sweden needs to be competitive. But yes, things will change."

($1 = 6.3547 Swedish crowns)

(Additional reporting by Johan Sennero, Niklas Pollard and Johan Ahlander; editing by Anna Willard)

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