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### Measuring inequality — overview and importance
- Mild inequality can incentivize investment in physical and human capital and increase labor effort; excessive inequality can undermine equality of opportunity and economic potential.
- Four key economic reasons high and rising inequality matters:
  - Inequality prevents lower income groups from affording key goods and services (housing, education, health care), reducing potential growth and possibly leading to inefficient public spending.
  - Inequality makes low-income earners financially fragile; limited economic cushions inhibit consumption smoothing and amplify the macroeconomic impact of shocks (example: Lithuania during the crisis of 2008–09).
  - Economic inequality tends to perpetuate itself through inequality of opportunity and political inequality, enabling rent-seeking and weakening competition, technological advance, and growth.
  - Inequality can be both a cause and consequence of emigration; high emigration rates in the Baltic states can increase interpersonal and inter-household inequality through remittances and return migration.

### How unequal is Lithuania? — levels, distribution, and poverty
- Transition and trend:
  - Lithuania’s transition to a market economy coincided with a much larger increase in inequality than in other CEE countries.
  - Income inequality (Gini index after taxes and transfers) increased sharply in the Baltic States during early transition, rose through the mid-2000s in Lithuania, fell briefly during the pre-crisis boom, and the 2008–09 crisis erased those gains; inequality has hovered at high levels since then.
  - Lithuania is the fourth most income-unequal EU and CEE country, after Bulgaria, Estonia, and Latvia.
- Relative to GDP per head:
  - Lithuania, Latvia, and Estonia have higher levels of inequality relative to their per capita GDP than peers; Hungary, Slovakia, the Czech Republic, and Slovenia have lower-than-expected inequality given GDP per head.
- Distributional statistics (exact figures preserved):
  - In the EU, top 20 percent receive 5 times the income of the bottom 20 percent on average; in Lithuania this ratio is 6.1.
  - Lithuania — quintiles (percent of total income): 1st 6.9; 2nd 12; 3rd 16.3; 4th 22.7; 5th 42.1. (Quintile S5/S1 ratio: 6.1)
  - EU-28 — quintiles (percent of total income): 1st 7.7; 2nd 13.2; 3rd 17.5; 4th 22.9; 5th 38.7. (Quintile S5/S1 ratio: 5.0)
  - Lithuania — deciles (percent of total income): 1st 2.5; 2nd 4.4; 3rd 5.5; 4th 6.5; 5th 7.5; 6th 8.8; 7th 10.3; 8th 12.4; 9th 15.4; 10th 26.7.
  - EU-28 deciles (percent of total income): 1st 2.8; 2nd 4.9; 3rd 6.1; 4th 7.1; 5th 8.2; 6th 9.3; 7th 10.6; 8th 12.3; 9th 14.8; 10th 23.9.
  - The bottom half of Lithuania’s distribution accounts for about 1/4 of total income compared to about 1/3 in both CEE and the EU-15.
- Poverty and thresholds:
  - One fifth or more of the Lithuanian population was estimated to be at-risk-of-poverty (ARP).
  - The ARP rate is some 11 percent above the EU-28 average.
  - The at-risk-of-poverty threshold is set at 60 percent of the national median equivalized disposable income after social transfers (for poverty indicators) and is expressed in purchasing power standards (PPS) to account for cost-of-living differences.
  - Examples of ARP threshold variation across EU Member States in 2014 (PPS): Romania PPS 2,361; Bulgaria PPS 3,540; Latvia PPS 3,868; several Western European countries PPS 11,507–PPS 12,542; Luxembourg PPS 16,818.
  - The ARP rate has been increasing in Lithuania while remaining broadly stable in the EU-28 during 2011–13.

### Measuring concepts (definitions preserved from Box 1)
- Gini coefficient: measures area between Lorenz curve and line of equality; ranges from 0 (perfect equality) to 1 (perfect inequality). Eurostat Gini is based on equivalized disposable income (household total income after tax divided by number of household members converted to equivalized adults using modified OECD equivalence scale).
- Equivalized disposable income: total monetary incomes of household members after taxes, divided by equivalized household size (modified OECD scale); assigned equally to each household member. Income reference period: fixed 12-month period.
- Other measures: Income quintile share ratio (S80/S20), SCV, MLD, Theil-index, Atkinson-indices — generally produce similar country rankings to Gini.
- At-risk-of-poverty rate (ARP): share of people with equivalized disposable income below 60 percent of national median equivalized disposable income after social transfers.
- Relative median income ratio: ratio of median equivalized disposable income of people aged above 65 to median equivalized disposable income of those aged below 65.

### Sources of inequality — decomposition and evidence
- Employee earnings:
  - Lithuania showed one of the highest degrees of household earnings inequality in the EU-28 (based on 2012 data).
  - Measured on an annual basis, Lithuania (together with Ireland, Spain, and Latvia) showed a Gini of 0.42 for earnings versus an EU-28 average Gini of 0.35.
  - Proportion of people living in work-poor households was among the largest in Lithuania (after Ireland, Greece, Latvia, and Spain).
- Self-employment:
  - Income from self-employment is more unequally distributed in all countries than income from dependent employment; in Lithuania it is relatively more unequally distributed and accounts for a somewhat higher share of total income.
- Capital and wealth:
  - Wealth and capital income are unlikely to play a central role in Lithuania’s relatively high income inequality: income from wealth is a smaller share of total income than in other countries.
  - The 2015 Credit Suisse Global Wealth Report reports a wealth Gini for Lithuania of 67.5 percent.
  - Possible explanations for relatively lower wealth inequality impact: privatization outcomes and land redistribution, with land and real estate use by owners above 75 percent in many cases, limiting extreme concentration of wealth to date.
  - Time and legacies of transition may mean sizable wealth inequalities have not yet fully accumulated.

### Income mobility and group-by-group disparities
- Income mobility (2009 and 2013):
  - In 2009 in Lithuania, about 21 percent of the population moved down one decile and about 16 percent moved up one decile.
  - In 2013, Lithuania again saw more people move down than up: "10 versus 18 percent" (darker vs lighter bars in Figure 3).
  - Overall income mobility in Lithuania was generally comparable to EU peers in 2009 but fell considerably behind in 2013, possibly reflecting lasting labor‑market reintegration difficulties following the deep crisis.
- Employment status:
  - Median income of the unemployed in Lithuania is only ⅓ of that for the whole population.
  - Lithuania is one of six EU member states where more than half of the unemployed were at‑risk‑of‑poverty in 2014 (together with the other two Baltic States, Hungary, Romania, and Luxembourg).
  - Retirees in Lithuania have ⅓ less median income compared to the population at large.
  - More than one in five Lithuanian retirees is at risk of poverty, compared to one in seven in the EU‑28.
- Age:
  - In the EU‑28 and EU‑15, people aged 65 and above had median income equivalent to 94 percent of the median income for the population under 65.
  - In Lithuania this proportion was 77 percent.
- Gender:
  - Lithuanian female median income was some 2½ percent lower than that of the total population; male median income was 4 percent higher.
  - The income and ARP gender gaps in Lithuania stood, respectively, 50 and 100 percent above those for the EU on average.
- Household structure:
  - In Lithuania, two adults with three or more dependent children had incomes ⅓ lower than households with fewer than three children.
- Educational attainment:
  - Median incomes of Lithuanians with secondary education exceed the total median income of the 18–64 age group by over 40 percent.
  - Lithuanians with only primary education had incomes 33 percent less than total median income compared to 22 percent for the EU on average.

### Labor market, fiscal structure, and macro context (key statistics preserved)
- Unemployment:
  - Unemployment remains rather high at around 9 percent (harmonized EU terms).
  - Long‑term unemployment accounts for close to half of total unemployment; it is especially high among the elderly.
- Correlation with inequality:
  - The overall correlation between unemployment rates and inequality has remained positive and significant at around 0.3.
  - Table of dynamic correlations (1992–2012; 1992–2001; 2002–12): Unemployment Rate and GINI: 0.341, 0.320, 0.270. Change in Unemployment rate and change in GINI: 0.285, 0.306, 0.302.
- Emigration and wages:
  - Average gross wages of only around €750 per month contribute to emigration.
  - Population declined from 3.5 million at the start of the millennium to under 2.9 million at the beginning of 2016; two‑thirds of this decline reflects net migration.
- Tax structure and revenues (exact shares):
  - Share of consumption taxes in total tax revenue: 42 percent in Lithuania vs. 29 percent in the EU.
  - Share of capital and wealth taxes: 9 percent in Lithuania vs. 20 percent in the EU.
  - Share of taxes on labor income: 49 percent in Lithuania vs. 51 percent in the EU.
  - Corporate and personal income taxes are levied at a flat, low rate of just 15 percent.
  - Revenue take in 2014 was only 28 percent of GDP in Lithuania vs. an EU average of 40 percent of GDP.
- Social protection spending:
  - Lithuania’s social protection spending was 14.5 percent of GDP compared to an EU average of 23.4 percent of GDP.
- Macroeconomic volatility:
  - Output volatility was over 2½ times above the EU average and was the third highest in the EU after Latvia and Estonia.
  - High GDP volatility tends to exacerbate income inequality, particularly harming low‑income earners with limited access to finance and savings.
  - High volatility partly reflects procyclical fiscal policy and small automatic stabilizers tied to a small public sector and inelastic public expenditure.

### Political context and recent policy steps
- Europe 2020 target: Lithuania’s 2014 National Reform Program committed to lower the number of persons at risk of poverty or social exclusion by 170,000 between 2008 and 2020.
- Recent policy steps:
  - Minimum wages hiked by over 50 percent since August 2012.
  - Basic and child allowances under the PIT have been raised.
  - Capital income first became taxable and the exemption threshold was subsequently decreased.
  - Social assistance was transferred to local governments to improve targeting.
  - Proposals to make the unemployment benefit system somewhat more generous are under discussion in Parliament.
  - Agreed increase for mid-2016 will bring minimum wage to euro 380 per month, more than 40 percent higher than three years ago, corresponding to 52 percent of the average wage, and covering as many as 20 percent of all workers.
- Concerns about minimum wage policy:
  - High relative to average wages by international standards.
  - Risks: reduced job market prospects for the less qualified, more informality, reduced international competitiveness.
  - Ineffective for the unemployed and may benefit households with two income earners that are already relatively well off.

### Policy directions — dual-purpose and redistribution-focused measures
- Dual-purpose measures (boost growth and reduce inequality):
  - Reduce structural unemployment:
    - Strengthen Active Labor Market Programs (ALMPs) by spending more, providing more extensive training, and expanding eligibility beyond the registered unemployed.
    - Reduce the tax wedge for low-wage earners, for example by introducing a basic allowance to social security contributions.
    - Modernize labor relations via the proposed new Labor Code currently under discussion in Parliament to spur hiring and help attract FDI.
    - Implement effective life-long learning programs to help older workers keep up with evolving skill requirements.
  - Improve the education system:
    - Recent reforms include making early childhood education and care compulsory for all from the age of five, development of a nation-wide student competence measurement system, and induction training and more professional support for teachers.
    - Challenges: unsatisfactory achievements in reading and mathematics compared to peers, underdeveloped and overly school-based vocational training, pervasive skill mismatches in tertiary education.
    - Remedies: mandatory student orientation before fields of study are chosen, reallocation of government-paid study places from social sciences to science and technology.
    - The education system is described as oversized with too many schools, universities, study programs, and teachers; scope for savings that could be spent on boosting quality of education (IMF, 2015b).
  - Foster productivity:
    - Company upgrading through more sophisticated products, better processes, better branding and marketing, and new markets.
    - Innovation policy should emphasize commercialization of research outcomes, rationalization of fragmented innovation infrastructure, and raising R&D spending efficiency.
    - Improve business environment: better bankruptcy procedures, simplification of commercial legislation including labor market laws, more rigorous use of cost-benefit analysis in public procurement, and more liberal immigration procedures to address critical skill shortages.
    - Better tax enforcement to improve fairness and scale back the large shadow economy.
- Redistribution-focused measures (directly reduce inequality):
  - Raise more revenue from the well-to-do by hiking taxes on capital income and wealth.
  - Introduce more progressivity in the personal income tax (PIT) system by raising basic allowances and adding an upper bracket to the currently flat-rate PIT.
    - Note: the social security system is already progressive, but could be made more so by introducing a basic allowance.
    - Current considerations to strengthen the insurance character of social security pensions would go in the opposite direction; adverse effects would need to be offset by a more radical overhaul of the PIT, complemented by a shift to budget-financed basic pensions.
  - Improve tax administration and continue to strengthen underdeveloped tax bases; strengthen tax compliance as a prerequisite for effective taxation of personal incomes.
  - Raise the amount and improve the targeting of public expenditure devoted to social protection, especially unemployment benefits, ALMPs, social assistance, and old-age pensions—all currently low by EU standards.
    - Specific scope to better target disability insurance benefits.
  - Ensure a countercyclical fiscal stance within confines of applicable fiscal rules to build buffers in good times and support demand in bad ones.

### Fiscal design, trade-offs, and conclusions
- Fiscal design and budget neutrality:
  - The eventual package should be budget neutral.
  - Changes to taxes and benefits have fiscal implications and should not undermine fiscal achievements since the 2008–09 crisis.
  - Lithuania achieved a structural budget deficit target of ½ percent of GDP.
  - Scope to generate fiscal space by making public spending more efficient, for example by tackling oversized infrastructures in health and education while continuing to supply an appropriate level of services to the public (OECD, 2016).
- Key findings and conclusions:
  - Income inequality in Lithuania is high relative to peers and to Lithuania’s own post-transition history.
  - Negative consequences of high inequality cited: prevents many from satisfying basic needs; renders a considerable part of the population financially fragile; may foster rent-seeking through the political process, spur emigration, and ultimately lower economic growth.
  - Drivers of Lithuania’s relatively high inequality: limited progressivity of the tax system; low social protection spending and limited fiscal revenues; high macroeconomic volatility combined with pro-cyclical fiscal policies.
  - Distributional profile: inequality driven primarily by the top and bottom ends of the income distribution; very low income status concentrated among the unemployed, the retired, the unskilled, and families with many children; social mobility is low.
  - Policy approach: two sets of measures—dual-purpose measures that boost growth with large impact on the poor, and redistribution-focused fiscal measures that raise incomes of the very poor. Policy measures should be designed as a budget neutral package to protect hard-won fiscal gains and build fiscal buffers.
  - Caution: reliance on minimum wages has been excessive; further hikes risk becoming counterproductive.

*Source: IMF staff chapter "1. Measuring Inequality" and associated country analysis (Republic of Lithuania), April 28, 2016.*

### 1. Measuring Inequality ____________________________________________________________________________ 7

### 1. Measuring Inequality

### A. Why inequality matters
- Mild inequality can incentivize investment in physical and human capital and increase labor effort; excessive inequality can undermine equality of opportunity and economic potential.
- Four key economic reasons high and rising inequality matters:
  - Inequality prevents lower income groups from affording key goods and services (housing, education, health care), reducing potential growth and possibly leading to inefficient public spending.
  - Inequality makes low-income earners financially fragile; limited economic cushions inhibit consumption smoothing and amplify the macroeconomic impact of shocks (example: Lithuania during the crisis of 2008–09).
  - Economic inequality tends to perpetuate itself through inequality of opportunity and political inequality, enabling rent-seeking and weakening competition, technological advance, and growth.
  - Inequality can be both a cause and consequence of emigration; high emigration rates in the Baltic states can increase interpersonal and inter-household inequality through remittances and return migration.

### B. How unequal is Lithuania? — key patterns and comparisons
- Transition and trend:
  - Lithuania’s transition to a market economy coincided with a much larger increase in inequality than in other CEE countries.
  - Income inequality (Gini index after taxes and transfers) increased sharply in the Baltic States during early transition, rose through the mid-2000s in Lithuania, fell briefly during the pre-crisis boom, and the 2008–09 crisis erased those gains; inequality has hovered at high levels since then.
  - Lithuania is the fourth most income-unequal EU and CEE country, after Bulgaria, Estonia, and Latvia.
- Relative to GDP per head:
  - Lithuania, Latvia, and Estonia have higher levels of inequality relative to their per capita GDP than peers; Hungary, Slovakia, the Czech Republic, and Slovenia have lower-than-expected inequality given GDP per head.
- Distributional statistics:
  - In the EU, top 20 percent receive 5 times the income of the bottom 20 percent on average; in Lithuania this ratio is 6.1.
  - Decile comparisons also show greater skewness in Lithuania than in the EU-28, EU-15, or CEE.
  - The bottom half of Lithuania’s distribution accounts for about 1/4 of total income compared to about 1/3 in both CEE and the EU-15.
- Poverty and thresholds:
  - One fifth or more of the Lithuanian population was estimated to be at-risk-of-poverty (ARP).
  - The ARP rate is some 11 percent above the EU-28 average.
  - The at-risk-of-poverty threshold is set at 60 percent of the national median equivalized disposable income after social transfers (for poverty indicators) and is expressed in purchasing power standards (PPS) to account for cost-of-living differences.
  - In 2014, the ARP threshold varied widely across EU Member States (examples provided in source: PPS 2,361 in Romania; PPS 3,540 in Bulgaria; PPS 3,868 in Latvia; PPS 11,507–PPS 12,542 in several Western European countries; Luxembourg PPS 16,818).
  - The ARP rate has been increasing in Lithuania while remaining broadly stable in the EU-28 during 2011–13.

### Box 1. Measuring inequality — definitions and measures
- Gini coefficient:
  - Measures area between Lorenz curve and line of equality; ranges from 0 (perfect equality) to 1 (perfect inequality).
  - Eurostat Gini is based on equivalized disposable income (household total income after tax divided by number of household members converted to equivalized adults using modified OECD equivalence scale).
- Equivalized disposable income:
  - Total monetary incomes of household members after taxes, divided by equivalized household size (modified OECD scale); assigned equally to each household member.
  - Income reference period: fixed 12-month period.
- Other measures:
  - Income quintile share ratio (S80/S20): ratio of total income of top 20 percent to bottom 20 percent (equivalized disposable income).
  - Squared coefficient of variation (SCV), mean logarithmic deviation (MLD), Theil-index, Atkinson-indices — generally produce similar country rankings to Gini.
- At-risk-of-poverty rate (ARP):
  - Share of people with equivalized disposable income below 60 percent of national median equivalized disposable income after social transfers.
- Relative median income ratio:
  - Ratio of median equivalized disposable income of people aged above 65 to median equivalized disposable income of those aged below 65.

### C. Distribution by quintiles and deciles (selected figures)
- Lithuania — quintiles (percent of total income): 1st 6.9; 2nd 12; 3rd 16.3; 4th 22.7; 5th 42.1. (Quintile S5/S1 ratio: 6.1)
- EU-28 — quintiles (percent of total income): 1st 7.7; 2nd 13.2; 3rd 17.5; 4th 22.9; 5th 38.7. (Quintile S5/S1 ratio: 5.0)
- Western Europe — quintiles: 1st 8.2; 2nd 13.5; 3rd 17.6; 4th 22.8; 5th 37.9. (Quintile S5/S1 ratio: 4.6)
- CEE (EU) — quintiles: 1st 7.4; 2nd 12.9; 3rd 17.4; 4th 23.0; 5th 39.3. (Quintile S5/S1 ratio: 5.3)
- Lithuania — deciles (percent of total income): 1st 2.5; 2nd 4.4; 3rd 5.5; 4th 6.5; 5th 7.5; 6th 8.8; 7th 10.3; 8th 12.4; 9th 15.4; 10th 26.7. (Decile 10/1 ratio shown as red bar)
- EU-28 deciles (percent of total income): 1st 2.8; 2nd 4.9; 3rd 6.1; 4th 7.1; 5th 8.2; 6th 9.3; 7th 10.6; 8th 12.3; 9th 14.8; 10th 23.9.
- Western Europe deciles (percent of total income): 1st 3.0; 2nd 5.1; 3rd 6.2; 4th 7.3; 5th 8.3; 6th 9.4; 7th 10.6; 8th 12.2; 9th 14.6; 10th 23.3.
- CEE (EU) deciles (percent of total income): 1st 2.7; 2nd 4.7; 3rd 6.0; 4th 7.0; 5th 8.1; 6th 9.3; 7th 10.6; 8th 12.4; 9th 15.1; 10th 24.2.

### D. Sources of inequality — decomposition and evidence
- Main drivers of Lithuania’s income inequality:
  - Employee earnings:
    - Lithuania showed one of the highest degrees of household earnings inequality in the EU-28 (based on 2012 data).
    - Measured on an annual basis, Lithuania (together with Ireland, Spain, and Latvia) showed a Gini of 0.42 for earnings versus an EU-28 average Gini of 0.35.
    - Proportion of people living in work-poor households was among the largest in Lithuania (after Ireland, Greece, Latvia, and Spain).
  - Self-employment:
    - Income from self-employment is more unequally distributed in all countries than income from dependent employment; in Lithuania it is relatively more unequally distributed and accounts for a somewhat higher share of total income.
  - Capital and wealth:
    - Wealth and capital income are unlikely to play a central role in Lithuania’s relatively high income inequality: income from wealth is a smaller share of total income than in other countries.
    - The 2015 Credit Suisse Global Wealth Report reports a wealth Gini for Lithuania of 67.5 percent.
    - Possible explanations for relatively lower wealth inequality impact: privatization outcomes and land redistribution, with land and real estate use by owners above 75 percent in many cases, limiting extreme concentration of wealth to date.
    - Time and legacies of transition may mean sizable wealth inequalities have not yet fully accumulated.

### E. Implications and policy directions (summary from chapter)
- High and rising inequality in Lithuania has social and macroeconomic consequences: reduced access to education, health, and housing; financial fragility; perpetuation of inequality through opportunity and political channels; and links to emigration.
- Suggested policy directions (as summarized in the chapter introduction):
  - Measures to bring down structural unemployment would raise incomes by boosting growth.
  - A reform of the tax and benefit system would make faster and larger inroads into inequality through redistribution but would require deeper and more comprehensive reforms.
  - Individual measures could be combined into a budget neutral package.

*Source: IMF staff chapter "1. Measuring Inequality" (Republic of Lithuania), April 28, 2016.*

### 11. Upward income mobility is lower than in other countries, while downward income

### 11. Upward income mobility is lower than in other countries, while downward income mobility is higher

### Income mobility (2009 and 2013)
- In 2009 in Lithuania, about 21 percent of the population moved down one decile and about 16 percent moved up one decile.
- In 2013, Lithuania again saw more people move down than up: "10 versus 18 percent" (darker vs lighter bars in Figure 3).
- Overall income mobility in Lithuania was generally comparable to EU peers in 2009 but fell considerably behind in 2013, possibly reflecting lasting labor‑market reintegration difficulties following the deep crisis.

### Dissection of inequality by population characteristics
- Employment status
  - Median income of the unemployed in Lithuania is only ⅓ of that for the whole population.
  - Lithuania is one of six EU member states where more than half of the unemployed were at‑risk‑of‑poverty in 2014 (together with the other two Baltic States, Hungary, Romania, and Luxembourg).
  - Retirees in Lithuania have ⅓ less median income compared to the population at large.
  - More than one in five Lithuanian retirees is at risk of poverty, compared to one in seven in the EU‑28.
- Age
  - In the EU‑28 and EU‑15, people aged 65 and above had median income equivalent to 94 percent of the median income for the population under 65.
  - In Lithuania this proportion was 77 percent.
- Gender
  - Lithuanian female median income was some 2½ percent lower than that of the total population; male median income was 4 percent higher.
  - The income and ARP gender gaps in Lithuania stood, respectively, 50 and 100 percent above those for the EU on average.
- Household structure
  - In Lithuania, two adults with three or more dependent children had incomes ⅓ lower than households with fewer than three children.
- Educational attainment
  - Median incomes of Lithuanians with secondary education exceed the total median income of the 18–64 age group by over 40 percent.
  - Lithuanians with only primary education had incomes 33 percent less than total median income compared to 22 percent for the EU on average.

### Labor market and unemployment links to inequality
- Unemployment remains rather high at around 9 percent (harmonized EU terms).
- Long‑term unemployment accounts for close to half of total unemployment; it is especially high among the elderly.
- The overall correlation between unemployment rates and inequality has remained positive and significant at around 0.3.
- Table of dynamic correlations (1992–2012; 1992–2001; 2002–12):
  - Unemployment Rate and GINI: 0.341, 0.320, 0.270
  - Change in Unemployment rate and change in GINI: 0.285, 0.306, 0.302

### Causes of inequality identified
- Low living standards, modest public expenditure on social protection, limited tax progressivity, and high income volatility are prominent drivers.
- Emigration
  - Average gross wages of only around €750 per month contribute to emigration.
  - Population declined from 3.5 million at the start of the millennium to under 2.9 million at the beginning of 2016; two‑thirds of this decline reflects net migration.
- Tax structure and revenues
  - Lithuania relies heavily on social security contributions and consumption taxes.
  - Share of consumption taxes in total tax revenue: 42 percent in Lithuania vs. 29 percent in the EU.
  - Share of capital and wealth taxes: 9 percent in Lithuania vs. 20 percent in the EU.
  - Share of taxes on labor income: 49 percent in Lithuania vs. 51 percent in the EU.
  - Corporate and personal income taxes are levied at a flat, low rate of just 15 percent.
  - Revenue take in 2014 was only 28 percent of GDP in Lithuania vs. an EU average of 40 percent of GDP.
- Social protection spending
  - Lithuania’s social protection spending was 14.5 percent of GDP compared to an EU average of 23.4 percent of GDP.
  - Because social protection spending is low, it mitigates income inequality much less than in most other countries.
- Macroeconomic volatility and fiscal stance
  - Output volatility was over 2½ times above the EU average and was the third highest in the EU after Latvia and Estonia.
  - High GDP volatility tends to exacerbate income inequality, particularly harming low‑income earners with limited access to finance and savings.
  - High volatility partly reflects procyclical fiscal policy and small automatic stabilizers tied to a small public sector and inelastic public expenditure.

### Implications for policy (as discussed in the text)
- Limited tax progressivity, low taxation of capital and wealth, and a low revenue take constrain the fiscal space for redistributive social spending.
- Low social protection spending reduces the ability of transfers to mitigate inequality.
- High output volatility and procyclical fiscal policies worsen income volatility for vulnerable groups and may increase inequality.
- Emigration of productive individuals risks perpetuating low living standards and may feed back into higher inequality.

*Italic: Source: IMF staff analysis in "REPUBLIC OF LITHUANIA" (chapter text provided).*

### 20. Recently, the political agenda on income inequality has become more prominent with

### _cr16126 - 20. Recently, the political agenda on income inequality has become more prominent with

### Political context and commitment
- European targets for income equality introduced under the Europe 2020 growth strategy.
- Lithuania’s commitment (enshrined in the 2014 National Reform Program): lower the number of persons at risk of poverty or social exclusion by 170,000 between 2008 and 2020.

### Recent policy steps taken in Lithuania
- Large minimum wage hikes: minimum wages hiked by over 50 percent since August 2012.
- Basic and child allowances under the PIT have been raised.
- Capital income first became taxable and the exemption threshold was subsequently decreased.
- Social assistance was transferred to local governments to improve targeting.
- Proposals to make the unemployment benefit system somewhat more generous are under discussion in Parliament.
- Note on minimum wage level: the already agreed increase for mid-2016 will bring it to euro 380 per month, more than 40 percent higher than three years ago, corresponding to 52 percent of the average wage, and covering as many as 20 percent of all workers.
- Concerns about minimum wage policy:
  - High relative to average wages by international standards.
  - Risks: reduced job market prospects for the less qualified, more informality, reduced international competitiveness.
  - Ineffective for the unemployed and may benefit households with two income earners that are already relatively well off.

### Dual-purpose measures (boost growth and reduce inequality)
- Objective: raise output and employment, especially for the low-skilled.
- Suggested measures:
  - Reduce structural unemployment:
    - Strengthen Active Labor Market Programs (ALMPs) by spending more, providing more extensive training, and expanding eligibility beyond the registered unemployed.
    - Reduce the tax wedge for low-wage earners, for example by introducing a basic allowance to social security contributions.
    - Modernize labor relations via the proposed new Labor Code currently under discussion in Parliament to spur hiring and help attract FDI.
    - Implement effective life-long learning programs to help older workers keep up with evolving skill requirements.
  - Improve the education system:
    - Recent reforms include making early childhood education and care compulsory for all from the age of five, development of a nation-wide student competence measurement system, and induction training and more professional support for teachers.
    - Challenges: unsatisfactory achievements in reading and mathematics compared to peers, underdeveloped and overly school-based vocational training, pervasive skill mismatches in tertiary education.
    - Remedies: mandatory student orientation before fields of study are chosen, reallocation of government-paid study places from social sciences to science and technology.
    - The education system is described as oversized with too many schools, universities, study programs, and teachers; scope for savings that could be spent on boosting quality of education (IMF, 2015b).
  - Foster productivity:
    - Company upgrading through more sophisticated products, better processes, better branding and marketing, and new markets.
    - Innovation policy should emphasize commercialization of research outcomes, rationalization of fragmented innovation infrastructure, and raising R&D spending efficiency.
    - Improve business environment: better bankruptcy procedures, simplification of commercial legislation including labor market laws, more rigorous use of cost-benefit analysis in public procurement, and more liberal immigration procedures to address critical skill shortages.
    - Better tax enforcement to improve fairness and scale back the large shadow economy.

### Redistribution-focused measures (directly reduce inequality)
- Rationale: promise larger and faster inroads than dual-purpose measures; focus on tax and spending system reform.
- Options for consideration:
  - Raise more revenue from the well-to-do by hiking taxes on capital income and wealth.
  - Introduce more progressivity in the personal income tax (PIT) system by raising basic allowances and adding an upper bracket to the currently flat-rate PIT.
    - Note: the social security system is already progressive, but could be made more so by introducing a basic allowance.
    - Current considerations to strengthen the insurance character of social security pensions would go in the opposite direction; adverse effects would need to be offset by a more radical overhaul of the PIT, complemented by a shift to budget-financed basic pensions.
  - Improve tax administration and continue to strengthen underdeveloped tax bases; strengthen tax compliance as a prerequisite for effective taxation of personal incomes.
  - Raise the amount and improve the targeting of public expenditure devoted to social protection, especially unemployment benefits, ALMPs, social assistance, and old-age pensions—all currently low by EU standards.
    - Specific scope to better target disability insurance benefits.
  - Ensure a countercyclical fiscal stance within confines of applicable fiscal rules to build buffers in good times and support demand in bad ones.

### Fiscal design and budget neutrality
- The eventual package should be budget neutral.
- Changes to taxes and benefits have fiscal implications and should not undermine fiscal achievements since the 2008–09 crisis.
- Lithuania achieved a structural budget deficit target of ½ percent of GDP.
- Scope to generate fiscal space by making public spending more efficient, for example by tackling oversized infrastructures in health and education while continuing to supply an appropriate level of services to the public (OECD, 2016).

### Key findings and conclusions
- Income inequality in Lithuania is high relative to peers and to Lithuania’s own post-transition history.
- Negative consequences of high inequality cited:
  - Prevents many from satisfying basic needs.
  - Renders a considerable part of the population financially fragile.
  - May foster rent-seeking through the political process, spur emigration, and ultimately lower economic growth.
- Drivers of Lithuania’s relatively high inequality:
  - Limited progressivity of the tax system.
  - Low social protection spending and limited fiscal revenues.
  - High macroeconomic volatility combined with pro-cyclical fiscal policies.
- Distributional profile: inequality driven primarily by the top and bottom ends of the income distribution; very low income status concentrated among the unemployed, the retired, the unskilled, and families with many children; social mobility is low.
- Policy approach:
  - Two sets of measures: dual-purpose measures that boost growth with large impact on the poor, and redistribution-focused fiscal measures that raise incomes of the very poor.
  - Some modest steps already taken, but reliance on minimum wages has been excessive; further hikes risk becoming counterproductive.
  - Dual-purpose measures recommended: tackle structural unemployment, modernize and rationalize the education system, propel productivity growth, and make fiscal policy countercyclical.
  - Redistribution-focused measures that could make larger inroads: increase tax progressivity and social protection spending while improving targeting; higher revenue mobilization is important to fund pro-equity spending.
  - Policy measures should be designed as a budget neutral package to protect hard-won fiscal gains and build fiscal buffers.

*Source: IMF country material (Republic of Lithuania) contained in the provided content unit.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16126.pdf_