The Welfare State in Crisis? Lucio Baccaro 6 April 2009

Overview What is going on? –Economy –Society –Politics –Ideational sphere Is there really a crisis and what are its features? Reform efforts –Pension reform –Labor market policy

The Usual Suspect: Globalization Is globalization responsible for the increasing strains of the welfare state? –Trade liberalization –Liberalization of capital movements –Migration The argument: –Globalization forces countries with extensive welfare states to compete with countries with lower levels of social protections and costs; the only way to compete is by reducing such social protections and costs –Race to the bottom –Demand for protection and protectionism

Does the Globalization Argument Hold Water? In theory, globalization could lead to greater, not lower, demand for social protection (greater exposure to risk) –David Cameron, 1978; Peter Katzenstein, 1985; Dani Rodrik, 2000 Empirically, the correlation between globalization and welfare state strain seems spurious: –Welfare state tensions and globalization move together in time and that’s what explains the empirical association

Looking at the Globalization Argument in Detail Difficult to find a direct link between international trade and the welfare state –Unskilled unemployment may be the linkage –Unemployment increases financial pressures on the welfare state Capital movement liberalization operates by limiting governments’ ability to run public deficits –True, but the accumulation of deficits was a feature of the years of welfare state expansion The migration argument is very weak –Migrants may contribute to unskilled unemployment –However, they are largely excluded from national welfare states –To the extent that they increase birth rates and reduce the dependency ratio, they are actually a resource for the welfare state

Demographic Changes Population aging –Lower birth rates –Increasing life expectancy Tendency to grow of the two largest welfare state programs –Pensions –Health care In addition, coming to maturity of major pension programs Furthermore, the baby boom generation approaches retirement Lower population of active workers + higher population of retired workers lead to financial pressures on the welfare state

The Challenges of a Post- Industrial Society All advanced countries have shifted to a structure of employment dominated by services The Baumol’s cost disease –Productivity growth in the service sector is lower than in the manufacturing sector –Employment share of services grows relative to manufacturing –Relative prices of services (including public social services) tend to grow –This by itself requires a growing share of GDP to finance services

Social Transformations Add to the Challenges Increased female labor force participation in the labor market Changes in family and marriage patterns –Greater rate of divorce –Greater proportion of single parent families (mostly headed by single mothers) Increased demand of care services (especially child and elderly care) Care services are mostly labor-intensive and thus fall squarely into the Baumol’s disease

Different Types of Welfare State Three types: liberal, continental, and social-democratic Three types of financing: –Minimalist, financed through taxation –Transfer-based (categorical), financed through social security contributions on wages –Universalist and service-based, financed through taxation

Impact of Baumol’s Cost Disease on Welfare States Models The “trilemma of the service economy” (Iversen and Wren, 1997) –Liberal welfare state: allows for the development of a low-wage (private) service sector High employment rate, no deficit problem, high wage inequality –Continental welfare state: does not allow for the development of a low wage service sector Low employment rate, no large deficit problem, low wage inequality –Social democratic welfare state: public provision of services by the state High employment rate, fiscal problems (taxes or deficit), low wage inequality

In Synthesis Endogenous dynamics (population aging, maturation of programs, de-industrialization, societal transformations) build pressure of the welfare state Increasing number of recipients, lower number of active contributors, higher relative cost of services (due to Baumol’s disease) Increased female participation lead to new demand of care services Financial sustainability of the welfare state is strictly dependent on high employment rates and low rates of dependence –Hence the biggest problems are with systems characterized by low labor market participation rates Different types of welfare states are faced with different problems –Liberal: high inequality; Continental: low employment; Social- Democratic: fiscal problems

Political Changes The transformation of European social democracy (Kitschelt, 1994) –E.g. New Labour in the UK, the German Social-Democratic Party under Schroeder, the Italian experience with the Olive Tree and the Democratic Party

Political Cleavages Individual Freedom + - State intervention + - Conservative Libertarian Christian Democratic or traditional Working- Class Party Left-Libertarian

The Path of Social-Democracy Individual Freedom + - State intervention + - S.D

Impact on the Welfare State In their move to the center, social-democratic parties: –Emphasize the importance of individual initiative and responsibility –De-emphasize high taxes and state provision of services –Underscore human capital as key to equality of opportunities –Are unwilling to restore their old working-class allies (trade unions) to their former privileged status

Crisis of Trade Unions Trade unions are in crisis everywhere The only national trade union movements to buck the trend are Belgium, Denmark, Sweden, and Finland Hence, the two key political supporters of the welfare state, social democratic parties and trade unions, and both undergoing deep transformations

Ideological Shift State intervention in the economy no longer unquestioned Reagan and Thatcher’s revolution The welfare state leads to: –Moral laxitude –Wrong incentives –Inefficiency –By strengthening the state, it threatens individual freedom (Friedman)

Concluding Remarks Numerous pressures, mostly domestic, on the welfare state –Demographic change –Maturation of programs –Consequences of de-industrialization Lower productivity, higher cost of services, dilemmas of the service economy –Political transformations: social-democratic parties and trade unions –Ideological transformation: public is no longer beautiful