The Future of the Welfare State: European And Global Perspectives

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THE FUTURE OF THE WELFARE STATE

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The Future of the Welfare State European and Global Perspectives

BENT GREVE University of Roskilde, Denmark

© Bent Greve 2006 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without the prior permission of the publisher. Bent Greve has asserted his moral right under the Copyright, Designs and Patents Act, 1988, to be identiﬁed as the author of this work. Published by Ashgate Publishing Limited Gower House Croft Road Aldershot Hampshire GU11 3HR England

Ashgate Publishing Company Suite 420 101 Cherry Street Burlington, VT 05401-4405 USA

Ashgate website: http://www.ashgate.com British Library Cataloguing in Publication Data The future of the welfare state: European and global perspectives. – (Alternative voices in contemporary economics) industry 1. Public welfare 2. Public welfare – Europe I. Greve, Bent 330.1'26 Library of Congress Cataloging-in-Publication Data The future of the welfare state: European and global perspectives / edited by Bent Greve. p. cm. -- (Alternative voices in comtemporary economics) Includes bibliographical references and index. ISBN 0-7546-4640-8 1. Public welfare--Europe. 2. Welfare state--Europe. 3. Europe--Social policy. 4. Globalization--Social aspects. 5. Globalization--Economic aspects. I. Greve, Bent. II. Series. HV238.F88 2006 361.6'5094--dc22 2006012219 ISBN-10: 0 7546 4640 8 ISBN-13: 978-0-7546-4640-2

Printed and bound by Athenaeum Press, Ltd. Gateshead, Tyne & Wear.


Contents List of Tables List of Figures List of Contributors Introduction: The Social, Political and Economic Future of the European Welfare States Bent Greve Introduction Globalisation and its Impact on Welfare States The Ageing of Societies Distributional Issues Short Overview of the Chapters Conclusion Part 1

ix xi xiii

1 1 2 3 4 5 7

European Welfare Perspective

1 A Tale of Two Pensions Reforms: A Sraffian View Sergio Cesaratto Introduction The NDC Reforms Financial Stability Fairness in NDC Schemes Fully-Funded or Poorly Founded Reforms Obstacles to an FF Reform The Role of the Capital Critique Ageing, Labour Market and the Sustainability of PAYG The Secular Demographic Developments The Economic Impact of the Demographic Developments: Labour Market, Employment and Output Ageing and Old-Age Spending 2 Is there a Demographic Time-bomb? Bent Greve Introduction Demographic Changes Options? Increase in Wealth? Will Future Generations Need the Same Public Welfare?

11 11 11 11 13 16 17 20 21 21 22 24 27 27 28 30 31 32

vii

The Future of the Welfare State Labour Market Integration Conclusion

3 A Market Imitating Employment Subsidy Ralph S. Musgrave Introduction Market Imitating Redundancy Delaying The Effects of Minimum Wages, in Work Benefits, Graduated Tax, etc. The Purpose of Unemployment Benefit Weaknesses in the System Advocated Here Should We Allow 1 Euro per Day Jobs? 4 Pauperising Cities? Towards a Regional Framework for EU Poverty Statistics Matthias Till Introduction: Poverty is Produced, Not Given! To See or Not to See: The Union’s Sight on Poverty Tapping on the Pattern of Poverty in Europe – A Conventional View Dublin and Vienna – Pauperising Cities? The Risk of Income Poverty Income Inequality and Secondary Indicators Conclusion Part 2

33 34 37 37 38 40 40 41 41 42

45 45 46 49 52 53 55 58

Global Perspectives

5 Welfare State and Uncertainty – Two Different Views Jesper Jespersen Introduction Two Different Schools of Methodology Newton’s Legacy Bentham’s Legacy The General Equilibrium Model is Built upon an Ontology without Genuine Uncertainty Risk and Uncertainty – Two Different Terms Credit, Insurance and the Welfare State Uncertainty on the Macro Level and the Welfare State Conclusion: The Welfare State in Perspective of Uncertainty 6 Inequality and Unemployment: Reflections on Theory and on Europe James K. Galbraith Introduction Voluntary and Involuntary Unemployment: A Brief Review

61 61 62 63 65 67 68 73 74 76 79 79 80

Contents Rethinking Flexibility A More General Theory of Unemployment Inequality of What and Over What? Reflections on Europe Implications for Unemployment Policy in Europe 7 International Finance for Development and the New Transnational Dimension of Welfare in Poor Countries Marco Zupi Introduction Role of International Finance Recent Trends and Composition of Foreign Finance for Development The Impact of Workers’ Remittances on Development and Welfare From National Welfare State and Market Systems to the Need of New Solutions Remittances, Informal Systems and Transnational Welfare Practices

viii 83 87 89 94

99 99 100 103 112 116 119

8 From Globalisation to World Welfare: Established and Emerging Global Actors Andrea Gallina Introduction On Globalisation: Conceptual Clarity Helps The Economic Results of Neoliberal Globalisation Emerging Actors in the Global Economy Conclusion

125 129 132 136 139

Bibliography Index

143 155

125

List of Tables 2.1 2.2 2.3 4.1 4.2 4.3 4.4 4.5 4.6

Old Age Dependency Ratio 2000–2050 for Selected EU-Countries Public Pension Expenditures Before Taxes as a Percentage of GDP Percentage Increase in Wealth Under Various Expectations for the Economic Growth-Rate After 45 Years At-Risk-of-Poverty Rates for Member States and Welfare Regimes Trends in Income Poverty in Ireland and Austria 1995–2001 Poverty in Dublin and Vienna when using a Regional Standard 1995–2001 Trends in Income Inequality in Ireland and Austria 1995–2001 Sensitivity of Income Poverty Estimates in Ireland and Austria 1995–2001 Trends in Secondary Poverty Indicators in Ireland and Austria 1995–2001

28 29 32 50 54 55 56 57 58


List of Figures 3.1 6.1 6.2 6.3 6.4 7.1 7.2 7.3 7.4 7.5 7.6 7.7

Net Revenue and Employment Manufacturing Pay Inequality across Industries and Unemployment in the United States, 1947–2000, Monthly A Quantile–Quantile Scatterplot of Unemployment and Manufacturing Pay Inequality in the United States, 1948–2000, Monthly European Pay Inequality in Manufacturing, Within and Between Countries, Compared to Average Level for the United States European Inequality and Youth Unemployment by Year, 1983–1997, by Province The Role of International Finance in the Process of Capital Accumulation Net Financial Flows to Developing Countries, 1992–2003 Net FDI Inflows to Developing Countries, 1995–2003 Developing Countries’ Current Account Balance, 1997–2003 Debt Flows to Developing Countries, 1995–2004 Net ODA to Developing Countries, 1990–2002 Workers’ Remittances and Other Inflows, 1988–2003

43 85 86 90 93 100 104 104 105 107 108 110


List of Contributors Andrea Gallina is Associate Professor in International Political Economy of Innovation and Technical Change at the Department of Social Sciences, Roskilde University. His research focused on the analysis of the effect of free trade on industrial and agricultural production systems, migration and development particularly in the Mediterranean countries. He has carried-out research within national and EU programmes and published articles on scientific journals and books on this subject. Bent Greve is Professor in Welfare State Analysis at the Department of Social Sciences, Roskilde University. He holds both a PhD. and a doctoral degree in public administration. He has published extensively on social policy, labour market and financing of the welfare state often in a comparative perspective. James K. Galbraith holds the Lloyd M. Bentsen, jr. Chair in Government/Business Relations at the Lyndon B. Johnson School of Public Affairs, The University of Texas at Austin and is Senior Scholar with the Levy Economics Institute. Jesper Jespersen has been Professor of Economics at the Faculty of Social Sciences since 1996. Previously he taught international economics at the Copenhagen Business School. He received his PhD from The European University in Firenze, September 1979 and was Jean Monnet research fellow there in 1984/1985. He has been a visiting scholar at the London School of Economics (1974). In 2001/2002 and 2004/2005 he was awarded the Carlsberg overseas fellowship at Churchill College, Cambridge doing research in Post Keynesian Macroeconomics and has written a number of books and papers on that topic. Matthias Till is a PhD candidate at the Institute of Sociology at the University of Vienna and Institute of Sociology for Regional Planning and Architecture (ISRA) at Vienna Technical University. He specialised in Survey Statistics, particularly the European Community Household Panel Survey (ECHP) and its successor EUSILC. Comparative European poverty and housing research is his main field of interest. Marco Zupi (B.A., Dipl., M.A., M.Phil., Ph.D.) is Deputy Director of CeSPI, a reesarch centre on international relations based in Rome, he qualified in Denmark for the associate professorship of International Political Economy and now he lectures at Roskilde University, where he earned his PhD. He has written and edited numerous books and articles on development co-operation and development economics.

xiv

The Future of the Welfare State

Ralph S. Musgrave Long before the UK’s ‘New Deal’ was implemented Ralph S. Musgrave was advocating this sort of subsidised employment. Here, he suggests a new way of implementing temporary subsidised employment. Ralph Musgrave is neither an academic nor a professional economist but has written occasional articles on labour market matters in the past. Sergio Cesaratto is Professor of Economics at the University of Siena. He has worked on theoretical and applied aspects of technical change, on neoclassical and non-orthodox growth theory, and the concept of equilibrium. His recent work focused upon pensions and the ageing process. He has published on various international journals, including the Cambridge Journal of Economics and the Review of Political Economy and a book on pensions for Edward Elgar Publishing.

Introduction: The Social, Political and Economic Future of the European Welfare States Bent Greve

Introduction This book revolves around questions concerning the changes and challenges facing the European welfare states. It has been widely perceived that the welfare state has been threatened and in crisis for many years. The OECD already declared in 1981 that the welfare state was in crisis (OECD, 1981). This came subsequent to the impact of the first and second energy crises, which shook the world economy and also had a strong impact on Europe. Despite this pronounced crisis in the late 1970s and early 1980s, especially pertaining to goals regarding employment and equity, the welfare state would seem to have survived and even been further developed in most EU countries. Increases in social security spending and the convergence of spending between EU member states are two indicators of this tendency (Greve, 2004). Recently, reports from the OECD and the EU have concluded that the welfare state is again on the brink of a new crisis, especially given the expected ageing of societies and the global impact on the capacity of welfare states to maintain a national focus in an ever-increasing global context. Proposed reforms to pension systems aimed at ensuring later retirement from the labour market and increased use of the market are elements that are regularly forwarded in the debate. This book questions many of these conventional proposals, including their theoretical foundations and their understandings of the development of welfare states and possible future developments, especially in Europe. It primarily does so from an economic vantage point, but also integrates perspectives on the development of the welfare state that have been gleaned from political science and sociology. By integrating these various perspectives, it becomes possible to develop a more multi-facetted understanding of the possible instruments available for the further development of the welfare state and its future. This owes to the fact that merely relying on one perspective does not provide sufficient knowledge regarding the development of society. Furthermore, the book does not embrace a traditional economic approach to the development of the welfare state, i.e. the contributions are highly inspired by institutional and Keynesian theory. As such, the book also contributes to the introduction of new perspectives on the European

2


development that are not present in the more traditional analyses of the European welfare states. The book builds around three core areas. These core areas reflect central elements of the future European development, including what has been perceived to represent some of the principal challenges facing the welfare state: globalisation, demographic shifts and distributional issues. Focusing on these three areas represents a means by which to present alternative recommendations for welfare states in the years to come.

Globalisation and its Impact on Welfare States The increased interdependence between nations around the globe has been discussed for many years. The consequences for the capacity of the nation-state to maintain and pursue its own national strategy has been widely debated. Understandings of the impact of globalisation on the development of the welfare state in various countries have ranged from extremely pessimistic to extremely optimistic (Greve, 2004). It has been widely perceived that the room for manoeuvre in the traditional income and fiscal policies, especially for small open economies, has become narrower over time. In the EU countries that are members of the monetary union with the EURO exchange rate policy, these instruments have been removed entirely. International finances and the dislocation of capital and resources doubtlessly have a massive impact on the political and economic systems in many countries, but questions naturally arise as to whether this ought to then provide occasion for a greater or smaller welfare state. At the same time, the expansion of economies in parts of the third world, and especially in the BRIC countries, has had consequences for the overall economic picture of the world, as it is expected to continue to do in the future. At the same time, however, the economic inequalities between rich and poor nations have been exacerbated. This inequality has been compared with that of a champagne glass (Wade, 2001), but economic inequality has merely been one aspect of the globalisation of the world development. Environmental issues such as global warming, terrorism, global diseases and the need for global education have been debated. A new agenda for coping with globalisation has also been put forward (Held, 2004). Globalisation is hardly a new issue for world economic and political development, but it has become more prominent due to its increased impact. The formulation of regional unions attempting to ensure a regional sustainable development has encouraged competition between regions, but it has also meant that the impact of globalisation has been less than otherwise could be expected. In Europe, for example, trade is largely between the countries within the EU. Nevertheless, the impact of global development has forced all countries to consider the role and position of the other member states in the world economy, and also the impact of different sectors of the economy and different parts of the labour market

Introduction

3

that have varied considerably. Furthermore, it has been thrust on the agenda as a problem for the labour market on account of the shift in the division of labour between countries. Even if some relocation of production can be witnessed, the negative impact on the wealthy countries is still not evident. This is somewhat due to many western countries modifying their production structure, but also due to the fact that the rich countries companies own a high proportion of the production process in the poor countries. The dilemma and conflict between rich and poor countries might represent one of the challenges in the years to come. Economic inequality often gives rise to conflicts. Seen in this light, a more profound strategy for ensuring a decent guaranteed standard of living around the world is important. Reduced options and capacities for financing welfare states as they are known today could possibly motivate wealthy countries to reduce economic transfers to the third world, which could possibly lead to negative developments in many countries around the world. At the same time, there is continued pressure on the welfare states, and the relationships between generations within the individual nation states constitute a challenge due to demographic shifts.

The Ageing of Societies Many of the questions regarding the future are difficult to answer; however, the demographic development over the next 20-25 years can be relatively clearly outlined (the relative ageing of the population, fewer persons in the labour market etc.) on the background of historical demographical data. Naturally, developments in the average life-expectancy and migration might have a further impact, but unless genuinely dramatic changes occur, we have a rather clear picture of the developments that will unfold over the next 30-40 years. The number of elderly persons compared to those in the labour market will increase in most western countries. This has led to debates and questions about coping with these demographic shifts over the next 25-35 years. Will it become necessary to reform the pension system? How will we deal with the changes in the labour market and the increased need for labour in the care sector? How can a welfare state be financed with fewer persons in the labour market? This book contributes to this debate by focussing on questions as to how and whether these shifts are as problematic as often described by both national and international organisations. It also discusses how and to what extent changes in the pension system might impact the capacity to finance reforms and how different types of pension systems – e.g. mainly PAYG or fully funded pension systems – best can help bridge the balance between the different systems. This also includes the interaction between the structure of pension systems and schemes for disability pension and early retirement. These elements must be integrated in the same debate, as well as the capacity and willingness of the labour market to employ workers over 55 years of age.

4


By considering these challenges from a broader variety of perspectives, it should become clear that while there are changes underway in the various welfare states that must be dealt with, it appears as though such challenges are overexaggerated as a means by which to initiate debates on welfare state reform as regards the use of a higher degree of marketisation than has previously been the case in the history of the welfare state. The continuous need for balancing market failure with government intervention often appears to be overlooked. Nevertheless, the functioning of the labour market, including the lack of labour for certain service jobs, might present an issue requiring even greater discussion than it has received in this book. Even if we are familiar with the principal aspects of the demographic challenges in the coming years, we do not know how new technologies might be of assistance in solving the puzzle; consider the technological developments that have taken place over the last three or four decades. Demographic shifts and their impact on societies might present financial problems for the public sector, but many unresolved questions and several possible options seem available. Combining more open labour markets, flexible retirement opportunities and life-long learning are merely a few of the options available that will result in a less dramatic – if not outright positive – impact on public sector finances and the functioning of welfare states.

Distributional Issues Part of the historical ambition of the welfare state has been to guarantee people a decent living standard, help make societies more just, and alleviate poverty. Naturally, these questions therefore also play a central role here. Poverty, basic income and economic and ecological sustainability are all part of the same story. The historical capacity of the welfare state to ensure a more just society has been questioned over the last 10-15 years in several countries, where inequality has widened. At the same time, particularly those countries with more universalistic welfare states have been able to combine a high degree of equality with continuous development of the welfare state. This touches on a question in the welfare debate. How is it that in some countries it appears possible to strike a balance between equality and efficiency, whereas in others this is much more difficult? This book does not provide a final answer to this question, but the analysis indicates that a combination of a high standard of living, flexibility and security can in many ways indicate support for the welfare state, combined with people otherwise possibly having to take out private insurance, which are often expensive. Questions regarding poverty not only between individuals, but also between different regions and cities is also an important element in the understanding of ongoing societal development, as these differences possibly indicate that the earlier question between rich and poor is now much more a debate on the differences between town and country.

Introduction

5

Furthermore, the distributional issues might represent an element in the internal national debates on how to develop the welfare societies in the future, as this might have an impact on the acceptance and support offered to the welfare state.

Short Overview of the Chapters In his chapter, Musgrave points out that a market-imitating employment subsidy carried out in the correct manner might help those with insufficient skills to gain employment. In principle, this resembles a traditional subsidy for ensuring a better match between the going wage rate and qualification levels. Having employers bid at auctions for various persons represents part of the solution. Still, as also pointed out in the article, a main disadvantage is the cost this will have for taxpayers, as the difference between the wage level and the employer’s bid might come at a high cost to the state. In this manner, the system might not be expected to work smoothly, but at the same time it helps focus on a central element in many welfare states, including EU countries, on how to get people back into the labour market, even those with relatively limited or outdated qualifications. Poverty is at the heart of most welfare state policies. Furthermore, it has been a core issue in the European context on social policy, including the Open Method of Coordination and the whole issue of social inclusion policies. Indicators of social inclusion/exclusion were formulated in Laeken. This renders it even more important to ensure consistent indicators regarding the extent of poverty. As Till argues in his chapter, although many of the data and indicators reflect and describe the extent of poverty in and between countries, this is less so when moving towards sub-national or local levels. Drawing on the ECHP data, he describes poverty in two European cities (Dublin and Wienna) after first having used the traditional typology of welfare states to describe how poverty rates are in fact confirming a traditional welfare state clustering. As the degree of poverty between different areas in a country is different, Till argues that local indicators are an important element in ensuring and guaranteeing a clear picture of regional poverty; data is required. Moreover, this is an element that might help in integrating various actors in the development of local policies on social inclusion, thus fulfilling another element in the Open Method of Coordination in the field, i.e. involving all possible actors. Welfare reform, at least on the rhetorical level, has been on the agenda for many years. Recently, demographic shifts and the expected changes in particular have had an impact on the debate concerning changes in the demographic situation. Cesserato’s chapter critically analyses the movement in several welfare states towards fully funded pension systems. This especially questions the conventional wisdom that a fully funded system will be able to increase savings and the overall level of personal capital. This is done without rejecting that a suitable funded system might, under certain specific circumstances, help the individual to accumulate sufficient pension fund resources. At the same time, it is important to

6


find and ensure a decent pension system, and it is argued that a Pay As You Go system might well be suitable. This is also due to the fact that pensions that are paid out not only represent an economic expenditure, but also act as a means of maintaining a high level of demand. The demographic impact of the development of the welfare state has been questioned and posed as an argument that the welfare state must be recalibrated and restructured, but as Greve argues, the expected increase in wealth in the years to come and the development of combined pension systems mean that the future challenges will have more the character of distributional issues in the welfare state than an economic burden problem. Furthermore, the ability to make the labour market capacious and ensure high levels of employment and low levels of unemployment will also be important aspects of long-term sustainable economic development. The analysis in Jespersen’s chapter addresses questions about the sustainability of the development of the welfare state and in relation to how the long-term development will be from a methodological point of view is. By focussing on uncertainty, he questions the capacity of the traditional general equilibrium models to make reliable forecasts and that society by itself will be moving towards a high degree of equilibrium, and that society in itself without state intervention will be able to achieve a higher level of social welfare. This also indicates that society will also require automatic stabilisers in the future in order to cope with external developmental shocks, as well as a welfare state in relation to distributional issues as a bare minimum. Unemployment and causes of unemployment has been on both the theoretical and political agenda in many welfare states for many years. James Galbraith in his contribution debates the often misunderstood relation between youth unemployment and wage inequality. He argues that a reduced degree of wages inequality would make it possible to increase employment. Furthermore, he relates his analysis to the ongoing discussion on and in relation to the economic and monetary union in the EU. Zupis’ chapter focuses on distributional issues, though in relation to rich and poor countries. He focuses especially on foreign direct investment in developing countries and the impact of remittances from migrant workers in the developed world. The article reflects a need for continuous foreign investment, as well as the need for debt-relief for the poorest countries. It also indicates the existence of a conflict between remittances and the more traditional financial system. If migrants are mainly dependent on the informal market (and remittances), then this poses a high risk for their daily welfare. Again, one of the impacts of this situation is a need for a balance between state and market and that state intervention is necessary to redress some of the problems encountered by free-market mechanisms. Globalisation and the contrasting impact on rich and poor countries is also in focus in Gallinas’ chapter. He focuses especially on the impact of the neo-liberal approach, which he concludes has not been able to provide the social and economic protection necessary for the developing countries. He also finds that it has been

Introduction

7

unable to ensure poverty alleviation. In relation to future developments, he points to the impact of new actors (especially China and India) on the global scene. How this impact will develop has yet to be seen. At the same time, the impact of civil society on state and market development is referred to as an important aspect.

Conclusion Welfare states are here to stay, and it is expected that many more countries around the world will develop welfare states, including social security and the opportunity to live without poverty. Challenges are manifold around the globe, but as the contributions in this book have made clear, it ought to be possible to cope with both the increased impact of a gradually more global world and the impact this has on nation states as well as the demographic transitions over the coming 30–40 years if the countries are pursuing strategies capable of striking a balance between state and market, and including civil society in the solutions. Active labour market policies and interventions will presumably represent useful tools in future development. Jobs and welfare will thus be central for the future well-being of the welfare state. At the same time, the willingness and acceptance of redistribution policies around the world is necessary. Transfers between generations and between rich and poor individuals and countries are part of the strategy that might help ensure a better balance in world development. At the same time, this needs to be carried out via a strategy that also includes sustainability in order to ensure balance, also in relation to resources and uses hereof.


Part 1 European Welfare Perspective


Chapter 1

A Tale of Two Pensions Reforms: A Sraffian View 1

Sergio Cesaratto

Introduction In most countries Pay-as-you-go (PAYG) is the dominant pension scheme. The conventional view is that the secular demographic developments (lower fertility rates and increasing longevity) and, in the short period, the retirement of the babyboom generation, threaten the sustainability of PAYG since an increasing number of long-surviving elderly persons will weigh upon a falling number of young workers. The NDC Reforms2 The NDC reforms, tried out in the 1990s in Italy, Sweden and elsewhere, are said: 1. 2.

To assure the financial sustainability of PAYG in view of the ageing process. To introduce greater fairness in the calculation of pensions in favour of flat career workers. To avoid more radical reform aimed at creating FF schemes, reforms that meet formidable problems (see section below).

3.

Financial Stability We may single out three archetypal organising principles of PAYG (Musgrave 1981): (a) Defined Contribution Scheme (DC); (b) Defined Benefit Scheme (DB); and (c) Ad Hoc Provision.

1

2

This Chapter is heavily based on Chapter 9 of Cesaratto (forthcoming a). Cf. also Cesaratto 2002; forthcoming a, Chapter 2; and forthcoming c).

12


Let us take two generations of ‘young’ workers and ‘old’ retirees, N tw and N tr , w respectively; the subscript t indicating time. Let us call t the given wage rate (or,

α

more in general, the per-capita labour income) and t the contribution rate. At the end of a selected financial period PAYG is financially balanced if the individual b pension benefits t and/or the contribution rate have been such that:

bt N tr = α t wt N tw

(1)

If the wage bill ( wt N tw ) grows at a rate λt , we get the expression:

σt = (1 + λt ) αt where σ t =

(2)

bt is the ‘replacement rate’. This suggests that for a given λ , there wt −1

is a policy choice in combining σ and α while maintaining PAYG in financial equilibrium. If λ changes, either σ or α or both must also vary. Defined Contribution Scheme According to the DC criterion, contributions are fixed as a percentage of wages and, in each period, benefits are determined in order to guarantee the financial balance of the system. In this scheme the level of current benefits relative to wages (i.e. the replacement rate) is adjusted to take into account the rate of change of the wage bill so as automatically to assure the financial equilibrium of the scheme. As a result, premiums are certain but benefits uncertain.3 Referring to equation (2), any change in the rate of growth of the wage bill λ , given α , is reflected in a change in the replacement rate:

σt = (1 + λt ) . αt The DC scheme is the closest to the principles of private old-age insurance.

3

We note that Musgrave’s neoclassical background leads him – as most of the participants in the pension debate – to equate demographic and employment risks, a view that we have repeatedly rejected.

A Tale of Two Pensions Reforms

13

Defined Benefit Scheme With the DB criterion, the independent variable is the replacement rate. From equation (2) we get: α t =

σ

. (1 + λt ) The rationale of this principle can be found in the continuity of income between the pre-retirement years of activity and retirement. In this case the variable that is adjusted in order to assure the financial equilibrium, whenever the rate of growth of the contribution base changes, is the contribution rate. Musgrave’s criticism is that the adverse circumstances hit only contributors.

Ad Hoc Provision Finally, the ad hoc provision is defined by Musgrave (1981, p.99) as the ‘provision for the aged as a redistribution scheme between the working population and the aged, to be decided on a continuing and ad hoc basis’. The supporters of this view – among them great Keynesians like Abba Lerner (1959) and Robert Eisner (1998) – actually recognise the existence of social conventions, such as the ‘insurance fiction’, that give legitimacy to the quid pro quo pact around which the consensus for PAYG has more or less openly been built, but they are suspicious of actuarial solutions to the pension problem. The labour movement has in various countries often been ambivalent about the methods of financing PAYG: on the one hand it has seen (progressive) general taxation as the most socially equitable financial source (conversely, the DC schemes are often based on proportional wage-payroll taxes up to a cap, after which contributions become zero), but in periods of Welfare State retrenchment like the current one, labour has resorted to the contributory principle to defend pension rights. Also the ruling class often changed its mind. For instance, Bismarck rejected the contributory principle as he wanted workers to regard pensions as a gracious gift from the State, whereas the liberal bourgeoisie preferred the (subsequently adopted) contributory principle which it felt was closer to private insurance and related market moral principles (cf. Cesaratto, 2002 and forthcoming a, Chapter 1). Currently, progressive economists are still divided on this matter. The danger they feel is that pensions paid out of general taxation would tend to be basic ‘welfare’ pensions, whereas contribution pensions are expected to be higher since they are related to wages. But in practice this might be less true in the future with the NDC reforms (which apply the DC principles in a very strict way).

Fairness in NDC Schemes

As said, a DC scheme would bring about, in the long run, the financial stability of the system, although at a price that is entirely paid by the retirees. The NDC

14


reforms, however, are said to bring about greater fairness. It can indeed be recognised that pensions in the DB schemes exacerbate market income inequalities while the DC principle merely reflects them (the scheme is said to be actuarially neutral). Let assume that there are two kinds of workers, flats and steeps, that both work F for two periods, but the former for the same wage w (they have a flat career), while the latter receive a higher wage in the second period (they have a steep S1 S2 S1 career with wages w and w = hw , respectively, in the two periods, with h > 1 ). Both groups retire only for one period and the contribution rate is the same. Supporters of a DB scheme typically emphasise that it defends the principle of continuity of income from the activity period into retirement. Supporters of the DC system reply that the DB scheme conceals an inequity between the two social groups. This is usually seen as the flats having an implicit rate of return on contributions lower than the steeps (e.g. Gronchi and Nisticò, 2003, pp.11-12). I prefer to regard the question as the class of flats paying an amount of aggregate contributions that only partially goes to the retired members of the same group. To focus on the effect of the different wage careers only, let us assume without loss of generality that the economy is made up of just four workers (two from each class) and two retirees (one from each class), that wages are constant (in this stationary economy the time index t can then be omitted to save notation space), and that w F = w S1 . The financial equilibrium of PAYG in the period considered is given by: [αw F + αw F ] + [αw S1 + αw S 2 ] = σ F w F + σ S w S 2 . If, according to the DC principles, the benefits of each group’s benefit reflected the respective contributions, the two respective replacement rates (considering the F simplifications suggested above) should be, respectively: σ DC = 2α and α (1 + h) S F S = σ DC , with σ DC > σ DC . According to the DB principle the uniform h F S = σ DB = σ DB consistent with the financial equilibrium replacement rate σ DB would instead be:

σ DB =

α (3 + h ) (1 + h)

.

S F Since σ DC > σ DB > σ DC , it is clear that in a DB scheme the retired flats are receiving less of the contribution flow from the active flats than under a DC regime (and vice versa for the steeps). As said, the same concept can be expressed by saying that, given the equilibrium rate of return on contributions λ (which is zero in the example), in a DB scheme each individual in the flats group is receiving less than it, while each steep individual is receiving more than it. For instance, it is


15

easily verified that with λ = 0 (for simplicity), the rate of return for the flats, σ w F − 2αw F benefits − contributions , or DB , is negative, and that the calculated as contributions 2αw F analogous rate for the steeps is positive. Supporters of a DB scheme typically emphasise that it defends the principle of continuity of income from the activity period into retirement. Supporters of the DC system reply that the DB scheme conceals an inequity between the social groups. This is usually seen as workers with flat careers having an implicit rate of return on contributions lower than those with steep careers (e.g. Gronchi and Nisticò, 2003, pp.11-12). We regard the question as the class of flats paying an amount of aggregate contributions that only partially goes to the retired members of the same social group. Summing up, the advocates of the DC schemes see it as a system capable of maintaining PAYG in financial equilibrium, that is of avoiding changes in contribution rate or the recourse to general taxation in the case of a fall in the contribution base, with the fall in average replacement rate compensated by a greater social equity compared to the DB scheme, so that this fall would mainly hit the steeper careers. In Italy for instance, where this reform was adopted in 1995, it was said that the replacement rate for blue collars did not change (only that of white collars did). This is not certain in the future, especially if the parameters on which the calculation of pensions is based are revised to take into account the expected lengthening of life and if the careers become more discontinuous after the introduction of labour market flexibility policies.4 Another alleged advantage of an NDC scheme is indeed the automatic adjustment of benefits to increased longevity so as to assure the financial stability of PAYG. Workers are said to be able to compensate the lower benefits by working longer, a particularly beneficial response in times of expected labour shortages (later retirement also helps PAYG’s financial balance in the short period, although not in the long run). The neoclassical economists tend to regard later retirement as a rise in the labour supply and of employment, since in their view employment depends on the labour supply, given wage flexibility. In a Keynesian view, according to which employment is independent of labour supply, however, an increase in the age of retirement requirements may: 1.

if successful in delaying the average retirement age, displace the job opportunities for the younger; or

4 In Italy the effect of the NDC reform on the retirement decisions will not be felt before two decades or so, since most retirees in the near future will withdraw with the old system, or at least with a mixture of the two. In the meantime, however, various measures have been undertaken to encourage later retirement.

16


2.

increase the unemployment among the older workers if firms are successful in dismissing them before the statutory retirement age is reached in favour of more skilful, motivated and less costly young workers.

In the longer run the demographic developments (see section below) may render these negative results less likely insofar as the shrinking supply of younger workers will make mature workers more competitive. To conclude, NDC reforms in Italy, Sweden and other countries stemmed from concerns about a rise in the ratio between PAYG costs and GDP due, in the near future, to the retirement of the baby-boom generation and, in the long run, to the secular process of ageing. Making virtue out of necessity, the NDC scheme, by correcting the inequities of the preceding DB schemes favouring the pensions of the more professional workers with steep wage careers, obtains a substantial share of the desired cuts by hitting this last group, safeguarding the greater part of the replacement rate of the less professional workers characterised by flat wage careers. Moreover, both groups of workers are said to be able to preserve a decent replacement rate by retiring later. Again making virtue out of necessity, the forthcoming drop in the labour supply from the younger generations, on the one hand, will reduce the fear of a displacement effect of later retirement on the job opportunities for the young workers and, on the other hand, will render the labour supply from mature workers more precious than it is now. The Italian experience suggests that the NDC reform in the long run, when fully operational and once the retirees belonging to the baby-boom generations begin to fade away, will be able to restore PAYG costs on GDP to the present level. The open question is the increasing gap between the pension benefits and per-capita income, a gap that may be exacerbated by the more discontinuous ‘flexible’ careers and by an income distribution that is less favourable to wages. The reliance on a second FF pillar to compensate the lower retirement income is examined in the next section. Fully-Funded or Poorly Founded Reforms?5 Mainstream economists and institutions propose FF schemes as a radical alternative – partial or total – to PAYG. According to the conventional view, these schemes are the best equipped to cope with the pending demographic shock. Suppose a baby boom followed by once-for-all decline of the working population – which after the shock recovers its previous secular rate of growth. If the old have accumulated real reserves, ‘crystallised’ in the capital stock, these will be absorbed: (i) partially by an increasing capital-labour ratio that, according to the conventional theory, is induced by change in the relative scarcity of capital and labour supplies; and for the remaining part (ii) by the disinvestment of savings that, taking advantage of the amortisation funds, recover their original liquid form. In 5

Cf. also Cesaratto 2002; forthcoming a, Chapters 3 and 4; and forthcoming b.


17

this way the old realise their target consumption without bearing too heavily on the less numerous young, as would have happened with the unfunded PAYG system. It may be observed that the first part of the adjustment process is a natural victim of the capital theory critique (see below), while the practical possibility of the second is a source of preoccupation even among the FF reform sponsors. Enhanced life expectancy may be coped with by a reduction in the annuities that the old receive from the pension funds. This would follow a policy adopted by the funds of spreading the sale of the equities owned by the old over longer time spans so as to distribute the proceeds over the entire lifetime of the pensioners. This will diminish the per-capita pension level. However, it may be shown that the postponement of part of the old’ consumption leads to a higher per-capita capital intensity that partially offsets the fall in the annuity. For all these reasons, according to neoclassical economists, a pension reform that raises the marginal propensity to save for the ’foresight’ motive, by leading to more investment and, ceteris paribus, to a higher capital-labour coefficient, will better equip individuals to cope with the impending demographic shocks (while raising the current per capita and aggregate income). In addition, according to the prevailing view, FF schemes also show higher average return rates than other pension schemes. In this case, however, the argument has not been fully established either analytically or empirically.

Obstacles to an FF Reform The creation of an FF mandatory scheme encounters two obstacles: (i) the difficulties of inducing a rise in the marginal propensity to save; and, even if this succeeds, (ii) the saving paradox. It should be appreciated that the first obstacle is independent of the Classical-Keynesian criticism, while the second relies on it. Let us reconsider them in turn. It is generally recognised that if the State mandates workers to increase their old-age saving, the reaction might be a cut in voluntary foresight saving. If workers reduce their voluntary old-age savings by putting them in pension funds (PFs), although a system of PFs is created, in the first approximation the reform is only a façade, since the only real change that occurs is in the management of the same amount of ‘foresight’ saving. Even worse, by introducing a mandatory old-age risk sharing, the FF scheme may require a lower level of saving supply to provide the same amount of annuities. A positive impact is expected: (i) for those workers who did not save before that must, however, be wealthy enough to a mandatory saving scheme; and, perhaps, (ii) for those workers that saved for the purpose of making a bequest and not for their old age, and have enough income to contribute to mandatory savings without cutting their bequest-motivated saving. If they cut their bequest-saving, workers would just be diverting existing savings to the FF scheme, perhaps leaving the income received in old age out of these savings as a bequest in any case. Bequest-motivated saving may indeed have a hidden old-age risk motivation in exchange for the offspring’s support in old age.

18


Finally, workers may cut precautionary saving for other purposes and increase their foresight saving. However, while aggregate saving has not changed, it can hardly be said that the general safety of the population against future unforeseen events – of which old age is just one – has increased. The difficulties encountered in raising the marginal propensity to consume are of course greater if workers already contribute to a PAYG scheme. In this case it very likely that they will reduce their private ‘foresight’ saving if mandatory saving schemes are introduced. Moreover, in many countries PAYG contributions represent quite a large proportion of gross wages, so that it appears politically unfeasible even to ask workers to pay in more. In order to by-pass these difficulties, many pension reformers (in particular, the World Bank) has proposed diverting PAYG contributions to the PFs. The government, in the meantime, could issue new public debt to finance the current pension transfers. It is thus clear that, prima facie, the PFs will use their funds to buy the above-mentioned public debt. From the aggregate point of view, the higher workers’ mandatory saving supply is matched exactly by the lower government saving, so that old age saving has not increased. True, PFs have been created, but in the first approximation they only possess Treasury bonds issued ad hoc to finance the current pension transfers. Some economists have defined this scheme a ‘privatised PAYG’. It is clearly an unfunded scheme based on a notional fund. Nonetheless, this sort of reform has been defended on a number of grounds: let us briefly re-examine them: 1.

2.

3.

The scheme is said to be safer that the traditional PAYG since workers’ contributions to the PFs now enjoy the guarantee of the Treasury bonds bought by the funds. This argument is particularly weak since any government that finds itself in financial difficulties might default on its promises irrespective of whether they have a legislative dressing, as in the traditional PAYG, or consist of Treasury bonds held by the notional scheme. The recent example of Argentina is particularly appropriate in this case. Those schemes in which contributions are accumulated in individual financial accounts would have a positive effect on labour supply since workers will not see their taxes used for income redistribution to other individuals. However, it has been objected that the same result can be obtained by adopting NDC schemes within the traditional PAYG with the advantage of avoiding the huge management costs of PFs. It is said that Treasury bonds would have a higher rate of return on contributions than that obtained from PAYG. However, some authors have shown that the higher rate of return may imply higher taxation which, if it were levied on the same beneficiaries as those of the presumed advantage, would cancel it out exactly. In any case, the same higher return could be adopted in a traditional PAYG without incurring the high management costs of unfunded PFs.

A Tale of Two Pensions Reforms 4.

5.

19

A major argument to defend the privatisation of PAYG is implicit in the idea that PF schemes can diversify into private (and foreign) financial assets and be transformed into what we defined as diversified funds. The frequently heard thesis in this regard is that the diversification of the assets held by the notional scheme, in which Treasury bonds would be sold and private assets purchased, would make the financial market denser and, due to the larger scale of the operation, better organised. Diamond, Stiglitz and other American economists regard this kind of diversification as a device to paternalistically force riskadverse families to take a stake in the capital market. More efficient financial markets would in turn foster capital accumulation. This argument seems rather weak. Although efficient financial markets might be favourable to capital accumulation, they are not the main force, or even one of the main forces, behind it. In Italy, for instance, where this argument is often heard, the financial sector inefficiencies were no obstacle to capital accumulation when this was at its height. Finally, the privatisation of PAYG would reveal the true pension debt implicit in a PAYG scheme. This partially hidden motive behind privatising PAYG aims to increase the alarm of the public opinion concerning the costs of the public pension system and prepare it for more radical reforms. After Caffè (1972), we labeled this strategy as a ‘strategy of economic alarmism’.

The often cited Chilean case is not a good example of privatisation of PAYG, since in this instance, the existence of an ‘on-budget’ government surplus, obtained independently of the pension reform, masked the real cost of the transition. Chile is also cited as an example of a positive association between the creation of an FF plan and investment growth. This view may be challenged by referring to some authoritative studies that explain the relatively good performance of the Chilean economy over the final two decades of last century on the basis of a different set of circumstances regarding, for instance, the export performance and the control over de-stabilising financial capital inflows (e.g. Agosin, 2001). In those cases in which the pension reform does not just change the management of existing old-age saving, the dominant view is that the higher marginal propensity to save will lead to higher investment and, for a given labour supply, to a higher capital-labour ratio. This argument rests on the existence of a downward sloping demand schedule for capital (investment) that is negatively elastic to the rate of interest. In this case the additional saving supply, by determining a fall in financial market interest rates, will induce the entrepreneurs to adopt more capital-intensive production methods. This view was criticised from different angles by Keynes and later by Sraffa.

20


The Role of the Capital Critique Keynes based his criticism on the rigidity of the nominal rate of interest when a fall in the natural rate was necessary to adjust investment to an increased saving supply. Neoclassical economists, however, took advantage of the short-term nature of this rigidity to re-establish the validity of the traditional theory, at least in the long run. The results of the capital theory controversy, however, validate the Keynesian principle of the independence of investment from saving by showing that, generally speaking, there is no demand function for investment which is negatively elastic with respect to the rate of interest (Garegnani, 1983). The criticism of the neoclassical view of the saving-investment relation, that is valid both in closed and open economies, is the ultimate challenge to the conventional view of capitalisation reform. Not only is it difficult for policy makers to raise the propensity to save, as pointed out earlier, but even if successful, the effects on investment may be nil and the reform results abortive. True, in the new situation, a lower number of more thrifty savers is required to finance the initial level of investment, so that PFs may be created for those lucky enough to have maintained their jobs. But this is a poor result. If we also consider that the level of investment is likely also to be negatively affected by the fall of effective demand, even this meagre outcome is in doubt. Ironically, the only certain outcome would be a weakening of the wage (or tax) base of PAYG. If pension transfers are cut to balance PAYG, this might further negatively affect effective demand.6 The critique of neoclassical capital theory also disposes of the conventional view that a higher saving supply from the northern countries will find a natural débouche in the capital-poor southern countries. Keynes’ saving paradox can indeed be extended to an open economy: an increased amount of foreign saving is obtained at the cost of a lower national output (cf. Dalziel and Harcourt, 1997). Finally, the Keynesian and capital critique led us also to reject the utility of a social security ‘Trust Fund’. In this case the surplus from current workers’ contributions – which is a regressive tax – are not used to finance current pensions, but either to finance additional on-budget spending or tax cuts for the upper classes or, if they are not used in this way, they have a deflationary effect. In all cases, no real accumulation of assets is taking place. In the case of future financial disequilibria of PAYG the Trust Fund is useless, and they will have to be solved by increasing taxes, cutting other expenses, or by issuing public debt. So the only result of an SS surplus now is a cut in real wages (and possibly of national income) without protecting future pensions.7

6

Adding irony to paradox, after a suggestion by Steindl (1990), Cesaratto (forthcoming a, Chapter 4 and forthcoming b) shows that the PAYG deficit that results from the fall of national income will be, prima facie, financed by the newly created PFs that, however, are in this respect unfunded 7 Cf. Cesaratto 2002 and forthcoming a, Chapter 5.


21

To sum up, by firmly rejecting the marginal theory, both on an analytical and on an empirical basis, can we avoid the neoclassical trap in which some wet defenders of PAYG, such as Aaron, fall when they argue that: ‘when the government high-employment deficit falls – from additions to Social Security reserves or from any other change of policy’ and the monetary authorities reduce interest rates, ‘investment tends to rise … the capital stock grows’ … so that ‘additions to Social Security reserves or in any other way, can help the nation prepare for the costs of increased transfers to retirees’ (Aaron, 1990–1991, p.171. This position – which Aaron expressed against the more Keynesian-oriented opinions of Wray (1990–1991) – would be fully endorsed by Martin Feldstein. To conclude, the conventional argument that a FF reform as such is able both to rise the saving supply and the per-capita capital endowment must be rejected. This is not to deny that a well-regulated and supervised ‘second pillar’ consisting of PFs could be helpful to protect workers’ savings from the vagaries of the global financial jungle. What must be forcibly kept in mind is that, given workers’ marginal propensity to save, workers’ savings are the result of capital accumulation, which is determined by effective demand. Prima facie, therefore, their amount does not depend on the existence of a ‘second pillar’, which only concern, so to speak, their management. Ageing, Labour Market and the Sustainability of PAYG8 Let us finally dwell on the potential impacts of the ageing process on the economies of the developed countries, focusing upon two effects: on the labour market, employment and output, on the one hand, and on the trends of PAYG Pensions , in one sense the former spending, on the other. Considering the ratio GDP aspect has to do with the denominator, while the second with the numerator.

The Secular Demographic Developments Ageing is the result of a process of so-called ‘demographic transition’ from highfertility growing populations towards low-fertility and high-longevity non-growing populations. Historically this is the result first of a fall in child mortality, which in the developed countries has taken place since the nineteenth century or so, which later caused a fall of fertility when it was realised that a target number of surviving progeny could be obtained with fewer births. The fall was affected by better female education and labour market opportunities. As aptly summarised by Bloom and Canning (2004, p.6): ‘The historical patterns of the fertility transition … has been repeated in many countries, with the declines in death occurring first, followed at a 8

Cf. Cesaratto, forthcoming a, Chapter 8; Cesaratto, forthcoming d).


22

later stage by declines in the birth rate’. In the long run, the main cause of ageing is the long trend decline in fertility. Increases in longevity (due to the progress in medicine, nutrition etc.) are an additional factor (supposing a fertility rate at the replacement level, longevity would become the only long-term cause of ageing). A first result that must be stressed is that ageing is the outcome of a process of stabilisation of the world population. Its main cause, the fall in fertility, might have gone too far in some developed regions, and it is still too slow in other poor regions, but a more stable world population is necessarily associated with a relatively older population. A second result is that the demographic developments are associated with a variety of local situations. With regard to the developed countries, a broad subdivision is between settlements and non-settlement countries and, among the latter, between North and South Europe plus Japan. Settlement countries tend more to welcome future migrants and to have fertility rates close to the replacement rate. Northern non-settlement countries tend to be below the replacement rate, but closer to it than South Europe and Japan. A mere consideration of demographic trends, however, says little about the economic sustainability of public pension systems.

The Economic Impact of the Demographic Developments: Labour Market, Employment and Output Focusing upon the relation between ageing, labour supply, labour demand and output we may envisage two approaches. According to the Neoclassical approach, the demographic-economic alarm regards the possible negative consequences on employment and output of a shrinking supply of population in working age. According to the Classical approach the evolution of the labour-age population is relevant insofar as it affects the industrial reserve army. Potential labour supply has three main dimensions: 1. 2. 3.

Migration. Participation rates. Productivity growth, which includes the number of hours worked and laboursaving technical progress.

Let us review them in turn. Migration The role of immigration in preserving potential labour supply is controversial. In general it is considered as part of the solution, but not as the solution. The point is that on the one hand the endogenous demographic trends are so momentous that the number of migrants needed to moderate them is very high. In addition migrants come with dependants (who increase population but not the labour supply) and


23

rapidly acquire the fertility habits of the local population. The role played by current population density in host countries in the determination of potential immigration must be explored by future research. In the first approximation traditional settlement countries may welcome more immigrants, although they need fewer of them because of the higher fertility rates. The controversy regards also the social acceptance of immigration. It is not only the populist right wing that protests against immigration. Also some liberal pundits point to the possible role of immigration in reducing social cohesion and the consensus around the welfare state. Participation Rates A higher female participation rate is a first potential source of additional labour supply for the next two decades or so, at least for those countries where female activity rates are still particularly low, as in South Europe. They have been low for cultural reasons, but more importantly, also for the lack of job opportunities. An increasing participation of non-prime age workers is a second source. What are considered as the ‘normal life course’ and working age (say ‘15–64’, ‘over 15’ and so on) are cultural expressions that emerge from history as a second nature (a Classical economists’ expression), and that may change according to the circumstances. The average effective retirement age and the activity rates among mature and older workers have dramatically fallen in capitalist countries in the last century. The slower economic growth and structural change of the last two decades of the century have accentuated this trend, particularly in Europe. Recent pension reforms attempted in various countries have begun to reverse this phenomenon. It must be stressed, however, that the low activity rate among mature workers is not only the result of the opportunity offered by public pensions, but also an outcome of their labour market difficulties – as witnessed by the difficulties experienced by older workers in re-entering the labour market once they have been expelled. Private firms generally resist policies aimed at holding or hiring older workers or at affording them smooth exits from activity, for instance through part-time contracts, etc. In the short-medium run, on the one hand, labour market flexibility measures, in particular those concerning young workers, disadvantage older workers to the point of having being indicated as a form of age-discrimination. On the other hand, a successful policy to increase effective retirement age may have the effect of displacing the turnover of generations and create youth unemployment. In the medium-long term, it is possible that any labour scarcity will make firms less reluctant to retain or hire older workers (Hamermesh, 2001). An increased retirement age also encounters stubborn opposition by public opinion. Assuming the continuation of and, in settlement countries, even an increase in, the present levels of employment, with productivity growth sustaining output growth, the question seems therefore not to be whether there will be enough future labour supply or not, but whether a thin industrial reserve army is consistent with capitalism (Kalecki, 1943). High participation rates have so far characterised North

24


European countries endowed with strong social pacts, as well as the US, in which the threat of immigration and a low level of labour rights have functioned as a deterrent to labour behaviour. To live with high participation rates, the rest of Europe will have to choose between the consensus model and that based on an intimidated labour force. The impression is that, unfortunately, the European Union is pursuing the second route. This started with the aim of weakening the traditional strong European Trade Unions. In the near future this policy may reveal itself to be increasingly useful in managing a tighter labour market. Productivity Growth In the past the reduction of working hours has contributed to absorbing productivity growth and to avoiding technological unemployment. This process might be brought to a stop and even reversed in future. Increased working hours should not, however, be envisaged as a measure to reduce labour costs in order to compete with low-wage countries, as is currently being proposed, but encouraged on a voluntary basis by increasing pay. The future pace of labour-saving technical change is difficult to predict. The labour market developments described above might encourage it, especially if the dominant classes, in order to moderate labour demand and wages, do not opt for low levels of growth.

Ageing and Old-Age Spending

Av.Benefit Av. Pr oductivity The second aspect we touch upon is the evolution of the pension burden over gross PENS . Let us consider the equation output, GDP PENS POP +55 POP 20−64 Av.Benefit Re cipients = , 20 − 64 GDP Employment Av. Pr oductivity POP +55 POP

POP +55

in

which

POP 20−64 is the inverse of the Employment POP 20−64 employment rate. This ratio measures the aforementioned expected rise in the share of working-age population in employment given, on the one side, the fall in the potential labour-supply and, on the other, the increasing female labour market participation and the measures to reduce early retirement. Observe that a fall of this ratio, say due to a fall of POP 20−64 for a given employment level, indicates that a decreasing number of inactive adults is dependent on the active adults, and this Av.Benefit is the ratio of the may compensate the ageing burden. The term Av. Pr oductivity is the old-age dependency ratio.


25

average pension benefit on per capita productivity, measuring the effects of pension reforms – such as the abolition of the real indexation of pensions to wages or, in Italy and Sweden, the effects of the NDC reforms. Finally, the terms Re cipients is the eligibility rate, which also reflects the introduction of more POP +55 restrictive rules of access to retirement and pensions. According to most scenarios PENS ratio will increase in most of the countries. The (e.g. Dang et al. 2001), the GDP old-age dependency ratio, however, is likely to rise even more. The divergence between the two ratios is mainly due to: (i) cuts in pension benefits, e.g. through the abolition of real indexation of pensions to real wages, the NDC reforms and stricter eligibility rules; and (ii) to the fall in the ratio of labour age population over employment that partially compensate for the rising ratio of older population over employment. Both factors will lead to greater homogeneity among countries with regard to PAYG’s burden over GDP. The role of productivity growth in alleviating the rise of the ratio of pension spending to output needs also to be carefully examined. Productivity growth is not a panacea, as is often envisaged. In a nutshell, if productivity growth is used to offset ageing (the rise in the number of retirees over employment), than it cannot be used to increase pensions in line with increased productivity. It might therefore be necessary to redistribute income from wages and profits towards the retirees if we want to keep pensions in line with the growth of incomes in the active population. Nonetheless, productivity gains, which have been spectacular over the last two centuries, will lead to a substantial increase in the level of net real income of active workers in spite of a possible higher contribution rate (Palley, 2002). The burden of PAYG can also be transferred to non-wage earners either by increasing real wages in proportion with contributions, or by using general taxation.9 As Wray (1999, p.1 et passim) has pointed out, most economists fail to distinguish between the financial imbalances of PAYG, that may well increase into the future, given the current parameters that govern the schemes, and the ‘real problems involved in producing a sufficient quantity of resources to care for future retirees’, that cannot realistically be considered as an insurmountable burden. The viability of PAYG is, to a large extent, a question of distribution of the social product between generations and social classes, and this has no mechanical negative impact on economic growth and welfare. One big question, which we shall defer to future research, concerns the difficulty of raising taxes, especially over financial capital, in this era of financial liberalisation and tax competition. In this regard, at least one point must be noted here, namely that financial liberalisation has been a deliberate political choice pursued, inter alia, in order to create problems for the financing of the welfare state. 9 General taxation might be mainly directed to financing a basic component of pensions, which derives its rationale from social solidarity, while pay-roll taxes will finance the additional ‘contributory’ part, thus leaving the principle of pensions as ‘acquired rights’ unaffected.

26


Considering the impact of the demographic developments on transfers from the employed population to the dependent population, our attention should be focused on two other elements, one that aggravates the picture, and one that improves it: (i) the increase in health spending related, in particular, to extreme old age; (ii) the consideration of the so-called total dependency ratio, that is the ratio between the total dependent population (which includes youth, inactive adults and retirees) over the employed population (Concialdi, 1999). One consequence of the demographic developments is not so much an increase in this ratio, but rather a different composition of the dependent population, with a fall in the first two components and a rise in the latter. Clearly, the change in the composition involves a change in the channels through which support is given to the dependants: the old must be supported through public channels, whereas children and dependent spouses are mostly supported through the family. Moreover, as we know, the old tend to be more costly than the young because of health spending. To sum up, although the demographic developments do not pose any real threat to the reproduction and growth of our economies, the possibility of a draining of the industrial reserve army accompanied by the necessity to finance increasing public transfers to the old may encounter fierce opposition from the dominant classes. The preoccupation, already expressed, is that, especially in the European countries, the apprehension of a possible increasing bargaining power of labour and of an increasing tax burden of the elderly, aggravated by the threat of increasing competition from the low labour-cost economy, might enhance the choice of diminishing workers’ rights in the labour market – which is known as labour market flexibility. This ‘neo-Malthusian option’ of keeping the economy on a non-growth path in order to unnerve labour demand, so as to keep the direct and indirect labour costs under control, may prove a counterproductive route for European capitalism itself. An impoverished and stationary European economy is in fact likely to lose the competitive challenge from the US and Asia. Conversely, changing income distribution in order to maintain the relative standard of living of the elderly will sustain effective demand and growth and maintain social cohesion. At the moment, Europe seems to be pursuing the first (declining) path. Pension rights are currently still embedded in the socially dominant expectations about the life course. True, the media have instilled into the young generations that their future will be different from that of their parents. Whether in the long run the European population will accept this gloomy prospect is an open question.

Chapter 2

Is there a Demographic Time-bomb? Bent Greve

Introduction Recent discussions in most European countries and in international organisations such as EU and OECD in relation to the future developments in the welfare state have to a very high degree focussed on whether or not the changes in demography in the next 30–50 years will mean that reductions in, the dismantling or retrenchment of the welfare states are necessary. A core argument has been that the demographic changes will result in a very high old-age dependency ratio, and, that this increase in dependency implies a need for changes especially in areas such as pensions and services for the elderly in order to maintain stable economic growth, the ability to finance the welfare state and avoid a public sector deficit which is too high. After a short presentation of the main demographic changes expected in a selected number of European welfare states, this article questions this pessimistic view of the European welfare states’ development by focussing, on three aspects: 1. 2. 3.

The expected growth in real-income per capita in Europe. The expectation of a higher level of educational attainment in Europe. Labour market integration.

It will be argued, mainly based on an empirical approach, that it will be possible to cope with the expected demographic changes through, in particular, an active and dynamic labour market policy combined with the use of the economic resources resulting from the continued growth in real income. Furthermore, it is argued that the increased level of education attainment will mean that the populations of the various welfare states will both pay more in taxes, and require less support from the welfare states. The problem is thus not the demographic transition, but has much more to do with the distribution of the societies’ resources among different groups in the different countries. A change in the distribution of resources will thus make it possible both to have even larger welfare states (or at least maintain the present level), and also a higher level of private consumption despite the changes in society. At the same time, the goals for an integrative labour market policy are important if the challenges are to be met.

28


Demographic Changes In table 2.1, the projected changes in the number of elderly people relative to those of working age is shown for the years 2000, 2010 and 2050. The definition of the old age dependency ratio can be discussed; especially the inclusion in the working age group of all those between 15 to 19, this is problematic as in many countries a large number within this age group are still undergoing education. But as the definition is the same for all years, this is not a central issue. Table 2.1 Old Age Dependency Ratio 2000–2050 for Selected EU-Countries

2000

2010

2050

Belgium

25.5

26.7

45.0

Denmark

22.2

24.6

38.0

Germany

23.9

30.3

49.0

Spain

25.6

29.2

60.0

France

16.8

17.3

46.0

Italy

26.6

31.3

61.0

Netherlands

20.0

22.3

40.5

Finland

22.2

24.9

44.5

Sweden

26.9

28.1

42.5

United Kingdom

23.9

24.2

42.0

EU 15

24.3

27.3

49.0

Note: The Old Age Dependency Ratio is defined as those above 65 as percentage of those between 15 and 64. Sources: Eurostat (2003b). The projections for the old-age dependency ratio until 2010 are relatively precise. Although those who will be above 65 in 2050 have already been born, changes in fertility and migration might be more difficult to predict over such a long time span making predictions less reliable. The table clearly indicates a very

Is there a Demographic Time-bomb?

29

diverse pattern and, therefore, also the difference in the expected challenges resulting from the demographic transition. In particular, Spain and Italy seem to be facing dramatic changes, whereas those in Denmark and Netherlands seem to be comparatively less so. On average, there will be a doubling of the old age dependency ratio over the next 50 years in the EU-member states. It is these data, which have spurred a debate about the possibility of having adequate and sustainable pensions both on supranational and national levels, and have even been used as an argument for including pensions under the Open Method of Coordination in 2001 (Porte and Nanz, 2004). Adequate and sustainable pensions refer both to a decent living standard and the ability to finance the pension system in the future. But the question is: will the changes in demography have a huge impact on public pension expenditures? This due to that public pension is a substantial part of the costs of welfare states, which will have to be borne by the nation states. Table 2.2 Public Pension Expenditures Before Taxes as a Percentage of GDP 2000

2010

2050

Peak change

Belgium

10.0

9.9

13.3

3.7

Denmark

10.5

12.5

13.3

4.1

Germany

11.8

11.2

16.9

5.0

Spain

9.4

8.9

17.3

7.9

France

12.1

13.1

14.1

4.0

Italy

13.8

13.9

14.1

2.1

Netherlands

7.9

9.1

13.6

6.2

Finland

11.3

11.6

15.9

4.7

Sweden

9.0

9.6

10.7

2.6

UK

5.5

5.1

4.4

-1.1

EU -15

10.4

10.4

13.3

3.2

Source: EU-commission, 2003. As table 2.2 indicates, the pressure on the overall level of spending in relation to pensions is, given the long time span, modest in most European countries. The highest level and expected change is in Spain with an average degree spending of less than 0.2 percent of GDP per annum. Taking into consideration that pensions

30


are taxable and that developments in private savings in private pension funds, the above figures do not, in general, seem to be alarming. Naturally pensions are not the only area for concern, spending on health care and services for the elderly could also be a problem given that many areas of public sector spending depend on the age of the citizens, i.e. the elderly need more care and hospital treatment than younger persons. In 2001, the EU predicted that the demographic changes would require an increase in spending on pensions of 3.2 percent of GDP for the 15 EU-member states. The comparative predictions were for health care 1.3–1.7 percent and longterm care 0.9–1.0 percent. Also in 2001 OECD’s prediction was that old-age pension would rise 3-4 percent points of GDP in the period until 2050 (Dang, Antolin and Oxley, 2001). They argued that four effects were driving the expansion. The population ageing, an employment effect (including a positive effect in many countries from an expected increase in female participation rate), a benefit effect (i.e. the average benefit relative to GDP per worker) and eligibility effect. Still, they argue that it is the demographic impact which are the most important. It is shown that if an increase in the average retirement rate of about one year takes place early this would imply that the debt-to-GDP ratio remains constant. This is an indication of that the impact of the demographic changes are less than often described. There are huge variations between the member states, but the overall level indicates that the expected overall impact on public sector spending is not dramatic. Furthermore, we have been witnessing a growing privatisation of pension systems throughout Europe (Hyde, 2003, Ginn, 2004) which generally speaking reduces the pressure on the public pension system. This might at the same time create new kinds of inequalities, but this issue is outside the scope of this article. Still, it remains the case that ‘the number of elderly people that will be in need of assistance and care will not necessarily increase as a consequence of population ageing’ (The Social Situation in Europe, EU-Commission, 2003). It seems thus less likely that there will be a huge pressure on public spending in the coming years, and further, as the other sections will discuss, possibilities to reduce the pressure might be available. Furthermore, it is also argued that solidarity between generations is an important aspect of adequate and sustainable pensions (EUCommission, 2003).

Options? Given the changes in demography what options are thus available to cope with the changes? A broad variety of choices is seemingly at hand. This can be change in output, reduction in average pension, increase in the age of retirement; reduce other spending than in the area of pension or putting money aside (i.e. increase public sector wealth) (Barr, 2001). To these could be added change in demand for welfare


31

over time, but also better integration at the labour markets and lower level of unemployment as part of the remedies that might reduce the impact of demographic changes. This list of possible policy solutions to the given change in demography indicates which will be further explored below, that it is not in anyway given that only one type of solution to the changes exists. A broad variety is possible, and, even combinations of these will exist. Looking at it in this way change in demography is opening for a debate on a choice among various instruments than a need for specific changes in the welfare states. The following sections will mainly look at three aspects – increase in wealth, higher level of education and labour market integration. This is chosen as it indicates another pathway than those most often advocated by the international and national organisations discussing demographic transitions.

Increase in Wealth? Over the last 100 years, Europe’s history has been one of growing wealth, higher GDP per capita and greater ability to spend on both public and private goods. Welfare state spending has increased as has spending on social security (Greve, 2003a). Convergence among the EU-151 member states has taken place. This convergence of income levels has taken place on a gradual higher level (Park, 2002). From 1984 to 2001, the GDP per capita of the EU-15 grew by nearly 50 percent at fixed prices. This was a time which included both economic growth and recession, and, thus was not a typical period. There is no reason to believe, even given the global changes, that this will not also be the case in the future. If this is the case, then the EU-15 countries will have more money available which can also be used to finance increased costs which result from changes in the demographic composition. This is illustrated in table 2.3, which, based on different assumptions concerning yearly growth, shows the increased wealth, which can be used for either public or private spending.

1

This excludes the 10 new member states, which entered the 1st May 2004. Many of those have been through turbulent changes in the 1990s, which also makes comparisons more difficult.

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Table 2.3 Percentage Increase in Wealth Under Various Expectations for the Economic Growth-Rate After 45 Years 1.5% pr. year

2.0% pr. Year

2.5% pr. year

95.4%

143.8%

203.8%

This indicates that more resources will be available and even with the most negative expectation about future growth rates will see nearly a doubling of the present level of funds that will be available over the next 45 years. This seems to be a clear indicator that the economic resources will be available. This naturally implies a conflict over the distribution of resources between those inside the labour market and those outside. But this is a distributional problem, not a specific problem related to the demographic transition. In this way the still more rich European countries seems able to solve the demographic changes, which also, it must be borne in mind presumably will, unless growth in life-expectancy takes on a dramatic up-turn, also be of a relatively short time-span indicating that in the even longer run than the middle of this century the balance will be changed in the opposite direction again.

Will Future Generations Need the Same Public Welfare? Economic theory predicts that as individuals become richer they demand more luxury goods (Barr, 2002). In a sense, at least outside the areas of public goods, luxury goods are to a high degree what one can label the supply of social security and social services. It is, therefore, also not surprising that one can find a connection between spending on welfare and the different welfare states’ affluence – with in Europe especially Ireland being the exception. This indicates that the demand for public sector services will also grow in years to come, which could imply more difficulties in relation to financing the welfare state, and fulfil the expectations of the populations in various welfare states. On the other hand, it is also well known that use of many of welfare services and income transfers to a high degree follow existing divisions in societies. That means that low income, unskilled families tend to use more services than those with high income or a high level of education. This implies that if the European societies follow the European Employment Strategy about reducing the number of young people without further education and training after primary level combined with the in general increased level of knowledge in the move towards a knowledge based society this will reduce the


33

pressure on the public sector spending in the European countries in the years to come.2 In this way, the combined elements of the employment strategy including the targets set in Lisbon and Stockholm3 (cf. next section), and the ability to avoid a high pressure on the welfare states’ spending will be connected. A higher and more well educated labour force will at the same time presumably also in the future have a better chance of being fully employed, and, will at the same time therefore also due the higher income be less inclined to need economic transfers from the public sector. At the same time, the need for health care and other types of care will be less among persons with higher incomes than those with lower incomes. Persons with a higher educational attainment level furthermore often retire later from the labour market thus both increase labour supply and reduce pressure on public sector spending and increase taxes. All in all this indicates that changing of educational attainment level will be an investment which can reduce the pressure on welfare state economy.

Labour Market Integration As argued in the section above, a clear strategy for ensuring labour market integration fulfilling the Lisbon and Stockholm goals (cf. footnote 3), of both higher participation rates for women, and for elderly workers tends also to be a strategy which can reduce both the pressure on the welfare states’ spending in the coming years, and fulfil the need for more labour. The reason for this is obvious: more people on the labour market means that fewer income transfers will be needed. Growth in the Nordic welfare states has been influenced by higher female participation rates in the labour market (Greve, 1992), because when women entered the labour market, the need for day-care facilities increased. This need for day care as an element in the welfare state’s ability to help the labour market development has also been recognised in the European employment strategy, cf. also several of the yearly Employment reports from the European commission. The increase in participation rates for women will thus on the one hand increase the need for welfare services, but will at the same time increase welfare states’

2 Data in the Social Situation in Europe 2003 indicates that such a movement is under way, even if there are still many young persons who do not get any further training after primary education. 3 The targets set were: 70 percent employment rate, more than 60 percent female employment rate and more than 50 percent of older workers (above 50) employment rate in 2010. In 2004 there was still a long way to go to meet these targets, cf. Employment in Europe, 2004 and also Report from the High Level Group chaired by Wim Kok from November 2004. Facing the Challenges.

34


income and reduce spending in other areas. Spending on day-care for children can thus be looked upon an investment in the welfare state future not only as a cost. Early retirement for elderly workers seems to have several causes, one being that leisure is a luxury good and more time is wanted when societies becomes richer. Personal autonomy might also have a higher value than material living standards (Philipson, 2004). Another reason being that in many EU-member states, cf. employment statistics from EU, there is a higher level of unemployment among the over 50s. This higher level of unemployment implies that for many, it is not possible to re-enter the labour market if they become unemployed and, thus permanent withdrawal seems to be the only option available. Training and participation in training seems to be one of those elements helping people to stay on the labour market also for elderly workers (European Commission, 2003a). A labour market with more jobs for the elderly will thus at the same time reduce spending for unemployment benefit and other transfers and services for the unemployed, and, at the same imply that what could be a risk of the demographic changing - the lack of manpower can be avoided. A change in the age of retirement of one year will thus alone ‘neutralise between 1/5 and 1/3 of the expected growth in pensions expenditure’ (Nordheim, 2004). The OECD-figures quoted earlier points in the same direction. Fulfilling the goals as set out the European Employment strategy, although it in relation to older workers first was in 1999 that this came on the agenda, seems thus to a high degree to be an important element in coping not only with the existent level of unemployment in Europe, but also a core element in the ability to cope with the demographic changes in the years to come. There is at the same time in most European welfare states a pressing need for integration of migrant workers into the labour market. Integration of these often more marginalised groups on the labour market can also be part of the strategy to cope with the changing in the demographic composition and ensure the necessary labour force is available.

Conclusion The European Welfare states have said to be under pressure for many years. Reasons for this have been attributed to globalisation (and especially financing), changes in the context of policy marking and changes in the bases of the demand (Taylor-Gooby, 2001). The various conflicting perspectives on globalisation (Greve, 2003b) can combined with the demographic changes be used as an argument for changes in the welfare states. It is as already Yeates pointed to in 1999 so that ‘The “constraints” that are placed on social policy development are primarily ideological and thus susceptible to political manipulation’ (Yeates, 1999).


35

Recently the expected crisis for the coming 30–40 years has been mainly connected to the demographic transition and the risk that the old-age dependency ratio will grow to such a large extent that the welfare state will not be sustainable. This article has tried mainly from an empirical point of view to indicate that these pressures are of an only more limited size than often postulated, but furthermore that other elements in the welfare states’ development will have and can have an even more important impact. This relates to growing educational attainment levels, the integration of women and elderly workers into the labour market, and also integration of immigrants as well. This combined with that the European welfare states all other things being equal are expected to become richer will change the problem from being a negative problem of reducing public sector spending to a problem of and trying to find the right intergenerational balance and right distributional and just balance between those inside and those outside the labour market.


Chapter 3

A Market Imitating Employment Subsidy Ralph S. Musgrave

Introduction Temporary subsidised employment1 (like the New Deal in the UK) is normally aimed at problem groups, like the long term unemployed. However, there are arguments for also subsidising the relatively skilled and short term unemployed (as is done in Switzerland). The combined effect of temporary subsidised employment, in work benefits, graduated tax and the minimum wage can result in various categories of workforce have very little incentive to seek better work. The market forces which allocate people to the most productive work possible are thwarted. There is thus a case for a system under which parts of the labour market return to a nineteenth century ‘cattle market’, with the difference that employers bargain with the state as to the worth of individual employees, with the highest bidders actually getting the relevant employees. As to the take home pay employees get, this of course remains at a socially acceptable level. This amounts to a ‘market imitating’ system. One argument for having employment subsidies target problem groups like the long term unemployed or youths is that there is little relationship between unemployment amongst these groups and inflation, hence unemployment amongst these groups can be reduced without significantly raising inflation (e.g. Layard, 1986, Chs 4 and 8). Another argument is that employment subsidies, TSE in particular, raise the employability of problem labour and there is a wealth of micro-economic evidence that this is the case. (e.g. see Calmfors et al., 2002, Gerfin et al., 2002a and 2002b, Hammer et al., 2000, or Bolvig et al., 2003). Though this does not necessarily follow through to the macro-economic level, as pointed out by Blien et al. (2002). In short, raising employability does not necessarily raise employment!

1

In this chapter two central Abbreviations are: TSE = Temporary Subsidised Employment (for example the New Deal in the UK). NAIRU: Non Accelerating Inflation Rate of Unemployment. For those who prefer English to jargon, NAIRU can normally to translated below as the ‘inflation-unemployment relationship’.

38


In contrast to the above arguments for concentrating on problem labour, it is possible that relatively skilled or short term unemployed labour in insufficiently ‘flexible downwards’. In Switzerland, one of the accepted arguments for TSE seems to be along these lines, that is, one of the objectives of TSE is to get people to take lower paid jobs than they might otherwise consider. But there is a further argument for subsidising ‘non-problem’ labour into temporary jobs which is the following argument. Employers are not keen on problem labour; and what induces employers to bid up wages and hence inflation is failure to find suitably qualified labour to fill skilled vacancies. From this it can be argued that NAIRU can be improved by subsidising ‘not quite suitably qualified’ labour into the above vacancies, which in some cases would dissuade employers from bidding up the price of the relevant types of labour. Thus NAIRU should improve. It might seem that there should not be a problem getting people into better paid or more skilled jobs than they are used to. Assuming they have adequate qualifications, there is normally no problem. But the point is that given falling unemployment, employers face a deterioration in the quality of labour available, as NAIRU is approached. Inadequately qualified applicants are not offered generous pay, which tends to induce them to turn down the offers. This leaves employers with little alternative but to raise wages with a view to attracting decently qualified labour away from other employers: a self defeating exercise that leads to inflation. Some readers may be under the impression that employers scarcely ever employ inadequately qualified staff, thus there is little to be gained from trying to encourage them to do this. The answer to this is that obviously there are jobs where very specific qualifications are a legal requirement. But apart from that, employers in practice are very flexible: they have to be. A quarter of maths teachers in the UK are for example not properly qualified. To summarise so far, unemployment benefit reduces people’s willingness to take temporary low paid work, till better paid work appears. The most obvious form this low paid work takes is unskilled work. But there is a second form such work takes: work that is more skilled than normal for those concerned. In other words unemployment benefit reduces flexibility both downwards and upwards. This raises the question as to what would be the best system for encouraging this flexibility. That is, what is the best system for organising temporary subsidised work for the unemployed, tell better work appears.

Market Imitating The one thing TSE should never do is to lock employees into their subsidised jobs, or reduce their availability for more productive jobs when the latter appear. If this ‘availability reduction’ occurs, aggregate labour supply is reduced, which is inflationary, which defeats the object of the exercise. Unfortunately in some Swedish TSEs it seems that the ‘object of the exercise has been defeated’

A Market Imitating Employment Subsidy

39

(Calmfors and Forslund, 1991; Calmfors and Lang, 1995). Also the UK’s New Deal more or less locks people into their jobs for six months: certainly there is no attempt to move them on to more productive work, if the latter appears. Thus the basic object of the exercise should be to make particular types of labour available on a subsidised basis to employers wanting this labour, at the same time as ensuring such labour is moved on to other employers who want the labour more urgently, and who are prepared to bid a higher price for the labour. The rules of the game which make this possible are not too difficult and are approximately as follows. The word approximately is used because there are numerous possible variations on the theme below, and doubtless readers will think of some. 1.

2. 3.

4.

5.

Any employer can make a bid for any type of labour to the local state employment agency. Obviously the price the employer pays for the labour is below the normal rate/union rate/minimum wage because we are concerned here with an employment subsidy. One possibility would be to allow a very low bid, say one Euro a day. Or possibly some minimum should be set. As with most existing TSE systems, there is a time limit on the subsidy in respect of a given employee working for a given employer. The reaction of a state employment agency to bids received is to inform any relevant types of unemployed labour of the existence of the bid/vacancy. The agency also informs any already employed TSE labour of the relevant type where the latter is being employed by an employer who has put in a lower bid. In other words, if a restaurant is paying 5 Euros a day for a waiter and another restaurant puts in a bid for 10 Euros, the former waiter is informed of the latter vacancy. Sanctions may be taken at the discretion of the state employment agency against unemployed persons or already employed TSE people if they fail to go for an interview for the new job. Also, where a TSE employee appears to be unwilling to move on to more productive work (or where the employer appears to be trying to hang on to the subsidised employee) sanctions may be taken (e.g. the subsidy might be cut altogether). An obvious fraud is for employers to hire well qualified or fully viable staff with the assistance of the subsidy, and then, as soon as such staff look like disappearing, abandon the subsidy and keep the staff. The solution to this is to make any employer repay some or all the subsidy if they keep staff on expiration of the subsidy.

This system might seem much too lax or open ended, that is, it might seem that employers would manage to get a large proportion of their staff onto the subsidy and thus help themselves to far too much taxpayers’ money. However there are both natural and artificial limits that can be put in the size of the system. As regards natural limits, while employers have a definite need for some temporary labour, employers cannot cope with excessive levels of staff turnover.

40


As to artificial limits, there are several possibilities here. The size of the subsidy is variable. For another example, the total number of subsidised people could be limited, both nationally and locally. The above system is of course similar to totally free labour market: that is a market where there are no benefits, minimum wages and so on. In this situation the unemployed tend to take temporary low paid work till better employment appears. Indeed, according to Werner (1999) p. 21 the incidence of this temporary low paid work is higher, as would be expected, in the US than in Europe. And this is the reason for naming the subsidy a ‘market imitating’ subsidy. A system of the above sort obviously caters both for those who are insufficiently flexible downwards as well as upwards.

Redundancy Delaying The rules set out above assumed TSE applies only to employees who are new to a given employer. One of the many possible variations on the theme is to also allow existing employees to be put onto the subsidy. This would have the effect of delaying redundancies. Normally where an employee’s worth to an employer drops below the minimum wage or the normal wage for the job the employee loses the job. But as long as the employee’s worth has not dropped to zero, there is something to be said for the employee remaining in the job till a better job appears.

The Effects of Minimum Wages, in Work Benefits, Graduated Tax, etc. The system advocated above does not necessarily have to be confined to the unemployed or those faced with unemployment. Remember that the basic reason for applying the system to the latter group was that this group arguably has insufficient incentive to take low paid work, and insufficient incentive to move on to more productive work when the latter appears. But this lack of incentive arguably applies to other groups in the workforce. For example the whole of the bottom 10 percent or so of the workforce faces very high effective marginal tax rates (i.e. for every extra 10 Euros they earn, about 9 Euros disappear in the form of reduced in-work benefits or tax). Thus it could be argued that we should abolish minimum wages, and that employers should be allowed to put in very low bids for labour, in the knowledge that the state will be attempting to move such labour on to more productive work where the bid is below some level or other.


41

The Purpose of Unemployment Benefit The basic role that unemployment benefit plays has implications for TSE in the role set out here. Unemployment benefit has two basic functions. One is to ameliorate the drop in income that people would otherwise suffer. The other is to prevent them having to take work to which they are not accustomed. However TSE in the role suggested here specifically involves people doing work to which they are not as well suited or qualified as they would be in the absence of the subsidy. Is this justified? Several decades or a century ago we had more rigid class distinctions than nowadays. Redundant bank managers could not be sent to work down coal mines the day after being made redundant. But nowadays, so called manual work is much less demanding. Thus there is a good argument for more flexibility. To summarise, the argument for TSE in the role set out here becomes stronger if we accept that people have little right to live off the tax paid by others if there is any sort of job available they could attempt. As to the idea that the state should ameliorate the decline income that unemployment involves, there is no need to abandon this idea.

Weaknesses in the System Advocated Here Probably the main weakness in the system set out here is the cost to the taxpayer. In a totally free labour market, that is, where benefits do not exist, the costs of labour market adjustment are born in a very unfair way by the unluckier members of the workforce. The introduction of benefits puts some of the costs onto the state, but reduces the incentive to adjust, which worsens NAIRU. The system advocated here retains the social protection as well as trying to recoup the advantages of a free market. This costs the state even more. There is no such thing as a free lunch! To illustrate, had Germany decided to deal with its labour market inflexibility over the last two or three years by spending even more on labour market measures, the system advocated here might have suited it. In the event, Germany seems to be dealing with the problem by cutting social security spending, that is, moving in an Anglo-Saxon direction. Second, the system would not work well in small towns or villages where employers are likely to know potential TSE employees before hiring them. This ‘prior knowledge’ would enable the employer to hire fully viable labour on a subsidised basis. However much the same weakness applies to existing TSE systems, so this is not a problem unique to the system advocated here.

42


Should We Allow 1 Euro per Day Jobs? An obvious objection to the idea that employers be allowed to make very low bids for labour is that such jobs are not worthwhile. Certainly if we use the normal micro-economic methods of valuing things – the price paid – then 1 Euro per day jobs are not worthwhile. However we are dealing here with what Layard once called the quagmire that lies between macro and micro-economics. Assuming aggregate demand is as high as inflation permits, the reason nothing is bid for further goods, services or labour is not the inherent worthlessness of the latter. It is the fact that the money supply or aggregate demand is not sufficient to make the bid (or if bids are forthcoming they are well below the normal market price). This point has long been appreciated in the case of ‘state provided’ or ‘non marketed’ commodities. That is it has long been appreciated that the unemployed could be put onto a variety of socially useful tasks (the idea actually goes back to Ancient Greece). And the fact that the customer pays nothing for the relevant output is no proof that the output is worthless. However the same point applies to goods that are normally sold or ‘marketed’. Of course this is not a reason for hiring out a large proportion of the workforce at 1 Euro a day. But it does add weight to the argument that 1 or 2 percent of the workforce should be hired out at very low rates. The above points can be put in mathematical or graphical form (see figure 3.1). Given falling unemployment, the ‘worth’ or net revenue product of each succeeding person hired declines. And when net revenue product equals the minimum or standard wage, a further rise in employment is thwarted by inflation. The subsidy advocated here should enable employment to break through this barrier, and bring about a small additional amount of employment.


43

Figure 3.1 Net Revenue and Employment It is very debatable as to what the exact shape of the downward sloping net revenue product line is. In a very efficient labour market it would not cross the horizontal axis at all. That is it would cross the vertical 100 percent employment line perhaps more or less where the ‘minimum/standard line’ also crosses the latter vertical line.


Chapter 4

Pauperising Cities? Towards a Regional Framework for EU Poverty Statistics1 Matthias Till

Introduction: Poverty is Produced, Not Given! In his classic definition of poverty Georg Simmel stated that a person would be poor if the means available do not suffice for the goals striven for, whereas the sociological phenomenon of poverty would not be constituted on the basis of the individual experience of want and deprivation but emerges only if the poor receive support or norms would demand that support should be given. While value judgments render a purely rational and scientific solution impossible, a particular definition of poverty may still be widely recognised and accepted. One such widely accepted notion of poverty has evolved recently for the European Union. Following the Union’s commitment to ‘combat social exclusion’ and the need to monitor progress towards a reduction of poverty, a framework of statistical indicators has finally been endorsed at the Laeken European Council in 2001. Such a common definition of poverty makes it difficult to ignore its prevalence and is ultimately calling for action. But what kind of action does it call for? The priorities of the statistical framework agreed upon suggest most of all the reduction of inequalities in household incomes, then the increase of employment and – with considerable less weight – also improvements regarding education and health in the Member States. These issues will appear as useful guidelines to most people and in fact European policy makers did find least difficulty to accept these general notions of social inclusion. However the abstractions are neither necessarily improving the understanding of poverty nor are they pointing towards (i.e. indicating) required policies. If conventional poverty statistics do however miss the problem or at least important parts of it, then there clearly is no reason to put thought at rest.

1

The author gratefully acknowledges the Austrian Academy of Sciences for a DOCgrant and EPUNET for providing data access during a short research visit to the ESRI in Dublin.

46


The particular point of criticism which will be dealt with in this chapter is the insufficient regional scope of the conventional framework. The relevance of the regional dimension depends on the extent to which the causes of poverty (e.g. in the case of structural unemployment) and instruments of welfare policy (e.g. social assistance) are regionally structured. A number of commentators (e.g. Stewart, 2003; Berthoud, 2004; Stanton, 2004) have raised this issue and produced evidence that relevant causes and policy measures are neglected when only the level of nation states is considered. Statistical monitoring only on national level can therefore become meaningless or even misleading. As a consequence of limited availability of data and harmonised indicators it appears that the indicators that guide European regional cohesion and development policies are surprisingly unrelated to the Union’s social inclusion framework (cf. European Commission, 2001). A regional perspective on social inclusion inevitably raises the question of how to determine the adequate level of disaggregation. It may well turn out that the conventional broader NUTs-level regional categorisations are not always the most adequate choice and local level information may be preferable. Thereby cities often represent the most ‘natural’ clusters and provide hence an ideal level for a regional analysis of social inclusion. The majority of European Citizens lives in urban areas. Further, growth and prosperity of ‘global cities’ (Sassen, 2001) and increasing polarisation between and within urban areas give cities special importance for social inclusion. But also in terms of indicators it appears advisable to distinguish specific urban and rural lifestyles and poverty patterns. Most evident is the relevance of the city level in the case of housing integration where both the housing market (as a cause) and social housing or assistance (as potential remedies) is locally specific. In what follows I will hence make a particular case for considering the urban issue in both the measurement and production of poverty.

To See or Not to See: The Union’s Sight on Poverty Today, social policy and with it all measures concerning the poor and excluded remain within the responsibilities of the Member States of the European Union. The importance of a European social policy is however increasingly acknowledged. Where the Maastricht Treaty (1992) only mentions economic and social cohesion the Treaty of Amsterdam (1997) and now the draft European Constitution (2004) declare the fight against social exclusion as a central aim for the Union’s social policy. In the context of the ‘Lisbon strategy’ the Member States of the European Union have agreed to employ the so-called ‘Open Method of Coordination’ [OMC] to foster social inclusion policies and significantly reduce poverty. This procedure has left concrete measures within the responsibility of the Member States who design their own National Action Plans [NAP] according to common objectives. These objectives are in particular:

Pauperising Cities? 1.

47

Facilitating participation and access to employment, resources, rights, goods and services for all. Preventing the risks of social exclusion. Helping the most vulnerable. Mobilising all relevant bodies (European Commission, 2004).

2. 3. 4.

The method operates via the exchange on best practices and the joint monitoring of progress through statistical indicators. The critical element in this method is the preparation of a ‘Joint Report on Social Inclusion’ which contains all the above elements. A set of statistical indicators was endorsed in the Laeken European Council in 2001 to support monitoring. The inclusion indicators derive from the so-called structural indicators2 which had been established earlier to measure progress towards the Lisbon objectives and have been the subject of an expert evaluation (Atkinson et al., 2002). Four basic dimensions of social inclusion are considered: income inequality, unemployment, education and health. The framework is organised along three hierarchical tiers, with a core set of ten primary indicators and eight secondary indicators giving additional information. The definition of a third level of indicators is left to the individual country’s action plans to highlight areas of particular national relevance and support the interpretation of the primary and secondary indicators. European policies rely much on statistical indicators as can easily be recognised when thinking of the stability criteria for the European Monetary Union (EMU) defined in the Maastricht Treaty (cf. Haller, 2001). With the Laeken framework the issue of poverty is now placed firmly on the European social agenda including concrete technical decisions about how poverty is to be measured.3 Such a common language puts a normative limit to the arbitrariness of poverty measures and facilitates comparative investigations. There remain however various drawbacks which need to be acknowledged when the Laeken indicators should indeed guide policies as well as improve our understanding of poverty. The main caveats of this framework are to be distinguished on at least three levels. Guidelines without a Concept? There has been some debate on the normative value of the Laeken indicators and their normative content does not seem to fit any single ideological framework (cf.

2

Structural indicators cover six areas: economic background, employment, innovation and research, economic reform, social cohesion and the environment. 3 Such as counting individuals rather than households, or using the modified OECD scale of equivalence for comparing the incomes of households of different size and the 60 percent of the Median threshold for setting a poverty line.

48


Mabett, 2004, p. 14). Some people might regard a lack of ideological persuasion as a requirement for statistical measures but in my view this is only symptomatic for a framework which did ‘[…] not attempt to provide a thorough grounding for the terms “social exclusion” or “social inclusion” […]’ (Atkinson et al., 2002, p. 3). As a consequence, the Laeken indicators appear to be driven by data availability rather than based on any particular conceptual framework. Be this intentional or not – the lack of a concept of social inclusion ensures that no particular line of action is suggested. For the same reason the indicators remain flexible enough though to accommodate eventually arising ideological or theoretical views. One major conceptual decision which was taken however does refer to the use of outcome indicators instead of input or output related figures. Thus the levels of welfare expenditure or public services are not in themselves reflected in the indicators. This may at least partly explain why Laeken indicators seem to find larger audience in the general public or among social policy researchers than among the responsible authorities.4 Missing the Point? The present framework appears far from exhaustive and important aspects of social inclusion are not reflected. Most importantly this relates to the housing dimension. On average, 1 out of 4 Euros across European households is spent on housing (Till, 2005) and the share of housing cost in income is increasing together with the number of homeless people. Due to a substantial direct policy impact in most countries it is unlikely that housing integration should solely depend on income. In addition, the Laeken indicators on education and health are clearly of ad-hoc character rather than being based on profound reasoning and research. Further, deprivation is at best indirectly assessed through low income, while poverty ultimately becomes visible if the availability of non-monetary goods and services is considered (see Atkinson et al., 2004 for a recent discussion). Finally, the lack of any explicit regional dimension is to be seen as a severe drawback of the indicator framework. Inaccuracies in Measurement The measurement of indicators such as income poverty has peculiarities. Special attention would need to be paid to the (under)coverage of the most excluded parts of the population (e.g. homeless) in sample designs as well as the weighting and imputation of non-available information (see e.g. Till, 2001 for a more technical

4

The Commission in a recent communication recognised the special need to include social protection into the open method of coordination and proposes a new a Joint Report on Social Protection to be launched in 2005 (European Commission, 2003b).

Pauperising Cities?

49

discussion). From a technical viewpoint the Laeken indicators do hence define a statistical benchmark as much as they are a challenge to methodologists. In summary, the drawbacks of the Laeken indicator framework are to be seen particularly with reference to its lacking conceptual basis, its insufficient coverage and the challenges ahead for its implementation into reliable statistics. Nonetheless it ought to be acknowledged that Laeken makes poverty a social fact. Those who wish to combat social exclusion find solid ground for their arguments in regular reports on poverty produced in the ‘Open Method of Coordination’ both by the Commission and Member States. Clear policy targets in terms of the indicators remain however yet to be established (cf. Atkinson et al., 2004).

Tapping on the Pattern of Poverty in Europe – A Conventional View Eurostat’s second report on income poverty and social exclusion (2003a) was the first publication to follow the methodology of the Laeken framework presenting evidence on how income poverty is distributed among EU Member States and risk groups. Meanwhile figures have been updated in a statistical Annex to the Joint Report on Social Inclusion (European Commission, 2004). In the 15 Member States constituting the EU of the late 1990s there were about 60 million individuals with an income below the at-risk-of poverty line of their Member States. This number corresponds roughly to one out of six European citizens. Poverty risks above the EU-average are generally observed in the South European countries. Rudimentary welfare provisions are typical for there type of countries which have at-risk-of-poverty rates around 20 percent of their population. But also the liberal Anglo-Saxon welfare model which is typical in Europe for the United Kingdom and Ireland seems to produce poverty risks clearly above the European average. The most recent statistical data for 2001 even shows Ireland having the highest of European at-risk-of-poverty rates while the United Kingdom has considerably improved its situation in 2001 (European Commission, 2004, for a particular discussion of the Irish case see Callan et al., 2004). Considerably lower is the extent of poverty in the corporatist Member States of the European continent. In those countries the poverty rate is 12 percent on average and ranges between 11 and 15 percent. The lowest at-risk-of-poverty rates can be observed in Scandinavian countries. This group of countries usually represent a socialdemocratic welfare type have an average risk of poverty of 10 percent which is the lowest among all welfare types and countries, cf. table 4.1.

50


Table 4.1 At-Risk-of-Poverty Rates for Member States and Welfare Regimes Countries

Regime Types Social Democratic

10

17 21

Liberal

19

Netherlands Belgium Luxembourg France Germany Austria

11 13 12 15 11 12

Corporatist

12

Portugal Spain Italy Greece

20 19 19 20

Residual

20

Finland Sweden Denmark

11 9 10

UK Ireland

Note: a threshold of 60 percent of the median equivalised income is used, averages for welfare regimes are unweighted Source: Berthoud, 2004 p .14, figures updated for 2001 from European Commission 2004. The different reports which have become available in recent years consistently prove the relevance of social protection. Particularly the Irish case demonstrates that even high employment and economic growth in themselves are not sufficient in keeping poverty risks low (cf. Callan et al., 2004). Findings on the persistence of poverty show that the experience of poverty is not arbitrarily distributed and concentrates among those who have been already poor. The country pattern of poverty persistence appears hence to be related to the cross sectional pattern of poverty risks for any specific year (Eurostat, 2003a). The examination of the social patterns of inequalities within countries revealed that women are most affected by economic disadvantage and poverty, most strikingly so at specific stages of the life cycle. Persons of young age and children are generally disadvantaged compared to persons of working age. Incomes are lower at retirement age and the risk of poverty is hence higher, especially among older women living alone. Low educational attainment, less favourable employment positions and the experience of unemployment all function as major pathways into poverty. Having three or more dependent children is likewise associated with a higher than average risk of poverty. Single parent households experience a similarly difficult financial situation. Young single adults, the long-

Pauperising Cities?

51

term unemployed and persons in households in which none of the persons of working age works face the most serious situation. The novelty of these general findings may well be questioned in particular if we were interested to learn where the poor are. While Italy not surprisingly shows higher poverty rates than Germany, we may expect also disparities between East and West Germany or between the north and south of Italy. Taking into account regional disparities may indeed give a slightly different picture of the situation. Likewise we can not be sure if such results would at all be meaningful if the income thresholds are identical for Sicilly and Lombardia. Some closer scrutiny would hence definitely be required. In its present form, the Laeken framework considers region only in terms of the disparity of employment rates. In this respect the Commission departed from the expert evaluation of Atkinson et al. who identified two problems of this indicator and clearly stated they ‘[…] would pull back from comparing the degree of regional disparities across member states […]’ (2002, p. 72). First, it may not be reliable when comparing countries of different sizes as for example countries with only one or two regions may be identified are likely to show also lower regional disparity than say a country composed of some 30 regions. Second, a diversity of employment rates is meaningless without considering the average level around which the regions scatter (consistently high unemployment across regions may yield favourable scores without giving reason to assume a satisfactory performance). This criticism has been elaborated further by Stewart (2003, p. 342) who has added a third aspect which refers to the cyclical element of regional employment disparities meaning that low variation could simply be a sign of economic stagnation. Alternatively to this apparently flawed indicator Atkinson et al. (2002 p. 72) had proposed to include regional breakdowns for all inclusion indicators (where appropriate and possible). Following the advancements made with regard to comparative poverty statistics there has been an increased interest in recent years also with regard to the regional dimension which overcomes the national view which was drafted by Adam Smith (cf. Kangas and Ritakallio, 2004). On one hand some researchers experiment with a hypothetical European minimum standard which should do justice to the tension between recognised national poverty and a common identity of European citizens – in particular against vastly different levels of prosperity after enlargement. Most of these recent research activities have also been dealing with inequalities within and between regions (Kangas and Ritakallio, 2004, Berthoud, 2004, Jesuit et al., 2002, Förster et al., 2002a, 2002b, Stewart, 2003). While the regional poverty data would greatly enhance its regional visibility its present absence is certainly not supportive to mobilise all the actors at the sub-national level as would be intended in the common objectives of the Open Method of Coordination.

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Dublin and Vienna – Pauperising Cities? Generally, big cities are known of becoming the main global nodes of economic and social developments (Sassen, 2001). Some cities take however overall benefit from their growing importance in the world economy while others are rather becoming peripheral. High unemployment which often follows from the decline of heavy industries in many of the formerly prosperous regions is an important example which can set urban agglomerations under pressure. At the same time increased city competition becomes noticeable for example in the current boom of low cost airlines. These are only two general examples of how cities become major players as well as victims of the global change (for a more detailed discussion see Dangschat, 1999). Poverty in cities is however usually discussed under the perspective of spatial segregation within the city area. Comparative investigation which would compare poverty risks between cities is hardly attempted (cf. Hanesch, 2001, Dangschat, 1999). Efforts to produce comparative social statistics on European cities in the Urban Audit devote little attention to poverty and do not acknowledge the European indicator framework on social inclusion (European Communities, 2000). The broader regional issues on the other hand generally appear to be dealt with rather in terms of the Union’s ambitions for economic and social cohesion and the structural and development funds (European Commission, 2001). The empirical basis for such policy are however mostly the macro level aggregates such as national income and regional accounts. While there are important interdependencies (cf. Berthoud, 2004) such aggregates are usually not acknowledged in terms of micro-level poverty. As a consequence, local and regional authorities but also European cohesion policy appear relatively separated from the Open Method of Coordination process on social inclusion in the European Union. Quite clearly this means to exclude actors which due to their competencies do have major impact on social inclusion outcomes. In the following I therefore briefly explore poverty trends from a city perspective. The findings presented here are drawn from an ongoing comparative (case-)study of Vienna and Dublin which is a pilot attempt to compare European cities with a particular emphasis on poverty and social inclusion. These cities appear particularly interesting for comparative investigation as both cities concentrate the vast majority of urban population in their countries and a significant share of the total population. Dublin’s position within a Liberal, AngloSaxon welfare regime and booming economy provides an excellent contrast against Vienna’s traditional Social-Democratic policy regime. Vienna and Dublin are also well represented in ECHP-data (European Community Household Panel) which forms the European Union’s primary data base on social inclusion. In terms of their collective wealth both cities are not expected to be pauperising. Dublin is extremely well situated within the ‘Celtic Tiger’ and took a major share in the country’s rapid economic growth over the last decade leading to

Pauperising Cities?

53

low unemployment and even substantial labour force immigration. Vienna remains a stable centre of the Austrian economy yet with only modest growth rates over some years which is reflected also in a steady increase of unemployment rates. In terms of population, both cities are representative of roughly 25 percent of their countries, whereby regional and national accounts prove that Dublin is considerably exceeding that percentage in terms of its share in national income. During the late 1990s disposable incomes after tax have increased by 16 percent in Vienna and even 85 percent in Dublin (for comparison: the total growth of national disposable income between 1995 and 2001 was 20 percent and 81 percent respectively (Central Statistical Office Ireland, 2004; Statistics Austria, 2004). The Laeken indicators on the other hand have not been produced for the two cities studied here so far which prevents a straightforward comparison of long term unemployment and things get even more difficult when turning to education and health related issues. In what follows I will therefore focus on income poverty as it is captured in micro data from the European Community Household Panel.

The Risk of Income Poverty The Laeken framework foresees three primary indicators related to income poverty: the first is the at-risk-of-poverty rate which gives the head count of people below an income level of 60 percent of the median equivalised income and relates that to the population total; the second indicator is the at-persistent-risk-of-poverty rate and refers to people whose incomes remained below that level for a longer time span (at least 2 of the preceding 3 years); finally the at-risk-of-poverty gap is used to represent the intensity of poverty by the percentage difference between the at-risk-of-poverty threshold and the median income of those below it. Table 4.2 gives the results for the three indicators both on the national level as well as for the two capitals. As expected from the vast differences in welfare system, poverty risks in Ireland are substantially higher (19–21 percent) than they are in Austria (12–14 percent). This finding holds throughout the reference period and for all indicators concerned here. In both countries the indicators do not reveal any extremely pronounced patterns of change over time between 1995 and 2001. In Ireland the indicators seem to suggest an increase in poverty though, most markedly so concerning the intensity of poverty. Austria on the contrary stands out as having experienced a decline in the at-risk-of-poverty rate with little changes however regarding the persistence or intensity. Both countries have experienced a significant increase in the level of the poverty threshold, which for Ireland is even almost 50 percent higher in the year 2001 than it was in 1995 which is to a large part responsible for the rising poverty rates during that period. When turning to the city level it can be found that in Dublin poverty risks are consistently below the national average (12–16 percent). Over time the extent of

54


poverty seems to fall significantly in Dublin. However the severity of the problem for those at-risk-of poverty is greater in Dublin than for the whole of Ireland and the gap to the poverty threshold was even climbing up sharply to 29 percent in 2001. In Vienna, poverty risks were in the range between 10 percent and 16 percent and were above the national level before 1997 and in 2001. Notwithstanding this, the poverty risks in Vienna were still significantly lower at the end of the reference period than at the beginning. A somewhat inconclusive trend can also be seen with regard to the intensity of poverty which likewise bounces around the national result. Only the at-persistent-risk of poverty rate remains consistently below the national level throughout the reference period but shows a sharp increase in 2001. Table 4.2 Trends in Income Poverty in Ireland and Austria 1995–2001 1995 1996 1997 1998 1999 2000 2001 Ireland whole country At-risk of poverty rate 19 19 19 19 19 20 21 At-persistent-risk-of-poverty rate 12 12 13 13 13 At-risk-of-poverty gap 14 15 16 18 21 23 24 Dublin At-risk of poverty rate 16 14 13 14 12 13 13 9 8 7 7 7 At-persistent-risk-of-poverty rate At-risk-of-poverty gap 16 14 16 20 20 24 29 5,332 5,736 5,869 6,681 6,722 7,044 7,943 60% of median threshold (PPSs) 13 14 13 13 12 12 12 Austria whole country At-risk of poverty rate 7 7 7 7 At-persistent-risk-of-poverty rate At-risk-of-poverty gap 19 16 19 19 18 14 19 Vienna At-risk of poverty rate 16 15 11 12 11 10 13 4 4 5 7 At-persistent-risk-of-poverty rate At-risk-of-poverty gap 18 21 22 20 19 12 16 60% of median threshold (PPSs) 7,619 7,712 7,928 8,072 8,169 8,953 9,471

% change 15% 12% 76% -14% -22% 81% 49% -11% 2% -2% -17% 88% -9% 24%

Source: European Community Household Panel Survey (EHCP) User’s Data Base (UDB), own calculations.

There has been some debate on whether regional poverty estimates should not also be measured with reference to a regional threshold. In a rare example of approaching this question from an empirical perspective Berthoud (2004) has assessed the national poverty threshold against two empirically established poverty lines. One reflected people’s subjective income needs and the other was based upon the observable relationship between income and risk for financial hardship. Both these approaches showed for the majority of countries that no influence was attributable to the income of the country suggesting regional and eventually supranational points of reference should indeed play a greater role in the measurement of income poverty. Indeed not only the psychological point of reference may differ for people living in urban areas but also the cost of living may be hugely different. Table 4.3 does hence present poverty risks if they were calculated upon the income distribution within Dublin and Vienna rather than using a national threshold. As incomes are higher in the cities also their poverty thresholds are above the national level. As it turns out, Dublin has been catching up extremely fast and the income level and thus the poverty threshold in 2001 was only 11 percent below that to Vienna. The two cities appear considerably closer to each other than suggested by

Pauperising Cities?

55

the comparison of the Irish threshold which remains 16 percent below that of Austria. The comparative perspective reveals an important argument in favour of setting regional income poverty thresholds. In some situations it may even appear that regional poverty thresholds behave opposite to the national thresholds concerned. For example the regional poverty standard in Dublin may in the future be higher than that of Vienna while income levels in Ireland as a whole may still be lower than they are in Austria. In such a hypothetical, but by not completely unrealistic scenario a universal poverty line would not count a person to be at-risk of poverty which lives in Dublin which would be considered at risk in Vienna, even if differences in the cost of living (which are of course related to regional income levels) would suggest that. The higher thresholds in the city as compared to the countries as a whole would not remain without consequence the poverty risks: These would likewise appear substantially higher when referring to regional standards. In the case of Vienna poverty rates would even be consistently above the national average whereas in Dublin this holds only for the beginning of the reference period. Over time however also poverty defined by regional standards is seen to fall rather than to increase between 1995 and 2001. Table 4.3 Poverty in Dublin and Vienna when using a Regional Standard, 1995–2001 Dublin At-risk of poverty rate 60% of median threshold (PPSs) Vienna At-risk of poverty rate 60% of median threshold (PPSs)

1995 1996 1997 1998 1999 2000 2001 23 22 18 19 17 18 20 6,120 6,598 6,720 7,344 7,469 8,177 9,387 18 16 16 16 15 14 16 8,081 7,992 8,993 9,199 9,187 9,945 10,542

% change -13% 53% -11% 30%


Income Inequality and Secondary Indicators The Laeken framework proposes two measures to against which the overall income inequality may be assessed: the income quintile ratio and the Gini coefficient. The income quintile ratio (S80/S20) is used as a primary indicator which gives the ratio of the shares of equivalised income available to individuals in the highest and lowest income quintile groups. In other word it tells us how many times more income the 20 percent richest have at their disposal compared to the 20 percent poorest in a given society. The Gini coefficient serves as a secondary indicators and is slightly more complex as it relates to the area under the Lorenz curve which is a popular graphical representation of income concentration. The Gini coefficient would take a value of 0 only if all individuals would have the same income whereas its hypothetical maximum is reached when all the income were in the

56


possession of a single person. The Gini coefficient compares the actual welfare with the welfare which would be achieved if the same resources were to be evenly distributed. It can thus be read as the percentage of income which does not contribute to welfare. As can bee seen from table 4.4 below the 20 percent richest in Ireland had 4.5 times as much income available as the 20 percent poorest in the year 2001. On the other hand, incomes that were concentrated among the richer part of the Austrian society amounted to ‘only’ 3.5 times the sum of income available to the poorest fifth of the population. Similarly does the Gini coefficient indicate a higher income concentration for Ireland than for Austria. Not very surprisingly the income concentration within Dublin and Vienna appears to be significantly higher than it is in their countries. However, according to the ECHP income inequality has decreased between 1995 and 2001 according to both measures and for the capitals as well as for the Member States concerned here.5 Table 4.4 Trends in Income Inequality in Ireland and Austria 1995–2001 1995 Ireland whole country Income quintile ratio (S80/S20)

Dublin

1997

1998

1999

2000

2001

% change

51

49

52

49

47

45

Gini coefficient

33

33

33

33

32

30

29

-13%

Income quintile ratio (S80/S20)

56

50

45

49

51

46

47

-16% -16%

Gini coefficient

-11%

35

32

30

31

32

30

29

40

38

36

35

37

34

35

Gini coefficient

27

26

25

24

26

24

24

-10%

Income quintile ratio (S80/S20)

48

46

39

41

44

37

41

-15%

Gini coefficient

30

29

26

27

28

26

27

Austria whole country Income quintile ratio (S80/S20)

Vienna

1996

51

-14%

-10%

Note: for convenience the S80/S20 ratio and Gini coefficient have been multiplied by factors of 10 and 100 respectively. Source: European Community Household Panel Survey (EHCP) User’s Data Base (UDB), own calculations.

Table 4.5 summarises the extent of poverty in Dublin and Vienna if different values would be used for the threshold. Indeed the results of these secondary indicators call for some attention, in particular with regard to the Irish case. While the extent of poverty was seen to increase only modestly when relying only on the primary threshold of 60 percent of the median, the sensitivity analysis reveals that in Ireland the percentage of people below 40 percent of the national median

5

That the indicators are bouncing around during the reference period is likely to be attributable to random variation as the income shares will be heavily influenced by outliers and weighting.

Pauperising Cities?

57

income has more than doubled between 1995 and 2001 rising from 2 percent only to about 5 percent. In terms of policies this increase of more extreme income poverty risk clearly is calling urgently for adequate measures of basic social protection. Dublin seems to have been affected particularly by this increase in extreme poverty. For Austria on the other hand the picture remains relatively robust with regard to the particular threshold chosen. Table 4.5

Sensitivity of Income Poverty Estimates in Ireland and Austria 1995–2001 1995 1996 1997 1998 1999 2000 2001

%change

Ireland whole countrybelow 40% of the median below 50% of the median below 60% of the median below 70% of the median

2

2

2

3

4

5

5

129%

8 19 28

8 19 28

9 19 27

10 19 28

11 19 28

13 20 28

15 21 29

96%

below 40% of the median below 50%of the median below 60% of the median below 70% of the median

2 8 16 24

2 6 14 23

1 6 13 20

3 8 14 21

3 7 12 18

3 8 13 18

4 10 13 20

138% 28% -14%

Austria whole countrybelow 40% of the median below 50% of the median below 60% of the median below 70% of the median Vienna below 40% of the median below 50% of the median

5 7 13 21 5 8

4 7 14 21 5 9

3 7 13 21 3 6

4 7 13 21 4 7

4 7 12 20 4 7

3 5 12 20 1 4

3 6 12 19 3 6

below 60% of the median below 70% of the median

16

15

11

12

11

10

13

22

20

17

17

18

16

18

Dublin

15% 4%

-19% -30% -14% -11% -7%

-49% -27% -17% -18%


Against the poverty thresholds of earlier years many of today’s poor would appear relatively well off. This is the rationale behind a further secondary indicator in which the poverty threshold is fixed at the level of a specific reference year and adjusted only for inflation. Table 4.6 reveals that poverty risks against such an absolute standard are indeed decreasing considerably over the years. This reduction of poverty risks is significantly greater in the capital cities and is also greater for Austria than for Ireland. A further perspective is taken when considering the hypothetical extent of poverty in the absence of social transfers. Table 4.6 shows that more than a third of the population in both countries would be placed below the at-risk-of-poverty line in terms of their net market incomes (i.e. without social transfers). That poverty risks are finally lower in Austria than in Ireland seems hence attributable mostly to the effect of more generous social welfare entitlements. The latter seem to play a somewhat less important role in the capitals as earnings are comparatively high and

58


employment opportunities better than in the rest of the country. Over time, poverty risk calculated upon market incomes have been reduced quite significantly and particularly so in Dublin. Table 4.6

Trends in Secondary Poverty Indicators in Ireland and Austria 1995–2001 1995 1996 1997 1998 1999 2000 2001

% change

Ireland whole country poverty risk using 1995 threshold 19

16

16

11

12

13

12

40

40

38

38

36

36

35

-13%

poverty risk using 1995 threshold 16

12

10

8

8

8

9

-42%

poverty risk before transfers

34

30

32

28

24

26

-24% -45%

poverty risk before transfers Dublin

34

Austria whole country poverty risk using 1995 threshold 13

14

13

13

12

8

7

41

40

39

39

38

37

38

-7%

poverty risk using 1995 threshold 15

15

11

12

11

6

8

-49%

poverty risk before transfers

39

35

33

35

34

34

poverty risk before transfers Vienna

-34%

40

-14%


Conclusion This chapter has critically discussed the official framework of statistics on social inclusion in the European Union. It is admitted that these common statistics greatly enhance the visibility of poverty risks in the European Union, but they also fail in some important aspects. The Laeken framework should perhaps be understood as roadmap of undiscovered land, spelling out only some of the place names and no main roads. Policies which do not paying attention to the white spots and the wet ink on this map can be in danger of being mislead. Regional aspects in general, and the urban and housing dimension in particular as well as social protection remain urgently to be included into the framework. While indicators on income poverty risks have now been presented for Dublin and Vienna, the labour market related indicators based on the Labour Force Survey are still not available on a regional basis. In view of mobilising all relevant actors to combat social exclusion EUROSTAT would be well advised to provide local authorities and European cohesion policies with the required empirical information. From a methodological viewpoint there further research seems urgently required. In particular income thresholds which consider regional income levels will deserve further attention. Of particular interest would appear also a cross reference to national and regional incomes which would also re-connect inclusion policies with the structural and economic policies within the European Union.

Part 2 Global Perspectives


Chapter 5

Welfare State and Uncertainty – Two Different Views1 Jesper Jespersen

Introduction During the fall of 2003, the Danish government established a welfare commission whose task was to analyse future challenges to the welfare state in light of demographic projections, increased internationalisation and rising individualism, among other factors. The selection of commission members was criticised for being very one-sided in regards to the scope and diversity of the committee members’ backgrounds. Not only was the panel solely composed of professional economists, although one person with a legal background, but it was furthermore economists who consider the economy to be adequately described by a neoclassical general equilibrium system. This chapter is presenting a crucial methodological discussion of how to analyse genuine uncertainty within social sciences – in this case with special regard to the welfare state. By genuine uncertainty, I mean that any decision maker at the micro or macro-level lacks knowledge about social structures and future events. This empirical fact applies to any scientific analysis within the social sciences – not only to welfare state analyses. As a side note, a rather parallel discussion arose in connection with the international conference on long-term environment and development planning in the spring of 2004 under the name ‘Copenhagen Consensus’ (Lomborg, 2004). Under these proceedings a number of

1

The translation has been made by stud.scient.adm. Ben Hope.

62


professional economists were asked to assess, using Cost-Benefit Analysis, how global welfare could be developed furthest measured in ‘dollars and cents’.2 In the wake of these debates we found a methodological divide among economists when they were asked to address two fundamental questions: 1. 2.

Can ‘welfare’ be exclusively analysed through econometric calculations? Can genuine uncertainty be meaningfully analysed within the framework of a (general) equilibrium model?

The full answers to these two questions could fill volumes, but with respect to space, this article will concentrate on the consequences for welfare (state) analyses depending on the theoretical comprehension of the concept of uncertainty. Neoclassical economists treat uncertainty analytically as equivalent to calculable risks. Whereas post-keynesian economists consider uncertainty as an irreducible condition for decision-making in real life, because we simply don’t know the future. The following will highlight some of the key methodological aspects related to the difference between these two approaches.

Two Different Schools of Methodology Neoclassical (or equilibrium) economists make the basic assumption that the market system is self-adjusting towards a general equilibrium, given the time period under consideration is sufficiently long. Market forces, it is argued, will always dominate in this long-run, because short term shocks are considered as random and therefore exponentially ‘cancel-out’. This means that as the neoclassical economists look further into the future, ‘uncertainty’, understood as lack of knowledge about these random events, will affect the results of the equilibrium model in a significant way. Hence, equilibrium economists believe that they have an analytical framework that is well suited to give qualified and quantifiable projections of how socio-economic developments might progress over the next 50–100 years. On this foundation, they consider themselves justified in 2 In Cost-Benefit Analyses, it is assumed that all relevant relationships can be tallied up in ‘dollars and cents’ regardless of when the particular costs are incurred and the kind of benefits which are expected. Making a Cost-Benefit Analysis of greenhouse gases, theses values are often calculated up to 100 years or more into the future. All these ‘values’ are consolidated and made comparable at their present value. Unfortunately, this consolidation occurs in such a way that the future is discounted using the current rate of interest. This reduced value of future benefit is due to the myopic approach where everything is valued from the perspective of the actual generation. The benefit of future generations are given a smaller weight – not because these numbers in general are more uncertain, but because one dollar in the future is viewed by equilibrium economists, taking this present value approach, to be worth less than 1 dollar today. As the arguments ran, you also have to pay interest, if you borrow from the bank.

Welfare State and Uncertainty – Two Different Views

63

using the equilibrium model to advice politicians as to the formulation of welfare state and environmental policies in this longer run perspective. Conversely, post-keynesian economists, who consider ‘uncertainty’ as a more fundamental and hence methodological irreducible concept have to base their analytical system within a specific historical context, where knowledge has been recognised to be uncertain, and economic structures persistently under-performing, especially in regards to unemployment, poverty, inflation and environmental degradation. Following the analytical perspective of these uncertainty economists, economic development is dominated by political and individual economic decisions which have been made and are being made, inescapably influenced by genuine uncertainty due to lack of knowledge in the foundation of their decisionmaking processes. Furthermore, the terror incident on 11 September, 2001 and the catastrophe of the Tsunami on 26 December, 2004, are just two examples of events which fundamentally changed decision making at all levels of society – the effects have not just cancelled out. The point made by ‘uncertainty’ economists is that we are in need of a methodology that can cope with uncertainty at all analytical levels from big events to ordinary life and from micro to macro decisions. With such differing methodological perspectives, it is no surprise that the field of economics is deeply split with respect to how socio-economic planning can be conducted under uncertain conditions. Mildly put, there exists a definite disagreement surrounding what can even be considered a relevant methodology. This can be attributed to, as mentioned, a strong divergence in the axiomatic understanding of the market-economic system’s characteristics and the definition of the term ‘welfare’.

Newton’s Legacy From the second half of the seventeenth century with the Physiocrats in France, Adam Smith in Scotland, and later by David Ricardo, economic theory was theoretically inspired by Newton’s laws of motion. Scientists of this time were fascinated by the simple mathematical model according to which, Newton gave a complete description of the, previously believed incomprehensible, solar system; a system wherein the motion of the planets was brought together and explained by a simple law of motion. The scientific strength in Newton’s model of the planets lay not only in its inner deductive nature, but also its predictive power. The planets paths, solar and lunar eclipses, could be predicted more than 100 years into the future with near god-like precision. Our Lord was hereby reduced to a footnote in scientific circles. Newton had been divinely bestowed with the principles that accounted for nature’s laws of motion. We have to travel forward through time to Einstein’s Theory of Relativity before anyone dared question classical physics and its analytical method. As mentioned, the classical economists took over Newton’s idea, and argued that an underlying, well-ordered system could also be found within the market-

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economic sphere. Adam Smith directly attributed the metaphor ‘the invisible hand’ to the ordering principle that, in his mind, ought to steer a well-functioning market economy. But Smith’s ‘invisible hand’ is like Newton’s Theory of Gravity unexplained. There is not an elaborate economic theory behind Smith’s assumption. It is a postulate (or in past terminology ‘Gods will’), that the market system should constitute a well-ordered whole; a system in which societal harmony and balance could be realised, if and when market forces were left to the ‘invisible’ hand’s rational will. But the political implication at that time was clear, that the politically powerful elite should resist the temptation to intervene (often to their own benefit) in the functioning of the market-economy, then economic life would flourish and be under the guidance of the ‘holy’ invisible hand, which according to Smith, ensured the greatest possible (economic) growth. This is the socio-economic model that underlies later developments in classical and neoclassical theory. The most important developments following the footsteps of this theory consist of refining and, not in a small way, formalising the method used. The classical economists unequivocally used numerical examples to illustrate the effects of economic forces. The best known example is David Ricardo’s explanation of the comparative advantages of foreign trade for all nations, the increase in land rent as population increases, and the unavoidable ‘iron law of (low) wages’ (Estrup et al., 2004). The market system was believed to harbour deterministic powers that in the end would dictate growth, distribution and welfare, and which could be calculated in a relatively simple market model based upon supply and demand. The neoclassical economists basically followed this model and later formalised it into a set of mathematical equations. Still today, stands this framework of general equilibrium developed by Léon Walras (1834–1910) in 1874, setting the methodological groundwork for neoclassical analysis. It was developed as a large mathematical model with stereotyped supply and demand functions of each and every (relevant) market, indifferent to whether the market under considerations was related to carrots, investment goods, or labour. Supply and demand were believed to selfadjust to one another by changes in the market price. In the 1950s, it was mathematically proven that under a number of (largely unrealistic) assumptions regarding economic behaviour and availability of information etc., there existed a compiled solution (a so-called general equilibrium) to the enormous number of equations describing the market system’s functions and a set of equilibrium prices. This calculation was identified as the economic system’s (long-term) self-adjusted resting state. The solution is then used analytically as the benchmark for assessing economic policies encroaching upon the ideal market-economy causing so-called imperfections, wherein a number of ‘welfare state’ policies also fall.


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Bentham’s Legacy3 Classical and neoclassical economists were under the direct influence of utilitarianism. Jeromy Bentham (1748–1832) summarised the idea of utilitarism in a slogan – ‘the greatest happiness of the greatest number’. He literally suggested that ‘pain’ and ‘pleasure’ could be measured in number; ‘utility’ would then be the difference between these two numbers. The utilitarian market demand curves were therefore derived under the assumption that, every individual could calculate his/her utility and endeavour to obtain the greatest possible level of individual well-being; in economic jargon this behaviour is referred to as the ‘utility maximising consumer’. It is similarly assumed that firms will strive for the greatest possible profit, thus becoming ‘profit maximising firms’. These behavioural assumptions were not seen to be really controversial, because Smith had demonstrated that selfishness in many economic cases would generate a socially beneficial outcome – especially in a society plagued by shortages of goods, land, capital and labour. One of the fascinating results of the mathematical market model that Walras had developed on Bentham’s philosophy was that the solution to the general equilibrium system could be demonstrated to be economically efficient, meaning, securing the greatest possible individual utility. This analytical triumph is known in the history of economic thought as Pareto Optimality. This conclusion, of course, relies on a number of restrictive assumptions, among others, perfect competition in a well-behaved market system with utility- and profit-maximising individuals. In this case, the scarce economic resources (land, capital and labour) are allocated in such a way that no individual can increase their personal well-being unless it is at the cost of another’s. Nothing is wasted, if only competition is allowed to flourish without hindrance and people behave individually rational. It was further assumed that individual utility could not be judged by an intersubjective comparison. Hence, if each individual made a personal optimisation within a free exchange system then by definition the society would reach the highest level of ‘utility’. But the fathers of the welfare state ideology did not accept this denial of the possibility of making inter-personal comparisons. The utility of one more dollar must be greater for a poor (not to mention starving) family than for a wealthy family. Hence, the ‘greatest happiness of the entire society’ could be increased through some kind of redistribution – putting a question mark to the very restrictive ‘poor laws’ of the nineteenth century society that only intended to ensure that people did not starve to death. Though, the idea of strict individual optimisation as a socially considered optimum was not very convincing for at least three important reasons: 1.

The market system was not and could never be ‘perfect’.

3

I have benefited from reading Fink (1996).

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2.

The initial distribution of capital (real and human) was uneven and could be redistributed without any loss of market efficiency. The society might, considered as a whole – allowing for inter-subjective comparison, gain in ‘happiness’ if consumption possibilities were transferred from rich to poor families.

3.

One straightforward solution within the purely individualistic neoclassical framework to address the issue of poverty in an efficient way would then be to carry out a land and education reform, and to look after market imperfections. That approach might secure a greater happiness for a larger number without interfering into the basic principle of the market system. The lack of concern for income distribution is one of the essential explanations as to why the neoclassical model is not equipped to make an analysis of the welfare state, in that it distances itself from making interpersonal utility comparisons. The final formulation of the general equilibrium model was the result of the twentieth century’s logical positivism. It was here that the idea that all human knowledge should be compiled into one interrelated deductive system which could create all-encompassing relationships such as the greatest size of production; whereas in contrast, a comparison of subjectively defined ‘welfare’ could not, according to the particular scientific tradition, be carried out due to lack of ‘scientifically founded’ method of inter-subjective comparison.4 Regardless of this lack of distributive aspects, the currently used (so called laboratory model) is based on the ideological assumption that the market economy could be made ‘well-functioning’ and therefore is a relevant bench-mark model from which various forms of economic policy can be assessed. The equilibrium model is consequently the axiomatic foundation for socio-economic analyses that are made within neoclassical economic theory. This type of model is dominating and largely seen in many official international institutions: OECD, IMF, EUCommission and ECB, as well as in national ministries of finance (for example the Danish DREAM-model). Today the reference to divine inspiration and the parallel to the astronomical system has of course been forgotten, but the axiom regarding an equilibriumrelated market system has been allowed to live on, with the shallow justification that it represent the ‘bulk of all previous economic thought’ as Keynes concluded his fundamental critique of equilibrium economics, already in 1934.5 It is important to underline the word thought, because the ‘well-functioning’ market system is an ideological proposition, that does not (directly) allow itself to pass empirical testing. 4

Rawls (1972) gives a theoretical critique that the lack of inter-subjective utility comparisons does not secure the ‘greatest happiness’ 5 60 years later, Robert Clower expressed the same wonder, though a bit more bombastic: I am wondering why mainstream economists are still obsessed by the Newtonian equilibrium system (Clower, 1998).


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These predominately axiom-founded general equilibrium models are used though, as mentioned, not only as a bench-mark projection, but also for proposing policy recommendations for long-term economic development. The Danish government’s welfare commission has chosen to calculate the future needs of the welfare state until the year 2040 with the help of such a general equilibrium model (DREAM).6 Here, the commission has explicitly assumed that general equilibrium is a socio-economic ‘natural state’ that has relevance for how welfare policy, in combination with demographic development, drags economic development away from its ‘optimal and natural state of equilibrium’. Balance on the public budget is an integrated part of this neoclassical ‘optimal and natural’ state. Within this analytical framework it becomes uncontroversial to present a number of policy recommendations with the aim of reducing the future budget deficit because that will bring the economic development closer to the ‘optimal and natural’ state.

The General Equilibrium Model is Built upon an Ontology without Genuine Uncertainty In the above text, the term ‘well-functioning’ market economy is used many times. Behind this saying hides an assumption that the market mechanisms can function without ‘obstructions’. Walras put forth his market equilibrating mechanism (an all knowing auctioneer) as a general principle that could be applied to all markets at the same time; in fact, it was inspired by his observations of trading on the Paris Stock Exchange. A (general) equilibrium was reached during the course of the trading day for all traded goods, assets and currencies, and why should not the same principle apply to the entire society? The stock exchange brought together all of the supplied and demanded quantities of goods, assets and currencies at different prices, then traders could react immediately on all these in-door markets. At the end of the day the traders could, thanks to the trading system, leave the stock market knowing that on the particular day, all of them had been able to attain the same and best possible prices – given the available information. It is in many ways, a highly sophisticated trading system, but it should be remembered that in practice, it only involves an insignificant portion of the economy as the stock exchange is only concerned with financial assets and selected commodities. Furthermore, the participants were restricted by the available information and the individual expectations which formed the ‘optimal’ price on that specific day. The following day would then, founded upon new information, reveal who were right and who were wrong about the future. In fact, who had ‘bought too high’ and who ‘sold too low’? This new information led to further trading, where expectations of the future were once again corrected in light of 6

DREAM stands for Danish Rational Economic Agent Model and is a standard general equilibrium model. It is administratively a separate unit within the Ministry of Finance and can be studied more closely at www.dreammodel.dk.

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yesterday’s experiences, and the constant flow of new information about prices, quantities and the worlds overall status. It is naturally a utopia to believe that all markets in the real world should be able to adjust themselves at one and the same instant; it is simply not technically possible (not today and not in the future, regardless of technological advances, the market economy will never appear as a solution to a simulated equation). It is a serious barrier to the general equilibrium model’s relevance, that it is not technologically realisable. An even greater limit though, is the assumption that economic actors can optimise their behaviour with certainty within the entire time horizon. It is difficult to know what will happen tomorrow; who dares guess the oil price in three months? Or the trading price of a dollar in a year? It is simply impossible to know. Even more unrealistic, is to claim that ordinary people, investing in e.g. retirement funds in their earlier years should have full information regarding the earnings on various instruments, or when he/she will need to make use of their savings. The individuals are grouping in the dark; we simply don’t know because we can’t know. Risk and Uncertainty – Two Different Terms7 It is not only in regards to the function of macroeconomic systems that there is disagreement between equilibrium economists and uncertainty economists. As a consequence of the theoretical differences there is also an important difference as to how the phenomenon uncertainty is understood. For equilibrium economists, the general equilibrium is the focal point. According to their methodology this ‘optimal and natural state’ can be calculated within their model because, as mentioned, full economic certainty in regards to long-term development is assumed to prevail. Individuals can, for various reasons, make mistakes, but given a large number of independent individuals it is assumed that the random part of their behaviour ‘cancels out’. Then macroeconomic outcomes will be realised with certainty. It is a combination of the equilibrium-oriented economic system, the ‘law of large numbers’ and the precondition that individuals have so-called rational expectations in the sense that they can know the future (the equilibrium solution) with stochastic certainty.

7 The sociologist Ulrich Beck has introduced the term ‘Risk Society’. However, following the way the term is used, a more appropriate term would have been ‘Uncertainty Society’, as the majority of phenomena that Beck describes are characterised, in varying degree, by having an unknown outcome and a (non-existent) probability distribution.


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Uncertainty economists must, according to the nature of the case, perceive the future as at least partially unknowable, especially the distant future.8 This lack of certain knowledge will, of course, not stop the economic actors from forming expectations about what the future will bring. These expectations will, at various levels, be uncertain and prone to mistakes. It does not make any significant difference for the individuals as to whether this information is uncertain or just risky when it comes to the description of individual behaviour of daily life activities. But as will later be discussed, it represents an important difference should one, for example, take out an insurance against this individually ‘unknown’ future. Within the uncertainty-economic perspective on welfare theory, there is a sharp distinction between the terms ‘risks’ and ‘uncertainty’. The nomenclature ‘risk’ is used in events where it is possible to know the entire range of outcomes and the probability for which the outcomes will occur.9 In other words, there is a ‘risk’ (or ‘chance’ in common language) for winning the lotto or rolling a six. ‘Uncertainty’ is contrastingly characterised by a lack of information; partially about the possible outcomes and more important, about the likelihood of their occurrence. Natural catastrophes are characterised by uncertainty. Whereas traffic accidents are of another character; not so much for the individual, whom often speaks of traffic as being uncertain, but the correct term would be risk-filled. This is so, because on the societal level, the number of traffic accidents is significantly predictable. This statistical knowledge means that the admittance of accident victims can be planned by the country’s emergency rooms, just as the costs can be budgeted ahead of time with rather great precision. In common tongue, the terms ‘risk’ and ‘uncertainty’ are often used synonymously, as people do not distinguish between whether a particular event was due to a random occurrence within a given pattern or whether it was a unique occurrence. It is difficult to distinguish between probability and certainty on the individual level. Many individuals would say that the likelihood of throwing a six on the next role is uncertain, but the correct description is that it is improbable. The exact result of a single throw with a die is unknowable, therefore risk is present, but should it be repeated enough times, and if there is independence between the events, then the law of large numbers will ensure that exactly 1/6 of all rolls are sixes. This is because the random elements in the process will cancel out in the long-run, given that the conditions of the dice game go on completely unchanged. But most actions in everyday life cannot be repeated an infinite number of times, and thus risk and uncertainty melt together on the individual level. 8

I will again take the opportunity to repeat Keynes’ most well-known sentence as a reaction to the neoclassical general equilibrium model, that in the long run we are all dead (it is implied that this is the only thing we can really be certain of in the time perspective of these models). 9 The sum of these probabilities should furthermore equal 1.

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Another similarly trivial example of risk is the lottery. It is incredibly improbable (but not uncertain) that an individual player will win after purchasing a ticket; but for the organiser of the lotto, there is no risk. The winnings for the organiser are certain, as determined by the difference between the earnings from the tickets and the pre-announced prizes. As mentioned, the same applies to traffic accidents (reversed sign). They occur (largely) at random, so it is impossible to predict who will ‘win’ a trip to the emergency room, however. As mentioned, traffic victims will arrive in such a number which can be calculated with great precision, assuming that the traffic policy is not drastically changed. The phenomenon of ‘risk’ is consequently connected to events that, following a statistical foundation, are possible to calculate if a large number of individuals independently undertake the same activity. It is the precondition by which insurance companies can operate on a privately owned basis. The reason for establishing life insurance companies for example, is found in the above mentioned relationship. Death occurs (generally) at random and is unpredictable for the individual; however, the average life expectancy for the entire society for a given calendar year is known with great statistical certainty. Insurance companies and retirement funds take advantage of the ‘law of large numbers’. The outcome of the process (dead or not dead) is well-known and the average life expectancy of the population varies very little from year to year. Insurance companies, therefore, are quite certain of the amount that they will have to pay out, but have no forehand knowledge as to who will receive the claims, as that is decided by the ‘lottery of life’. In neoclassical models, the behavioural equations (consumption, investment and production functions) are formulated as if they were based upon a large number of individuals’ behaviour. This is called a micro-foundation of macroeconomic models. In these models, it is assumed that the macro-economic consumers’ and producers’ behaviour are only influenced by risk but not by uncertainty; as the possible events at the macro-level are assumed to be known. In this case the micro-economic uncertainty has no consequences for formulating socio-economic models, where the law of large numbers prevails. The sum of random ‘mistakes’ that actors make will be zero. The macro outcome will then be calculated with statistical certainty, which makes socio-economic planning ostensibly less problematic. When uncertainty is reduced to calculable risk there is no argument within the neoclassical model why the market economy should not be able to provide the demanded credit and insurance services. Private firms (banks and insurance companies) can be organised earning a profit from reducing risk due to the law of big numbers and made efficient by mutual competition. In fact, credit and insurance markets are rarely, if ever, accounted for explicitly in general equilibrium macro models. These transactions are assumed to cancel out due to the law of big numbers making no real effects at the macro level. In the Danish DREAM model there is specified neither a market for money, for credit nor


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for insurance, because these markets have no real impact in this ideal marketeconomy where the future is known with statistical certainty. In conclusion, one can say that due to the very construction of the general equilibrium model and the assumed absence of genuine uncertainty, any welfare state policy financed by taxes or public borrowing will always be valued as inferior compared to the pure market (the bench-mark) solution. In that perspective the welfare state financed by income or consumption taxes is, by definition, considered as an economic burden compared with the free market non-redistributive policy. Unemployment benefits and early retirement schemes are if not purely privately paid for viewed as being a ‘dead weight’ hindering the optimal functioning of the labour market, which reduces employment and, hence, the size of production. When uncertainty is reduced to individually calculable risk and society, furthermore, only consists of individuals who care for themselves, then welfare state policies will be evaluated as second best solutions and appear rather as being political vote-grabbing buying political support from particular groups of society at the expense of overall prosperity. If just one of the conditions behind the law of big numbers is not met, then uncertainty cannot be reduced to statistical risk in socio-economic models. These preconditions are: 1. 2. 3.

4.

All possible outcomes are known. The probability of any outcome is known. The single actor’s transactions are independent of one another: consumers do not influence one another’s behaviour; meaning for example that fashion trends (and other forms of conventional behaviour) and epidemics do not enter in. The single transaction can be repeated an infinite number of times: households can correct mistaken choices, firms do not go bankrupt, and investments can be done over.10

Realistically speaking, it is not possible to know the range and probabilities of outcomes of transactions that will occur, even in the nearest future. And the further these transactions occur into the future, the more it becomes difficult to know even the simplest of elements in the range of outcomes. This is very clear when 10

In technical jargon, these transactions are called ‘ergodic’ meaning that it should be possible to repeat them so many times that the law of large numbers can apply. This procedure of repetition does not apply, for instance, to a firm that goes bankrupt. The British economist G.L.S. Shackle used Napoleon at Waterloo as an example of a non-ergodic decision. Regardless of whether Napoleon had a 90 percent probability for winning the battle, the loss at Waterloo stopped him from being able to repeat his activities. The probability was therefore of no use, as there was only one roll of the dice. Furthermore, there was no rational foundation to determine the probability as there was no precedent to base it upon.

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speaking of pension funds, where the dispositions are long-term. Here it is impossible to know the range of events that could affect the investment. It is a societal fact that the future is unknown. As stated by Popper (1957), it is impossible to foresee new knowledge. Simply by the fact that if something is considered as new one day in the future, then it logically implies that its contents are unknown today, otherwise it could not be called ‘new’. One can surely have political or academic ambitions to free mankind from cancer or other diseases, but who can know, if the researchers will be successful, or even what consequences their research will have for future treatment and/or life expectancy? The entire socio-economic scope of possibilities must be, therefore, seen within scientific theory as being ‘open’; in other words uncertain, not only for the individual but also on a societal level. And even if all possible outcomes were known, it would still be difficult to attach a meaningful probability to any single outcome. As asked before, who can assign a concrete probability to the price of oil next year or even if we still use oil by the year 2050? The director of a pension fund therefore does not get away with only calculating actual risks connected to the payment of retirement benefits. He/she must also administer incoming payments that first become outgoing benefits in 10, 20 or even 30 years from today, in a time when the future development of capital markets are fraught with uncertainty. The wise director will therefore invest in real assets that have an economic lifespan that is equivalent to the liabilities of the fund. Investments in stocks, property and indexed bonds will reduce real uncertainty related to long term investments, but naturally cannot remove it completely. Finally, for statistical laws to apply, the economic dispositions have to be repeatable – one must be able to continue rolling the die; the social process must be, so called, ergodic. Here I will differentiate between the trivial daily transaction, such as household consumption of ordinary goods and services. In this case, there is a significant element of repetition, in that goods, such as milk, are constantly being used. Should one be dissatisfied with a particular brand of milk, it is possible to choose another, and at no great penalty, other than it having made the morning coffee taste bad. Conversely, real, physical investments – much less an appendectomy – cannot be repeated. When an office building, a bridge a power plant has been built, it will stand there, not to be removed or changed to say, a metro-station without considerable expenses. Real investments are often irreversible and will influence the economic development long into the future. It is at least expensive to ‘redo’ a bad investment. A bridge, a highway, a waterfront plastered with indistinguishable cube-like office buildings, will all leave a mark for the rest of their physical existence. Speaking socio-economically, real investments are grounded in ‘brick and mortar’, they are infrastructures, and can only be changed at great expense. It is therefore that decisions involving real investments are not ergodic. Equilibrium (if it even can be realised) must therefore be ‘path dependent’, meaning based on the decisions made today and in the past. Investments should thus be planned in such a way that acknowledges that they are ‘tracks’ that shape a part of the structural framework of the future. A private


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economic calculation is not sufficient in this case; it takes at least five years to substitute a nuclear power station. The electricity company might go bankrupt (at the micro level), but society (the macro level) still needs power. Hence, there is an important difference between micro- and macro-economic calculations and assessments of uncertainty; the private company with limited liabilities can get away with making a poor investment (for instance underestimating the costs of getting rid of the nuclear waste), while the society must pay the price (the storage and clean up of the dangerous waste). Take another case: the profile of the waterfront will not change in the next 30 years, regardless of whether the buildings are renovated to apartments or hotels. From this, one can conclude that the further an investment reaches into the future, the more unquantifiable uncertainty is involved. We do not have the necessary knowledge. It is an illusion to pretend that decisions regarding long-term physical investments can ever be made purely based on a rational calculation.

Credit, Insurance and the Welfare State A well-functioning credit market can be used to distribute individual risk over an entire planning horizon, as can be seen within the mortgage and bond markets among others. The credit market can, however, also be used to bridge incidental swings in income. If a household or firm is hit by a temporary cash flow problem, for example in the case of unemployment or a decline in turnover, then it is possible to take a loan as a substitute or supplement to existing benefits, whereby the accustomed standard of living is somewhat maintained until earnings return to normal. If these events were normally distributed and of a shorter time period, there would be little difference between credit and insurance. An insurance company distributes money to those affected by a concrete event (illness, unemployment, traffic accident, thievery or fire, etc.). If everyone for example experienced a house fire in their life, it would become the insurance companies’ function to administrate the customers’ savings until the point in time at which their house burned down. But in practice, most insurance customers do not experience a house fire and as such never make a claim. The accrued insurance premiums are instead used to compensate the very few people that are affected by and insured against a specific case of ‘bad luck’. However, most private insurance companies try to sort through and rank their user-groups so that those who are more likely to actually make an insurance claim are sorted out or must at least pay a considerably higher premium. This is the so-called adverse selection effect. A physical test is required of potential health insurance customers, before the policy can be drawn up. Should the results be poor, it becomes nearly impossible for the individual to obtain a private insurance policy. Similarly, a higher insurance premium is set for industries that are more prone to accidents at the work place. At the individual level, it is obvious that bad health, work-related accidents and unemployment are rarely

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evenly distributed over all social groups. It is often the weakest groups that have the greatest risks, which from a redistributive point of view, calls for a collective insurance plan as a part of the welfare state. When speaking of incidents that can be characterised by risk, the state would in any case be able to calculate the costs with even greater accuracy than smaller scale private business. Another possibility for lowering premiums for marginalised groups would be to require that insurance companies are not allowed to discriminate on causes of health and gender. Finally there is the possibility that everyone is covered on equal conditions by a national insurance policy that is financed by general taxes on income and consumption.

Uncertainty on the Macro Level and the Welfare State Uncertainty relates to the outcome of individual behaviour, the impact of unforeseeable events and expectations concerning the overall economic development at the macroeconomic level. In the previous sections, the importance of the welfare state in the perspective of reducing individual uncertainty was explained. The other dimension of uncertainty is caused by our lack of knowledge about how the economic system functions at the overall level; what I would call macro-economic uncertainty. The macro-related component of uncertainty is related to the development and activities within the entire macro-economy. Also here, neoclassical equilibrium economists and uncertainty economists often reach fundamentally different conclusions. In the general equilibrium model, there is no macro-economic uncertainty. The long-term equilibrium is known with certainty as determined by the economic structures, based on the assumption of rational expectation on the individual level. Macro-economic uncertainty is hereby an irrelevant term, which founds the idea that the welfare state is equally irrelevant on the macro level. There is no need for stabilisation policies, because the rational individuals and their transactions ensure macro-economic stability. Oppositely, should the politicians intervene, as mentioned earlier, it could easily lead to an inferior situation, because in a selfadjusting macro-economic system, what can politicians do better than the rational economic agents can? This policy implication is that no government bureaucrat can make better decisions regarding resource use that those determined by rational individuals in free markets. ‘Uncertainty’ economists, inspired by Keynes’ General Theory of Employment, Interest, and Money reach a fundamentally different conclusion. As a consequence of the fact that the macroeconomic system is not a priori considered to be selfregulating, the macroeconomic future must be indeterminate, if it is left unsupported. Expectations regarding the future cannot be considered as being unanimously determined by the economic actors. Keynes said in 1923 that as individuals, the only thing we can know for certain is that, ‘in the long-run we’re


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all dead’.11 Aside from that, it is impossible for the individual, the firm, or the government to predict how macro-economic development will take shape in the longer run, with any reasonable degree of certainty. Among other factors, the irreversible investment decisions will, as mentioned above, make macro-economic development path-dependent. This means that any analytical macro-economic model should be open (not deterministic), should it hope to give a relevant description of macro-economic interaction. Still, such a model cannot break the epistemological rule that the macro-economic future is uncertain. It must similarly acknowledge that the more distant the analytical future is, the more uncertain the results of an analysis will become. At this juncture fundamental macro-economic uncertainty arises, which the welfare state’s institutions can help to reduce. Keynes’ macro-economic methodology set itself apart from the neoclassical methodology by emphasising analytical openness. The macro-economic development is not predetermined by an axiomatic equilibrium condition that functions as a long-term centre of gravity. In contrast, Keynes’ assessment was: It seems to me that economics is a branch of logic, a way of thinking; and that you (Roy Harrod, jj) do not repel sufficiently firm attempts … to turn it into a pseudo-natural-science … Progress in economics consists almost entirely in a progressive improvement in the choice of model. The grave fault of the later classical school, exemplified by Pigou, has been to overwork a too-simple or out of date model. Economics is a science of thinking in terms of models joined to the art of choosing models which are relevant to the contemporary world. (From two letters to Roy Harrod commenting upon his presidential address ‘Scope and Method of Economics’ in July 1938, CWK:XIV, pp. 296–7 and 300 (Keynes, 1973)).

In regards to the welfare state, this new theoretical insight gave a much better description of how modern industrial society often experienced high and constant levels of unemployment. Finally (in 1936), Keynes gave a methodological based explanation of, why market forces let alone could not ensure ‘full employment’. Unemployment was similarly not necessarily the result of an overly ‘high and inflexible’ real wage, but rather caused by a lack of demand which could be traced back to individual behaviour towards uncertainty: There is, therefore, no ground for the belief that a flexible wage policy is capable of maintaining a state of continuous full-employment … The economic system cannot be made self-adjusting along these lines. (GT, p. 267 (Keynes, 1973)).

11

This of course, does not apply to the society, which is an important clarification, especially in the case of sustainable development as I have discussed in more depth in Jespersen (2004).

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This analytical result was a groundbreaking acknowledgement that, in combination with the Beveridge report in 1944, established a totally new understanding of the welfare state’s macroeconomic foundation and potential; and certainly a codetermining factor for the establishment of the ‘post-war’ welfare state policies. Concerning macro-economic uncertainty, the vital question is: How can the socio-economic structure be strengthened against exogenous shocks in such a way that ‘fear of unemployment’ does not make people overly precautious? Of course macro-economic policy is instrumental in this case, but its effectiveness is dependant upon the political systems ability (and will) to stop rising unemployment. In light of this perspective, the implementation of automatic macro-economic stabilisers would often be instrumental. Here the institutions of the welfare state play an essential role. It is well-known that unemployment benefits, as well as taxation have direct influence over the development of effective demand. Should the economy be hit with a demand shock that increases unemployment, an automatic stabiliser on the public budget could then be activated. This would dampen the real economic swing, which in general will reduce uncertainty. On the other hand, the budget becomes more sensitive to business cycle fluctuations, which sows the seeds of political uncertainty. The close link between unemployment and the public budget is not fully understood, which has amongst other things, has resulted in a very resent redraft of the EU stability pact, in light of France and Germany’s inability to make full use of their automatic stabilisers during their current bout of high unemployment. This is just one example of the crucial inter-linkage of uncertainty and the welfare state, which can be summarised in brief, by yet another quote from Keynes: Look after employment, then the budget will look after itself.

Conclusion: The Welfare State in Perspective of Uncertainty The welfare state has two key functions in a modern society: 1. 2.

Improving the functioning of the market economic system through reducing micro- and macro-economic uncertainty. Redistributing the ability to consume.

On the methodological implications of uncertainty macro-economists are divided into two camps. On the one hand we find the equilibrium economists, who analyse macro-economic development under the assumption that the market-economy is self-adjusting and that the future is known by (stochastic) certainty. On the other hand we have post-Keynesian economists who consider uncertainty (lack of knowledge) about the future and about macro-economic relations as analytically so


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important that no relevant model can disregard that phenomenon. These two groups of economists reach decisively different results when answering the question of, what are the impact of the welfare state in a macro-economic and distributional perspectives? Equilibrium economists deploy general equilibrium models, where actors are assumed to make (rational) expectations based on full information, as a relevant framework. By that assumption they analytically change micro-economic uncertainty into statistically calculable risk. Under the precondition that the law of big numbers is applicable to the micro-economic foundation of the general equilibrium macromodel the outcome become deterministic. Furthermore, a general market clearing mechanism is a priori assumed to secure that fullemployment and macro-economic stability is achieved. This means that within this perfect model, there is ‘no rationality’ for public welfare institutions, such as compulsory unemployment and sickness insurance or old age pension, to improve the outcome of the market-system. Every rational individual can, in this model, independently optimise his or her private economic situation with the use of perfect functioning credit markets and competing insurance companies. Within this general equilibrium framework any welfare initiatives become purely redistributive, which disrupt the Pareto efficient outcome by changing the relative prices and causing a ‘dead weight’ loss of economic efficiency. The welfare state’s intervention is, therefore, economically unjustifiable; leading to the well-known neoclassical conclusion that there is a basic political trade-off between distribution and economic efficiency. A conclusion that is based on a number of restrictive assumptions, of which, I, in this article, have emphasised the reduction of uncertainty to statistically calculable risk. In sharp contrast, the post-Keynesian economists maintain that genuine uncertainty, neither ontological nor analytical, can be reduced to (stochastic) risk. The general equilibrium model gives an incorrect interpretation of the reality surrounding the daily lives of individuals. They cannot know the future and their mistakes do not ‘cancel out’. Each person can, therefore, realise a higher state of welfare when individual uncertainty is reduced through increased macro-economic stability and, above all, the establishment of collective insurance schemes. Reduced individual uncertainty can even increase market flexibility in that errors that do not ‘cancel out’ are less uncertain, when a social security net is established (as there is less personal cost connected with the error or misfortune). According to post-Keynesian methodology macro-economic uncertainty ought to be analysed within a framework of an open and path-dependent model wherein supply, demand and institutional relationships currently interact. No exact calculation of the future development can be derived; but the model might support the understanding of how the macro-economic system unfolds in the future, and how the implemented welfare institutions influence the functioning of the macroeconomic system. It has been demonstrated how for instance automatic budget stabilisers, in this framework as contrary to the GE-model, play an essential role with respect to the reduction of macro-economic uncertainty. Furthermore, both the

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government and the central bank have the ability to practice an active roll in reducing the impact of supply and demand shocks. Thus, economic analyses which acknowledge the importance of uncertainty as different from calculable risk might give a much more nuanced assessment. This difference in methodology also helps to explain why welfare state institutions in some cases receive a much more positive evaluation when they are referred to the real world in stead of the hypothetical laboratory of general equilibrium economics.

Chapter 6

Inequality and Unemployment: Reflections on Theory and on Europe James K. Galbraith1

Introduction The problem of unemployment in Europe is vexed by a theory-driven predisposition to blame it on defects of labor market structure – ‘rigidities’ – and then to go out in search of the particular rigidities that are to blame. This has been a wild goose chase, as Baker, Glyn, Howell and Schmitt (2004) have documented with care. Indeed, these authors find that the entire power of institutional explanations for unemployment differences across Europe rests on the fact that centralised collective bargaining and union density are associated with less – not more – unemployment. Apart from that, institutional effects remain elusive. A key consideration of this chapter concerns whether workers have the option of self-employment, whether in agriculture or services, in the formal or cash economy. If they do, then the rigidities framework runs into trouble. Workers may be ‘choosing’ unemployment over other options that exist, but that reflect their (low) productivity when unassisted by capital – that is, when they are unable to use the machines that would be available to them on the factory floor. The conditions under which they make this ‘choice’ are then of interest, and may possibly reveal control variables with unexpected potential to affect unemployment. Inequality, it turns out, is such a variable, and its influence runs opposite to the predictions of the rigidities view.

1

I thank Ken Flamm and Sandy Darity for very insightful comments in conversation and on the draft, and Enrique Garcilazo for meticulous work with complicated European data. Related work on the measurement of inequality may be found on the web-site of the University of Texas Inequality Project at: http://utip.gov.utexas.edu. This chapter was prepared originally for the Cambridge Realist Workshop.

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Voluntary and Involuntary Unemployment: A Brief Review In the textbook theory of labour markets unemployment is voluntary. Workers may leave their jobs to look for another. They may refuse to work at the prevailing wage, while looking for better work. Or they may find that some larger social power – the government, or a cartel of trade unions – has set the prevailing wage too high to justify their employment. In the first two instances unemployment is a matter of personal choice. In the third, it is a matter of social choice. The first type is ‘frictional’ unemployment. Unemployment of this type is generally supposed to remain at stable background levels for the society as a whole, but to resolve itself for the large majority of individual workers after a short time. The background levels reflect the efficiency of job search mechanisms and other institutions, which may possibly be improved by structural or technological reforms. But the case for such improvements is not usually considered urgent, and a failure to implement them does not make frictional unemployment involuntary. Most workers who decline to work at the prevailing wage are simply nonparticipants in the labour force. But if such a worker actively searches for employment, holding out hope for a higher market wage than productivity would justify – or pretends to do so in order to qualify for an unemployment benefit – she may be counted as unemployed under the standard American definition. In other national systems, an appropriately qualified worker who has left or lost a job (or seen a contract expire) may register for unemployment insurance or other labour market benefits, and in this way qualify to be counted as unemployed. This type of unemployment presupposes that the worker seeking work could find work at a lower wage. He need only be willing to acknowledge the realities of his market value. That he does not do so is hardly anyone else’s fault. One may sympathize with employers under these conditions, as they cannot attract all the workers they might like at a wage low enough to make the employment of those workers profitable to the firm. But it makes little sense to shed tears over the workers, still less to direct policy toward finding them jobs at the wages they would prefer. In a market system one is not entitled to cause one’s employer a loss. A more generous system of unemployment insurance (UI) benefits will increase the volume of unemployment of this type. UI subsidises leisure and encourages workers to hold out for a higher wage. If workers could work at the prevailing wage, then a reduction in the subsidy to leisure is a sufficient condition for a reduction in unemployment. But if, on the other hand, jobs are not actually available at that wage, reducing UI merely reduces the disposable income of the unemployed. Since in the real world jobs rarely go begging for workers, the practical importance of this second type of ‘voluntary’ unemployment is probably not very large. The most troublesome form of textbook unemployment occurs when workers actually desire to work at the prevailing real wage, but employers do not believe them to be sufficiently productive to justify that wage, and the normal market response, namely the bidding down of wages to an equilibrium level, is blocked by

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some barrier in the labour market. Minimum wage laws and trade union contracts are standard examples of rigidities thought capable of producing this effect. In this case, jobs are not on offer. Supply of labour flatly exceeds the demand. The individual worker cannot find work even though he may be willing to work for less. He may feel frustrated and unhappy. But a ‘correct’ theoretical statement still holds his unemployment to be voluntary. The workers as a whole could have chosen other social arrangements. In this case, the unemployed have no one to blame but their comrades. The General Theory of Employment Interest and Money took aim at this third case and sought to destroy it. John Maynard Keynes – writing at a time when unemployment insurance was minimal – would not have considered the second possibility worth bothering about. Nor was he much interested in the first, since frictions could not account for unemployment on a mass scale. But the claim that workers could, in principle, cure unemployment by accepting a reduction in their wage rates underpinned the classical response to the Great Depression. To rebut it was essential before any alternative policy against unemployment could be considered. Keynes pointed out that since the theory posited a labour market which cleared in real terms (the real wage being defined as the ratio of money wages to the price level), it should be possible to reduce real wages equivalently either by reducing money wages or by increasing the money price of wage goods. The first case could be blocked by collective action: workers will generally strike against wage cuts. But the second could not be blocked: workers would not react to a little wagegoods inflation. Therefore, so long as the authorities retained some influence over the price level for wage goods, it would not be difficult under the standard assumptions to fool the workers a little bit, reduce real wages with a bit of inflation – and cure mass unemployment in this way. Workers’ acceptance of money wage cuts was not essential, and their resistance to them was not decisive. In effect, this was a way to increase aggregate employment without asking for the consent of the employees. Keynes’ second argument rested on the fact that any cut in money wages would likely result in a fall in money prices. The effect of falling prices would be obviate the cut in money wages on real wages. Thus, Keynes argued that workers not only did not but also could not make a wage bargain in real terms. Instead, he argued that workers merely accept the aggregate volume of employment offered by employers at a given, conventionally fixed structure of money wages. Under many circumstances, the total volume of employment could be increased by inducing employers to offer more jobs at the same money-wage structure – through an increase in aggregate effective demand for output. And if that were so, Keynes argued, then the previous unemployment would have to be considered involuntary. The formal definition of involuntary unemployment boils down to the existence of practical scope for an expansion of effective demand to produce a higher equilibrium rate of employment.

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Ever since Keynes, policymakers have responded to unemployment as if they believed in the possibility of involuntary unemployment. They may, for instance, cut interest rates or income taxation in order to induce consumers to spend and businesses to invest. But at the level of discourse this common practice is generally overlooked, and especially in Europe. In the journals and in the media, not to mention in the advice offered by institutes of ‘wise men’ to governments, unemployment is almost always linked to the flexibility of labour markets, a euphemism for the ability to cut wages, benefits, and job protections. Exhortations to ‘reform’ labour markets are routinely announced, and just as routinely judged insufficient, which excuses the fact that nothing happens. Thus the concepts of voluntary and involuntary unemployment coexist in public debate – the former mainly as a guide to virtue, the latter mainly as a guide to action. The more rigorous theoretical economists of the neoclassical school nowadays have meanwhile rejected Keynes. They are much concerned to airbrush macroeconomic activism from the pages of history. Robert Lucas’s 2003 presidential address to the American Economic Association is in this vein. For these theorists, only more flexibility can reduce unemployment. It is not wholly clear how such thinkers reconcile their views with Keynes’s assault on a real-wage clearing labour market, since they rarely display awareness of the actual content of his critique.2 There is no influential school of economists who argue against more flexible labour markets. Rather, the rump who hold quasi-Keynesian views (for instance, via the doctrine of ‘efficiency wages’) tend to favour both expansive demand policy and some measure of ‘labour market reform’. The former is to be pursued especially when the latter is, for various reasons, impractical. These economists thus face both ways: left toward budget deficits and low interest rates when necessary, and right toward ‘reforms’ aimed at rolling back the welfare state. Now, the textbook labour market view of unemployment is plainly wrong. Keynes’s own critique of that view, resting on the fact that wages are set in money but not in real terms, remains valid as it was when he wrote it. On the other hand, I shall argue below, the quasi-Keynesian position described above is actually selfcontradictory. If increasing labour market flexibility means lowering wages for low-productivity jobs, which it invariably does, the general effect will be to increase rather than reduce unemployment. The reasons will be discussed below. This suggests that the correct position is one almost nobody takes. And this is that increasing wage flexibility has nothing to do with reducing unemployment. Equality helps employment and inequality hurts it. Moreover, appropriate measures to expand the demand for labour by increasing spending also make labour markets more, rather than less, egalitarian. They reduce the wage flexibility so prized by commentators from the neoclassical school. Furthermore, measures

2

Of course these thinkers do espouse a quantity-of-money theory of the price level in principle, though how to operationalise that viewpoint in these post-monetarist days is a mystery.


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that reduce (social, real-wage) inequalities per se will also tend to reduce unemployment – even if they do not much expand aggregate effective demand.3 In this sense, all significant forms of unemployment are subject to policy control and so are involuntary in Keynes’s meaning. And yet, there is another sense, in which the condition of unemployment is also rationally chosen, by individual workers. The alternative to good employment is not only unemployment. It is also bad employment – perhaps in some other place, in some other occupation, with a lower social wage. The differences matter. People choose unemployment if it provides at least some chance of jumping the gap to a betterpaid job. Some will take the chance and others will not – that is the choice. The greater the gap that may be jumped, the more tempting it is to take the risk and the higher the overall unemployment. It is not just that full employment produces equality. It is also that inequality produces unemployment. And if that is so, one has to consider carefully just where the poles of reference are located. For the further one looks in any direction across Europe, the greater the inequality that one observes. It follows that the more Europe integrates, the greater the problem of unemployment will become, unless drastic measures to reduce inequality are undertaken.

Rethinking Flexibility Why do people become unemployed? The phenomenon did not exist in preindustrial society. Unemployment-as-we-know it emerged with the industrial revolution, took its definition from American statistical practices in the late nineteenth century and became a mass phenomenon – worthy for the first time of concentrated attention from economists – in the Great Depression of the 1930s. Why? It makes no sense to point to the creation of unemployment insurance and similar welfare-state institutions as a cause for the rise of unemployment. Unemployment insurance was not invented before unemployment. Equally clearly, the standard supply-and-demand diagram, with wages set above the market-clearing levels, cannot account for the emergence of unemployment in the industrial age. Real factory wages in the nineteenth century were not protected by minimum wage laws or trade unions. Real wages, as any reader of Marx will have no trouble believing, were low. Moreover, workers had other options. They could return to, or stay on, the farm. If they had migrated from Europe to the slums of New York, they could still move on, after a short time, to the American heartland or the West. Yet in many cases they did not. Instead they formed up, more or less willingly under the circumstances, into the ‘reserve army 3

A familiar argument holds that redistribution from higher to lower incomes raises the propensity to consume, but this is arguably a weak effect and not the case being made here.

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of the unemployed’. And that army existed, moreover, even though industrial production grew rapidly, even though the time was not one of depression and stagnation in output and demand. So we have today a theory of unemployment that cannot account for the emergence of the phenomenon in the first place. And we have a neo-Keynesian alternative, based on deficiencies of aggregate demand and the non-clearing properties of labour markets, that equally overlooks, for the most part, the flow of workers into and out of the industrial workforce. The neo-Keynesian theory is concerned, mainly, with the unemployment of workers who, at the outset, are already irrevocably committed to industrial life. A satisfactory theory of unemployment, on the other hand, must deal with a world in which the options of organised and of informal employment both exist. It must be valid for the developing and also for the post-industrial world. Indeed, let me argue that it is only when both types of employment are recognised explicitly that one can make sense of the phenomenon of unemployment. This is particularly true when one considers the relationship between unemployment and pay. The textbook view has implications for relative wage rates. Since the workers most likely to face unemployment in this model are those least productive, it follows that wages for the least productive workers should be made to fall, in order to restore equilibrium and give each worker a job commensurate with his or her skills. This can only lead to a greater inequality in wages than existed previously. The calls heard in Europe for ‘increased flexibility’ are calls for increased pay inequalities, as a direct route toward full employment equilibrium. And yet, it is almost always possible in principle for an unproductive worker to let his wages fall. Out-of-work academics know this very well: they become consultants. Ex-graduate students can wait tables. Former farm boys can – in the most extreme cases – go back to the farm. More generally they can work off the books, mowing lawns and weeding gardens. If they do not do so (and many do not), it may be because such inferior jobs stand in the way of one’s chances of finding better work. At any rate, dropping wages in the more formal sectors to the levels of the informal sector cannot be a solution, except insofar as it discourages people from leaving the informal sector. If productivity is determined by the capital stock (human and physical) available to workers, then cutting wages only amounts to a transfer of the surplus from infra-marginal workers in the high-wage sectors to their employers. Moreover, ample evidence suggests that the actual relationship between inequality and unemployment in the formal sectors is the opposite of what the textbook model suggests. In periods of high unemployment inequality in pay structures increases, and in periods of full employment pay inequality declines. In the case of the United States, a consistent measure of manufacturing pay inequalities on a monthly basis back to 1947 tracks the monthly record of unemployment so closely that the two series would appear to be drawn from the same statistical distribution. Whatever else one may say about this, it is not consistent with a wage-adjusting view of vicissitudes of unemployment.


Figure 6.1

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Manufacturing Pay Inequality across Industries and Unemployment in the United States, 1947–2000, Monthly

Figure 6.1 illustrates this finding for the case of the United States. The measure of pay inequality is the between-groups component of Theil’s T statistic computed across 17 industrial categories in the United States for which consistent monthly data are available from January 1947 to the present.4 The variable observed is average weekly earnings in the category. The association with the monthly unemployment rate for the country is far too close to be coincidental, as an examination of the quantile–quantile scatterplot (Figure 6.2) makes clear. Only when unemployment rates are very high do pay inequalities not rise and fall pari passu with unemployment, and this is a condition that has never lasted very long in the post war United States.

4

Similar though less distinct patterns can be found in broader measures of pay encompassing the services sector, but computational difficulties are greater.

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Figure 6.2


A Quantile–Quantile Scatterplot of Unemployment and Manufacturing Pay Inequality in the United States, 1948–2000, Monthly

The evidence of a positive relationship between pay inequalities and unemployment would appear to be equally bad news for the neo-Keynesian effort to claim a role for labour market policy as an auxiliary to increasing demand. A hallmark of the neo-Keynesian effort is a strict separation between questions of distribution – which are reserved to micro – and questions of total effective demand. Only the latter remain within the macroeconomist’s province. An increase in labour market flexibility and wage inequality (in the face of ‘skill-biased technological change’) is, to this point of view, a micro measure that should improve employment prospects. Accordingly there should be evidence that increasing inequalities lead to higher employment. But there isn’t. The finding that full employment is systematically egalitarian in distributive effect controverts the thesis. It certainly undermines the notion that increased inequality is necessary for the achievement of full employment.


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A More General Theory of Unemployment Suppose we find ourselves in a pre-industrial society. A highly egalitarian peasant agriculture prevails (presupposing an abundance of free land), and there is no welfare state (imagine the late eighteenth century United States, outside the South). Each worker will then live according to his or her abilities and the fortunes of the soil. No one will leave their employment, except to search, very purposefully, for better land. In this egalitarian state, unemployment will for practical purposes not exist. Now suppose we find ourselves in a workers’ paradise of industrial socialism. Once again conditions are egalitarian, not because of an abundance of land but because of the philosophy of those with state power. Education, health care, child care and housing are likewise provided for free. Workers all have jobs if they want them. Part of the reason for this – lax management, lack of a profit motive, and over manning on the factory floor – is well known. But the other part is that workers so employed have no incentive to leave their present employment and look for better work (except by emigrating). They cannot improve their economic circumstances materially by trying to change their jobs. So why do it? In consequence, as in the first case, unemployment will not exist. It is evidently the intermediate cases that cause the trouble. A half century ago Simon Kuznets argued that inequality would rise in the early stages of economic development and transition to industrial growth. The reasons were not abstract. New urban centres were places of concentrated income and wealth. It was the differential between incomes in these places and those in the countryside that would become significant as cities grew, and only decline later as the proportion of the population remaining in the countryside shrank. Such was not the entirety of the theory behind Kuznets’ famous inverted-U relationship between income and inequality, but it was surely the most significant single factor. In 1970 John Harris and Michael Todaro offered a model that captured these characteristics, in a neoclassical paper aimed mainly at development economists (Harris and Todaro, 1970). In this model, workers migrate from a low-marginalproduct rural sector to cities where minimum wages are imposed, and accept a high probability of sustained unemployment in exchange for a low probability of getting one of those jobs and enjoying the resulting rise in income. The equilibrium condition is that the expected value of the gain be just equal to the cost incurred in leaving rural employment – and this condition entails substantial equilibrium unemployment. From this, a positive monotonic relationship between inequality and unemployment emerges. As development starts, the riches of the city become magnets for the rural poor. No one on the farm can find an urban industrial job without physically pulling up stakes and heading to the city to look. This everyone with initiative does – and particularly if a shock to farm incomes suddenly makes the inequalities even worse.

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But the number of jobs cannot keep up with the number of job seekers. And so, no matter how rapidly cities grow, mass unemployment is inevitable for a time. It will only end when the rural population is absorbed, or else if that population quits the country. It can only be contained (as in modern China) by a pass system regulating who may live in the cities. And it can only be regulated, effectively, by measures that provide strong incentives to stay out in the countryside or in the smaller cities and towns (social security systems, which provide common money incomes to retirees and therefore higher real incomes to those living where staples are cheap, are an example of such an incentive). But while Harris and Todaro were focused on East Africa, their argument is also reasonably valid for post-agricultural societies. Such societies have an elite of knowledge and finance workers, a core of manufacturing workers, and a large reservoir of workers in the services. The knowledge and finance workers live off the fat of the land; access to those jobs is restricted by cartels and credentialing. The same is not true for manufacturing workers, who nevertheless enjoy wage premia in part due to ability to mine the profit positions of the firms they work for (this is known as industry specific labour rent). Services workers enjoy no such advantages, and their pay is largely set by the social minimums of the welfare state. They are like the earlier generation of farm workers in most relevant economic respects, and they may be considered a ‘reserve army of the underemployed’. So long as the differential between service wages and manufacturing wages are fairly small, or if it is possible to search for better jobs while working and with minimal cost, services workers may not abandon current employment to seek for better. Still, if the situation becomes sufficiently desperate, they will do so. In that case, measured unemployment will rise; the previous underemployment will come out in the open. The choice facing for younger workers is especially harsh, since a worker who once enters the services sector may be ‘typed’ as low-productivity. Such a worker cannot make the transition later so easily as a worker who has never been employed at all. For this reason, young people have an incentive to resist taking bad employment for as long as possible. Youth unemployment in unequal societies should be expected to be an especially serious problem. Conversely, unemployment overall will be worse, other things equal, in societies with a younger population structure. From the standpoint of the individual worker, the decision to risk unemployment will depend on two parameters: the difference between current income and the hoped-for improvement, and the probability of attaining that improvement. The former can be measured by the inequality of wages. The greater existing inequality, the greater the potential rewards. The latter depends in part on the rate at which new higher-wage employments are being offered. Thus the worst case for unemployment will be in an unequal society experiencing the early phases of a boom or otherwise hopeful moment; Spain in the 1970s comes to mind. Growth over time absorbs the unemployed, but if growth accelerates and then fails, a higher long-term rate of unemployment can result. The ‘best’ case for


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unemployment may be in a slow-growth society as a long period of equalising expansion comes to an end. Here the United States in early 2000 offers a compelling example. In this construction, to repeat, pay inequality causes unemployment. Unequal societies should have more unemployment than egalitarian societies. Barriers of mobility across regions will condition how far workers are willing to go to look, and where the unemployment is actually found. Thus, in the relatively unified United States, with a single federal unemployment insurance system, one would expect the highest unemployment in or about the richest places. In Europe, where welfare states remain national and the loss from moving across national frontiers is relatively high, one might expect the unemployed of (say) Spain to congregate in Spain. Older workers are more mobile than younger ones, and so if there is a relationship between provincial inequality and provincial unemployment, it should be most conspicuous for younger workers. Is unemployment so modelled voluntary or involuntary? In this theory, the distinction has lost its meaning, for it is purely a matter of perspective. From the standpoint of the individual worker, there is always a choice, to risk unemployment or not to risk it. In this sense, unemployment is voluntary. But at the same time, from the larger standpoint of the society, the aggregate volume of unemployment is endogenous. And at least one critical variable – the inequality of the wage structure – is subject to policy control. Since unemployment can be reduced by policy, without changing the underlying preferences of the workforce, then by Keynes’s definition it is involuntary, in spite of having been individually chosen. In this model, then, unemployment is a positive function of: 1. 2. 3.

Inequality in the structure of pay. The immediate growth rate of higher-wage employments (not necessarily that of the economy overall). The proportion of the population below a certain age.

One may imagine adding to this a variable 4. for that part of the youth population who are held off the labour market altogether by keeping them in college, military service, or even prison. Any of these ‘holding pens’ may ease the problem of longterm unemployment. The first two achieve this by allowing young people to remain off the labour market, without stigma, until they can find suitable employment. The third does so by removing hope for any but the most menial employments following release from detention.

Inequality of What and Over What? Reflections on Europe Some readers will by now be objecting, even violently, to the argument made above, on the common-sense ground that ‘everyone knows’ that American society is grotesquely unequal, while Europeans retain values of solidarity which impart

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rigidities to their wages. So how can this argument possibly reconcile low unemployment in the United States with high unemployment rates in Europe? Part of the answer is that the relevant inequalities are of wages: the reward for work. They do not include inequalities of other forms of income, including income from property and capital, nor are they appropriately reflected in measures of unequal consumption. The American case is contaminated by a very wide range of highly unequal non-wage incomes. Moreover, those inequalities grew dramatically in the late 1990s in particular, in function of the speculative bubble at that time. Capital gains were intensely concentrated by industry and location. Pay, however, is different, as we have already seen. Inequalities in industrial pay measured across sectors in the United States are not materially higher than in, say, Spain or Italy. They are comparable to the upper end of the national European range. And when one takes account of the large differentials between European country averages, inter-sectoral industrial pay inequalities are actually larger in Europe than in the United States.5 Figure 6.3 illustrates, using measures of pay inequality drawn from the OECD’s Structural Analysis data set.

Figure 6.3 European Pay Inequality in Manufacturing, Within and Between Countries, Compared to Average Level for the United States (arrow) 5

It may be that hourly pay inequalities within industries in the US are larger than in Europe, a fact that would somewhat blunt the inter-sectoral comparison. But apart from the well-known abuses of executive pay in the United States it is not obvious that this is the case. Our experience with common category structures in these comparisons is generally that the same order of difference prevails within and between industries. Another possible reason why US unemployment fell so far below European levels, however, may lie in superior search mechanisms in the language-unified and computerised States. It may be considerably easier for low-wage services workers in the US to search for better jobs without actually leaving their current ones than in Europe. To the extent that this is true, the US service sector may be sheltering large numbers of underemployed people who would be openly unemployed in Europe.


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This brings up a point of method, often overlooked, which is of central importance to the problem of unemployment in today’s Europe. So far, we have argued that inequality of wage rates helps to govern the rate of unemployment. But, inequality over what range? The town? The province? The country? Or Europe as a whole? And if the latter, what is Europe, exactly? What is the effect of expanding the sphere of European economic integration on the inequalities experienced and perceived by Europeans? The importance of this question stems from the fact that Europe experiences different levels of inequality at different levels of geographic aggregation. In many parts of the continent, local or national inequality is low. Scandinavians and Germans take pride in economic equality, and with reason. However, wage differentials between European countries are high. Average income in Spain is only about 60 percent of that in Germany – comparable to the average differential between American blacks and whites. It follows that making a correct prediction of the unemployment rate expected from any given level of inequality depends critically on drawing analytical boundaries in an economically and socially relevant way. In principle, it is necessary to gauge inequality across the geographic and political range of individuals. And this problem is complicated by the fact that different groups may experience, at a given moment in time, different geographic (as well as occupational) horizons. Conceição, Ferreira and Galbraith (1999) showed that there was an uncanny negative correlation, on the order of -0.8, dating from the late 1970s to the early 1990s (when the collapse of Eastern markets upset it) between GDP per capita of European countries and their rates of unemployment. If every country were clearing an internal labour market independently of the others, this relationship could not exist. But it does. Indeed the relationship was highly systematic, excepting only those nations (Portugal, notably) that solve unemployment mainly by exporting their unemployed. In this sense Spain is no longer an independent labour market but a province of Greater Europe. The unemployed in Spain are not the unemployed merely of Spain, but the unemployed of all Europe. They are not only the low-wage workers seeking to escape the Spanish countryside for Madrid or Barcelona, but also the low-wage workers who cannot find jobs across the vast pay differentials separating Spain from Germany. Today they may live in Spain until word comes of prospects elsewhere, or because perceived barriers to international mobility still exist. If you have to be unemployed, better do it near home. But if convergence continues to stall, if international inequalities are not reduced, a new wave of emigration from the peripheries of Europe is inevitable sooner or later. Conceição, Ferreira and Galbraith also found that in general European countries with less inequality have less unemployment. This suggests that for a substantial part of the employable population, national frontiers remain the relevant ones. An interesting test of this view came with German reunification. Both parts of Germany were highly egalitarian internally before 1989 and neither suffered especially high unemployment by European standards. But the difference between

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average levels East and West is so large, that unification created an unequal country, with no internal barriers to migration. The model predicts that the equilibrium unemployment rate would rise on this account alone. And, sadly, it did. Figure 6.3, taken from Conceição, Ferreira and Galbraith (C-F-G), shows inequality in manufacturing pay, measured across sectors within and between European countries, and compared to the United States. It shows that while the within-countries component of pay inequality in Europe is comparable to that in the United States, adding in the between-countries component radically worsens the European position in the comparison. It is not obvious – looking only at manufacturing pay – the United States is the more inegalitarian region. Now come Galbraith and Garcilazo (2004) with nearly comprehensive measures of pay inequality measured across broad economic sectors at the level of European provinces – some 157 provincial entities over 15 years. Figure 6.4 uses this data to focus attention on the younger cohort of Europeans. This is a group that is much less likely to have moved away from home at the time their unemployment is observed. It is apparent that youth unemployment is consistently and strongly positively related to pay inequalities at the provincial level. The difference in more recent years is that the problems of inequality and of youth unemployment are getting worse. The finding is, at least, consistent with the idea that young people resist taking low-wage jobs pari-passu with the loss associated with giving up hope for a better job.6

6 Further empirical work is forthcoming. One the basis of calculations so far we expect it to show that provincial-level inequality is positively associated with unemployment for all population groups in Europe (male, female, older and younger) but that the relationship is stronger for the less mobile groups.


European Inequality and Youth Unemployment by Year, 1983–1997, by Province

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Figure 6.4

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In sum, both national and provincial measures of inequality support an augmented version of the Harris-Todaro view that unemployment depends on the expected value of the gain from accepting a ticket to search for higher wages. It is equally consistent with the C-F-G view of social democratic anti-unemployment policy, which is that the wealthy countries avoid unemployment most effectively, not by liberalising their labour markets, but by subsidising low-productivity workers to stay in their jobs. As C-F-G argued, the efficiency gains from this strategy can be astonishingly large, propelling a country with mediocre productivity such as Denmark into the forefront of the world competition for a high standard of living.

Implications for Unemployment Policy in Europe The implications of this model for the design of unemployment policy are straightforward. Anything that will reduce the inequality of European wages will help reduce chronic unemployment among Europeans. So will targeted measures that provide pre-labour market opportunities for European youth, enabling them to time their entry into paid employment so as to escape being tarred as long-term unemployed. Places in university help achieve this very nicely. Of course, efforts to force money wage cuts on the ‘aristocracy of labour’ do have the effect of increasing pay equality, in principle. And so, measures targeted at cutbacks among the highest-wage (but also, because most effectively assisted by capital, highest productivity) workers could be fitted under this framework. But the same effect can be achieved, if this hypothesis is correct, by raising the relative pay of those at or near the bottom of the distribution. And while the former step is divisive, the latter is generally considered to be progressive. However, are these inter-sectoral differences within, say, the German labour market truly the most significant in Europe? The very substantial inequalities that exist between the countries of Europe suggest they are not. And raising minimum wages in Germany does nothing to relieve the difference separating average wage levels in Germany from those of Spain. Therefore, we must be equally – or perhaps even more – concerned, by the between-country component of economic inequality in today’s Europe. In the short run measures that increase economic growth of the poorer countries of Europe may actually increase measured unemployment. Higher growth may raise optimism among the poorly employed, drawing a larger number of them into open unemployment (a gold rush). But this can only be a temporary effect. Over any substantial time horizon, aggregate income convergence is essential to reduce between-country inequalities, the incentive to migrate, and so unemployment. It follows that an expansionary macro-economic policy with directed measures to raise overall growth rates absolutely and relative growth rates in the poorer countries of Europe remains probably the single most powerful medium-term measure for the reduction of European unemployment. The difficulty with this goal is only that no one really knows how to achieve it. The traditional macro-economic


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policy instruments are now reduced in Europe to a single measure: a lower interest rate. There is no very practical way to target this policy to the European periphery, and no guarantee that – if it works at all – it will in fact foment aggregate income convergence. If macro-economic stimulus helps the rich countries of Europe more than the poor, producing a bubble, unemployment could rise. The more practical steps to reduce inequalities within Europe are therefore – so the present theory predicts – precisely those redistributional measures most despised by common discourse. The European Union has left social welfare policies entirely to member states, and the inequalities in their economic positions are perpetuated by this decision. The United States began the process – still far from complete – of federalising the welfare state in the 1930s. As economic integration now encompasses all of Europe, the European Union needs to follow that earlier example of American progress. More social democracy, and a more unified social democracy, is the answer to European unemployment. One useful, practical step, entirely consonant with economic justice, would be the creation of a European Pension Union, to move toward convergence in the base incomes of the elderly. There is no just reason, in a unified Europe, why the retired elderly of the poor countries should be paid on the income standard of their own nation, and suffer the indignity of poverty in old age compared to fellow Europeans who worked no harder than themselves. Minimum pensions should be set on a standard governed by the average productivity of Europe as a whole, and the differentials paid directly to individuals by direct transfer through the European Union. In a similar vein, there is no just reason why unskilled pay differentials across Europe should be allowed to remain as large as they are. The street sweepers and news vendors of Portugal are not less productive than those of Germany (except by virtue of inferior capital equipment). The European Union could inaugurate a ‘topping up’ scheme for low wage employees in the poor countries and regions, along the lines of the American Earned Income Tax Credit. This too would slow economic dislocation and reduce the incentive to unemployment. The economic burden of these measures needs to be understood carefully. It need not be, as many suppose, a matter of taxing Germans to support Portuguese. Rather, as there exist unemployed human capital assets in Portugal, the appropriate step is to create a liability that will permit employment of the assets. A pension supplement scheme, placing purchasing power in the hands of the elderly in Portugal, will mobilise latent resources in Portugal. It has no other important economic effects. There is no need to tax the Germans to do this. A euro deficit run at the European level is perfectly justifiable, so long as unemployment exists at intolerable levels in Europe. If the interest on that deficit must be paid, let it be paid from the eventual increase in national income in Portugal. The burden will be light enough if the benefit is realised. No one could seriously recommend that Europe emulate American rates of military enlistment or incarceration. But American rates of enrolment in higher education – now up to about half of high school graduates (and nearly universal in

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some places, such as California) are well worth emulating. Once again, the investment required to do so would mainly mobilise resources in the low-income areas of Europe, while sharply reducing the stigma of unemployment among the young. Beyond these examples of effective redistributive policy (which could be multiplied), there is a need to address the larger problem of relative growth rates and the achievement of relative income convergence. This is substantially a macroeconomic problem, and as noted earlier there exists a deficiency of instruments to address it. Accordingly, there needs to be a new and uncompromisingly Keynesian understanding of what it might take to achieve this goal. One may begin with a bit of good news. It seems the euro worked for the periphery of Europe, at least at first. The remarkable decline in unemployment in Spain over the transition (from 20 to 12 percent) may owe something to counting trickery in the context of new types of short-term labour contracts. But it is also reasonably clear that it owes something to the disappearance of exchange rate risk and to the resulting interest rate convergence. In principle, this reduces a common distortion in favour of manufacturing activity in peripheral countries and absorbs the unemployed into better-paid services jobs, which now become credit-worthy in ways they were not before. To the extent that this happened in Spain, it could be similar in a small way to the late 1990s American experience. In the US at that time, millions of new jobs were created – not by lowering wages but simply by making credit available for next to nothing.7 Overall, however, income convergence of the poorer members of the EU has largely stopped. The new countries to the East are so far not far advanced in enjoying the credit and service-employment expansion that has occurred in Spain. Getting convergence started again is first of all a matter of making this a declared priority of the Union. Europe needs income convergence targets more than it needs deficit targets or even growth targets. What otherwise is the point for poor countries of remaining in the Union? Candidate members of the EU have been converging more rapidly over the past decade than actual members, suggesting that their optimal strategy could have been to stay indefinitely in candidate-member status. An effective targeted, growth-producing fiscal policy for the Union as a whole would of course be best of all. How might the Stability and Growth Pact be 7

On the other hand, Portugal is now suffering the consequences of the real overvaluation of the Euro, as national manufactures lose competitiveness on internal and external markets. It would be a tragedy if traditional Portuguese activities such as glass and leather products now collapse, for there is no way either to increase productivity in these sectors by enough to overcome a severe exchange rate imbalance, nor to replace these activities with increasing returns industries (which will stay in the high-income centres where they now exist). Collapse may, nevertheless be inevitable, which raises the question of how possibly to employ workers displaced from manufacturing in Portugal. Once again, expanding credit to services is a reasonable and perhaps the only reasonable answer.


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revised? The best way would be to set convergence targets instead of deficit targets and to give them priority over less important goals. And then, let the Union itself be permitted to run fiscal deficits, and to issue Euro bonds, sufficient to return the Union as a whole to full employment. This is what America usually does, or tries to do, in practice, in a slump. However such a radical change presupposes a development of European federalism on a scale that is not presently in the cards. A practical alternative might be to rewrite the Stability and Growth Pact to permit any country of the EU to run deficits greater than 3 percent – the current limit excepting only in deep recessions – so long as unemployment on average in Europe is higher than a threshold value. The point here is that it does not matter which country in Europe runs deficits. Since the European economies are integrated, the resource-using effects will be felt everywhere. And if the Germans, say, do not want to create full employment in Europe by absorbing first their own unemployed and then attracting immigrants from Spain or Poland? Well then, let them transfer the resources directly to those countries for the same general purposes already described. Could German money build a great university in Greece? Of course it could. The threshold average value for unemployment in this scheme need not be close to full employment. Any figure well below the present European averages – for instance, 6 percent – would do. For it is a near-certainty that once unemployment in Europe started decisively on a downward path, the private sector’s demand for credit (and its perceived creditworthiness by financial institutions) would rise substantially. Before long, the resulting expansion of private deficits would reduce the deficit-financing contributions of the public sector. The problem for the authorities would then be merely to manage the flow of funds, guarding against the emergence of bubbles and Ponzi schemes that would make the expansion difficult or impossible to sustain. Such, in any event, was the experience of the United States in the late 1990s. It was a happy time, while it lasted. And it contains a plethora of useful, unexpected, and unexploited lessons for Europe – lessons which Europe, which has not plunged itself into needless wars nor grossly neglected its public capital formation, is very well position to exploit. They are just not the lessons that most Europeans, casting a highly conditioned glance in the American direction, would expect to find.


Chapter 7

International Finance for Development and the New Transnational Dimension of Welfare in Poor Countries Marco Zupi

Introduction At international level, the importance of foreign finance for development is related to the pioneering Harrod-Domar model (Harrod, 1939) In the prevailing neoclassical interpretations of this model, growth is a supply-side process and automatically saving creates investment: with financial inflows from the outside a poor country can increase savings and translate these flows into investment and output. Beginning with the growth model originally proposed by Robert Solow in 1956, the dominant economic theory claims that the mechanisms of a competitive market automatically guarantee that long term growth follows the path of continuous full employment. On the basis of an aggregated production function which depends on the amount of capital for each worker, on the long term an economic system would tend to converge towards a condition of stability at the level of capital and production (the so called steady-state): the flexibility of real salaries (which in a competitive market equals to the marginal productivity of work) would be enough to ensure full employment, through the flexibility of the capital-work relationship. All the main subsequent developments of the neo-classical growth theory concentrated on the introduction of technical progress: initially exogenous (Solow, 1957), then linked to learning-by-doing (Arrow, 1962), to the introduction of growing yield (Romer, 1987), to the investments in human capital (Lucas, 1988), to the endogenous production of new technology (Romer, 1990). This inspiring vision has never changed. More than anything, some additional and heterogeneous dimensions of capital have been included in the process of capital accumulation in order to describe in detail, with scientific precision, the process of economic growth.

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Basic Needs

Additional Consumption Consumption

Physical Capital (machinery) Infrastructure Capital Human Capital

Employment

Social Capital

Household Disposable Income

Knowledge Capital

Economic Growth

Technology Productivity

Institutional Capital

Saving

Natural Capital Taxes

Transfers

Investment

State Budget

International Aid

External Debt

FDI

Remittances

Figure 7.1 The Role of International Finance in the Process of Capital Accumulation

Role of International Finance Figure 7.1 provides a graphical representation of the role of international finance Capital accumulation has been considered the key to prosperity, and this will come about through industrialization, based on a combination of increased saving (domestic and international saving, through international aid, external debt, foreign direct investment and workers’ remittances) to be transformed into productive investment. Growth as based on a financial injection to support productive investment in physical and infrastructure capital was additionally helped (through financial support) by investment in: 1.

2.

3.

Human capital (education, health, research and development as a way to increase skills, improve labor productivity and induce technological innovations). Social capital (institutions, social norms of trust and reciprocity among different actors, formal and informal relational goods, which can create a favorable environment to make investment more productive and efficient). Knowledge capital (in particular, with reference to Information and Communication Technology and the need to become – as mentioned in the EU Lisbon strategy adopted in 2000 by the European Council as well as in the

Internationl Finance for Development

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words of the World Bank’s President, Jim Wolfensohn – a dynamic and competitive knowledge-based economy). Institutional capital (provided that institutions do matter a lot, in terms of democratisation process, the rule of law, war on corruption, decentralization of political power and administration, high quality and managerial skills of organizations and public administration, capacity development and institution building). Natural capital (assuming environment as a cross-cutting dimension or a mainstream in development process, which can be adequately assessed only in the inter-generational perspective of the so-called sustainable development, as described in the UN Commission Report on sustainable development chaired by Gro Harlem Brundtland in 1987 and during the Rio Summit in 1992).

4.

5.

In all these cases, the foundations of the capital accumulation model were preserved and with them the implications concerning liberalisation, including a financial one. Basically, not taking into account the disruptive thesis by Keynes and Sraffa according to which financial phenomena and the mobility of capital exercise a fundamental influence on the real economy (that is to say, on the distribution of income, as well as on the levels of activity and employment),1 prevailing economic literature supports the traditional marginalist theory of distribution which links the rate of profit to the marginal productivity of capital and which does not recognise an autonomous and central role of financial factors (Roncaglia, 2001). 1

The inadequacy of traditional financial and monetary crisis models to explain the persistency of the downfall of real variables (production and investment) and the contagion and spreading phenomena, on a global level, of developing country financial crises implies the need to critically reconsider financial deregulation processes. John A. Hobson, a liberal English economist who wrote one the most famous critiques of the economic bases of imperialism in 1902, was one of those who, at the beginning of last century, analysed the financial disorder of capitalistic mode of production and his critiques to financial systems were used by Keynes himself. Hyman Philip Minsky, who died in 1996, must be quoted among the researchers that have focused their studies on the analysis of the instability of the capitalistic system, putting it down to the financial structures it is based on and so to endogenous events generated by periods of financial stability, and not only to ‘exogenous’ malfunctions, which can be led back to episodes of moral hazard and crony capitalism carried out by banks (which are certain they can count on political ‘bail-out’ manoeuvres). As the pioneer of the so called debt deflation school (the debt deflation theory which stems from Irving Fisher’s attempts to explain the effects of persistency, contagion and spread of the economic and financial collapse in the 1930s), Minsky firmly distanced himself from the trust placed by the prevailing theory in the stabilising market forces and the neutrality of the financial sphere in relation to the real economy one. ‘A fundamental characteristic of our economy’, Minsky wrote in 1974, ‘is that the financial system swings between robustness and fragility and these swings are an integral part of the process that generates business cycles’. For further reading: H.P. Minsky (1975, 1982 and 1986).

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Failure experienced by international finance for development to pump up growth in a sustainable way shows how inadequate is any mechanical and trickledown assumption, however. On the other hand, Harrod himself, pointed out that economic growth is inherently unstable; and, according to the post-Keynesian school, it is demand that drives the overall economy, as there is some autonomy of aggregate demand from aggregate supply conditions in the determination of output (Setterfield, 2001) To mobilise domestic or international saving is not sufficient to promote growth and development. There is a gap between saving, aid, remittances, debt or foreign direct investment and productive investment. At the same time, under the banner of liberalisation, privatisation and deregulation, poor countries’ perspectives of economic growth remain highly dependent on international financial inflows. In literature, the relationship between a developing country’s integration in international financial markets and the provision of welfare has not, so far, been treated sufficiently in depth. In theory, it is a case of combining the study of the effects of financial integration on income volatility (that is to say, in a perspective of short-term business cycles analysis) and that of long term economic growth. In general, the business cycles costs, in terms of welfare, tend to be high, mainly due to the aversion of economic agents for risk; however macroeconomic research has so far neglected these aspects and focused mainly on long term growth. The statement by Robert Lucas (one of the most prominent experts on the approach of the new classical macroeconomics and on the rational expectations theory linked to the neo-liberalist theory which is hostile to public intervention in economy2), according to which, the costs for welfare due to the business fluctuations are lower (with reference to the case of advanced economies) than those due to a reduced economic growth, has contributed to this lack of attention (Kovtun, 2002). In truth, it is easy to observe how income volatility which concerns developing countries – expressed, for example, by the standard deviation from the GDP mean annual growth rate – is much higher compared to that of advanced economies, and this fact should be enough to stimulate a higher degree of attention towards the short term components of development processes. Standard, neo-classical type macroeconomic models show that an increase in the liberalisation and openness of financial markets would entail an increase in welfare, producing a rise in inter-temporal resource allocation opportunities. Financial systems are hypothesised as perfect intermediation systems between productive savings and investments, to the extent that, for example, the Modigliani-Miller theorem states that an enterprise’s choice to finance its own investments with domestic or foreign funds has no relevance. This manifestly unrealistic preliminary hypothesis is based on perfectly functioning financial 2 It is the case of the development of macroeconomics orthodoxy which touched the ‘neoclassical synthesis’ of Hicks and Modigliani in the 1950s and 1960s; Friedman’s Monetarism in the 1970s; supply-side economics with the theory of rational expectations and real cycle in the 1980s; the ‘new growth theory’ in the 1990s.


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markets. Historically, instead, over the last two decades, developing countries have experienced several financial crises: regardless of many theories, developing countries’ specific problems and an evident inefficiency of international financial markets have concurred in amplifying the negative effects of economic volatility. The behaviour of international investors has determined or accentuated this conjunctural volatility: the so called Tequila effect, subsequent to the severe devaluation of the Mexican peso (1994–1995) and the domino effect which followed the South-East Asian crisis (1997–1998), are two emblematic examples of phenomena which triggered a chain of international contagion crisis episodes concerning the stability of emerging economies’ financial systems, due to ‘rational’ speculation episodes, that is to say cases in which the expectation of an increase in equity prices, already above their ‘fundamental’ value (corresponding to the ‘real’ value of expected dividends), justified a further rise in prices, to the point of causing sudden and dramatic market collapses. The actual starting datum is that the effects of financial system liberalisation in a developing country are particularly difficult to gauge, when precise and specific information concerning the state of foreign investment flows towards that country in particular, are lacking. The specific effects (positive or negative) of different FDIs on the economy of developing countries cannot be put down to generic causes; on the contrary, it is acceptable to assume that, with the deterioration of external financial conditions (which can be led back to an exogenous financial shock), a considerable quota of entrepreneurs in a developing country – operating with a low level of investment rate of returns – shall be exposed to the risk of having to interrupt their activities when faced with enforced financial constraints (the so called financial accelerator hypothesis (Bernanke, Gertler and Gilchrist, 1996)).

Recent Trends and Composition of Foreign Finance for Development Figure 7.2 shows that since the mid of the 1990s private capital flows have annually exceeded official flows and since the late 1990s a fundamental shift has occurred in the pattern of private sector financial flows to developing countries. After three decades of external debt expansion, crises and management policies, which represented a crucial instrument to denationalise the economies and dismantle the developmental and welfare states, debt flows have fallen sharply, while equity flows – mainly in the form of Foreign direct investment (FDI) – have remained comparatively robust. Combining these two facts, the privatisation of financial integration, with concurrent impact on welfare, has come full circle. In 2003, as global growth gained momentum, total net capital inflows, including official flows, reached $228 billion (3.6 percent of developing countries’ GDP), up from $191 billion in 2002 (3.2 percent of GDP). Private capital flows to developing countries increased to $200 billion, their highest level since 1998 (World Bank, 2004), strengthening the reversal of negative trend followed to the

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peak of 1997. Official capital flows represent a bottom percentage of capital inflows, marginalised and unable to react to negative or positive business cycles.

Source: World Bank, 2004.

Figure 7.2 Net Financial Flows to Developing Countries, 1992–2003


Figure 7.3 Net FDI Inflows to Developing Countries, 1995–2003


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A graph can again strengthen the evidence. Figure 7.3 shows that flows of FDI to developing countries were $135 billion in 2003 (still 23 percent below the level reached in 2001 and much lower than the peak in 1999). In terms of geographical distribution, FDI as well as other private capital flows remain heavily concentrated in specific countries and regions: just ten countries3 accounted for 69 percent of FDI in the developing world (in 2000, there was a peak concentration of 78 percent of FDI in ten countries). Obviously, as a consequence privatisation of financial integration of developing countries has rearranged economic, social and power relations between and within countries. Despite the free-market ideology according to which private sector and FDI have a central role as engine and arbiter of development, from an empirical developmental perspective, by itself a high amount of FDI is not immediately translated into a positive impact on welfare of recipient countries. The role of both mergers and acquisitions (M&A) and privatisation, experienced after the mid of the 1990s as a main component of FDI (in 2000, together they represented $120 billion), has still to be adequately evaluated in terms of its impact on concrete economic development of each and every country from this kind of capital account. Moreover, the literature on hostcountry factors affecting the repatriation of dividends is very limited, but it is clear

Source: IMF, 2004.

Figure 7.4 Developing Countries’ Current Account Balance, 1997–2003

3

China, Brazil, Mexico, Argentina, Poland, the Czech Republic, Chile, the República Bolivariana de Venezuela, Thailand and India.

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that host-country regime represents a crucial factor for FDI and multinational companies’ decision in particular. The fact that developing countries’ tax regimes guarantee foreign investors’ the right to transfer profits abroad has direct and negative consequences on the net impact of these inflows on development. In the meantime, due to the difficulties to collect external financing and to the need of avoiding excessive dependence on it, seeking to follow the international financial institutions’ macro-economic conditionalities, developing countries as a group have run large current account surpluses (IMF, 2004), At this regard, a drastic change has occurred all over the developing world in recent years, particularly after the 1997 East Asian financial crisis and the launch of the heavily indebted poor countries (HIPC) initiative of debt relief in the 1996 (see figure 7.4). In 2003, the surplus in the developing world amounted to $76 billion, about 1.1 percent of GDP, demonstrating how rigorous the macroeconomic discipline and structural adjustments have been. Notwithstanding the importance of trade in economic and social terms, and the emphasis on its role for developing countries, during the last years no clear commitment has emerged on the need to link trade to welfare promotion, however. Rhetoric of corporate social responsibility (CSR) has become an important developmental and governance issue in recent years. But compared to the central role played by the UN in the 1970s on regulating trade and investment activities, voluntary initiatives, involving codes of conduct, reporting, certification, corporate social investment, environmental management systems and multiple forms of partnership are evolving rapidly, inducing a lot of concerns regarding the implications of CSR for development, welfare impact and governance. There is an over-proliferation of CSR initiatives at the international level and lack of clarity about how they relate to each other, an excessive focus on commitments (very often only additional to the core business of enterprises) rather than on implementation, a lack of credible monitoring processes with scarce involvement of developing country stakeholders, a failure to explore the role that trade and CSR measures can play in helping to reduce poverty and contribute to sustainable development. At present, for example, there are no formal or informal political processes dedicated to following up the commitments on CSR made by governments at Johannesburg in 2002. And the UN Global Compact, launched by the UN Secretary General Kofi Annan, which frames corporate commitments arising from basic globally held principles of the UN charter, seems to be a tool of last resort for receiving consensus rather than an effective instrument to orient trade and investment towards the promotion of development and collective welfare.


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Figure 7.5 Debt Flows to Developing Countries, 1995–2004 Figure 7.5 plots the evolution of both gross and net debt flows to developing countries since 1995. The very recent trends of external debt can cause much surprise. Notwithstanding the external debt crisis, debt is still a main source of private capital. In 2003, net private debt flows to developing countries strengthened markedly and reached $51 billion (compared to the net inflow of $3 billion in 2002), confirming that FDI inflows are not monopolising financial integration. The recovery in net debt flows mirrored an increase in gross debt financing from bonds and syndicated loans, and the fact that developing countries’ demand for external borrowing continued to be strong. The assumption that the massive expansion of external debt and the following crisis has been completely discarded is misleading. The difference between gross and net flows experienced in the last seven years, being the amortisation (liquidation of the principal) of past debts, shows how the benefits of foreign borrowing are not outweighing the cost for many developing countries. In other words, debt-service obligations are still met through export earnings, curtailed imports and further external borrowing. Moreover, we should take into account that the net inflow related to international borrowing is not an adequate measure to represent the amount of foreign exchange that developing countries are gaining or losing each year from international debt flows. In fact, it is necessary to use another fundamental concept known as the basic transfer that is the difference between the net capital inflow and interest payments on the existing accumulated debt (i.e. including the second component of debt service). And we discover that the basic transfer turned very negative for developing countries during the 1980s, causing a loss of foreign exchange and a net outflow of capital, but was still negative during the 1990s and, in some cases, is

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still negative. After the past dramatic experience of external debt spiral, both in Latin America and in Africa, the complex effects of current debt recovery on development must be adequately assessed. This concern should be extended also to debt to official creditors, including soft loans inscribed in international aid or Official Development Assistance (ODA), for which repayment conditions (interest rates, grace periods and maturity), allow one to anticipate a tangible risk that, in the future, foreign debt crises may occur again. Maximum transparency with regard to new loans is the fundamental and minimal condition necessary for carefully monitoring new international funding of loans. This difficulty experienced by poor countries to attract foreign capital, together with the international consensus on avoiding any sort of national deficit spending, has induced poor countries to be highly dependent on international aid, particularly for providing basic social services to the poorest.

Source: OECD-DAC, 2004, online database.

Figure 7.6 Net ODA to Developing Countries, 1990–2002 Some conclusions can be drawn from Figure 7.6. Net ODA did increase to $58 billion in 2002 but remains well below historical levels and what is required to meet the UN Millennium Development Goals (that is doubling current aid levels). In 2002, net ODA amounted to 0.23 percent of donors’ gross national income. Moreover, half the $6 billion increase in nominal ODA reflects debt relief and a further $1 billion higher aid to Afghanistan and Pakistan. In 2003, ODA reached $68.5 billion in total (equivalent, however, to $60.5 billion, in real value), equivalent to 0.25 percent of the combined gross national income of all donor countries. The increase compared to 2002 is due to the


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approximate amount of $2 billion, included by the United States in their bilateral cooperation funds, allocated to the rebuilding of Iraq. Recent international conflicts and security priority have increased the role of non-developmental goals in allocating aid. On the other hand, in the US budget for the last year, $450 billion were allocated to military expenditure ($87 billion for the war and $21 billion for rebuilding Iraq). Rather than an instrument to incorporate developing countries into the Western or Eastern bloc (the main aim before the fall of Eastern bloc), aid now serves as a policy of management and containment of insecure marginal areas, based on debt relief, complex emergencies and the level of commitment devoted to counter-terrorism. In the meantime, consolidating the dismantling of developmental and welfare state, major donors are paying more attention to the new policy framework in recipient countries when making aid-allocation decisions: the Poverty reduction strategy papers (PRSPs), introduced in 2000 by the World Bank and supported by the IMF Poverty reduction and growth facilities (PRGFs). They are aimed at strengthening growth – according to an approach centred on the free deployment of market forces and on the reduction of the role of the State, confined to creating favourable conditions for the market and promoting – in agreement with the donors’ community, which takes on the responsibility of making specific social safety-nets funds available and poverty reduction-oriented policies in recipient countries to increase aid effectiveness. Even if it is too early to assess how the poverty-reduction implications of current adjustment policies (through PRSPs and PRGFs) are made an integral part of adjustment policy, as a whole, or are treated as an additional component, from now on a new political conditionality is openly acting. Based on the conceptualisation of good governance, enabling environment, participatory approach, human rights and democracy as crucial components of development cooperation agenda, aid is targeting non governmental actors, in particular business private sector and grassroots organisations. This redirection of aid (compared to traditional government-to-government agreements) should take into account that interests, values and targets of business private sector and grassroots organisations are very different and conflictual and the role of a state acting as an effective power to provide public goods and defend public interest is still and increasingly crucial. A lack of understanding of the different roles, responsibilities and interests of government, private sector and grassroots actors may produce very negative effects. Moreover, as an improvement in living standards depends in large part on what form the adjustment and economic reforms take, the participation of different stakeholders can not be confined to health, education, and nutrition services to the most vulnerable groups (that is limited to the social areas directly targeted to poverty reduction through PRSPs and aid), and it should be extended on growth and development issues. But again, the differences and competing approaches can result irreconcilable.

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Figure 7.7 Workers’ Remittances and Other Inflows, 1988–2003 There is one category of financial flows that is not usually recorded in documents on international financial flows and which is of particular interest to us: workers’ remittances. It is surprising, as in quantitative terms, they are a major source of external development finance for many developing countries and, confining the analysis to data which are officially recorded, remittance flows are the second-largest source, behind FDI, of external funding for developing countries (Figure 7.7). Remittances to developing countries increased by more than 20 percent during 2001–2003, reaching $93 billion in 2003, which is highly underestimated, probably being no more than 50–60 percent of total remittances that are also channelled through unrecorded informal services.4 Moreover, remittances to poor countries are larger as a share of GDP and imports than those to middle income countries and by far remittances are the largest source for these countries, around four times the size of net FDI, of foreign capital. Remittances are also more stable (also in times of economic difficulty in the recipient country

4 Where available and convenient, migrants may use formal channels such as banks and money transfer services. In other instances they may use informal channels, carrying it home or sending cash and in-kind goods home with returning migrants or professional couriers. Furthermore, remittances may also be transferred via a third country, complicating estimates of remittance data by the source and destination countries. Thus, for a variety of reasons, remittances are extremely difficult to measure: a Balance of Payments table is badly designed to summarise remittances flows, which are spread over the current account (net remittances and transfer account, as well as tourism receipts) and capital account.


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countries) – as shown in Figure 7.7 – than private capital flows, which often move pro-cyclically and are quite volatile. The recent interest on remittances – demonstrated by the fact that, for the first time, a chapter of the World Bank’s Global Development Finance 2003 was given up to remittances as well as the entire Global Economic Prospects 2006 – is not only due to the current development agenda and in particular to the new UN Finance for Development issue focused on innovative financial mechanisms for promoting development, but it is also linked to the global war on terrorism. The possibility that formal and informal channels to send remittances (systems of value transfer that operate in almost every part of the world, such as the hawilaad, hawala and Al Barakaat networks) have been used to fund Osama Bin Laden and al-Qa’ida causes serious concern. Consequently, the so called underground banking networks have recently received particular attention, in terms of antimoney laundering, anti-money dirtying and counter-terrorism financial regulations and controls. Another important new interest playing a role in the remittances’ issue is related to the bank sector’s intermediation. The bank sector did not recognise the potentiality in terms of profits coming from being involved in channelling remittances, and they let money transfer services (Western Union, MoneyGram, eBay’s PayPal, VIGO) take up the whole room. Now, linked to the interests of the coalition against terrorism, the bank sector is increasingly intervening in this financial market. During the G7 Head of States meeting on Sea Island, Georgia (June, 2004), the group of 7 leaders presented a special remittances’ action plan, designed to encourage cooperation between banks in advanced countries offering remittance services and reducing costs to migrant workers and financial institutions in their home countries. And the G7 leaders were committed to working closely with banking system and international organisations, including the World Bank and IMF, to update data on remittance flows and develop standards for data collection in sending and receiving countries. However, the banking attention to the financial segment represented by migrants in a rich country market does not only lead to an involvement in the remittances’ sector (in order to reduce cost of sending money, which involves the true cost, the profit component, and the foreign exchange commission), but it may also be oriented to the provision of broader financial and insurance packages for migrants. In such a way the banking sector’s involvement may theoretically reduce migrants’ motivation to send money home: with limited resources, the income or benefit foregone as the result of not buying the new financial and package service if remittances are sent home represents an increased opportunity cost of sending money home. Paradoxically, in short, the attempt to address remittances towards development goals through stronger migrant banking could lead to a reduction in remittance flows themselves, by channelling savings towards employment in destination countries, especially when banking systems in the migrants’ countries of origin are lacking.

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The Impact of Workers’ Remittances on Development and Welfare The issue of the economic effects of remittances, like that of the effects of aid, is fraught with disagreement. Moreover, most of the econometric specifications of the relations between foreign capital and development have always ignored the role of migrants’ sending money home, as well as the interactions between different financial flows. Although it is true that the unreliability of statistics on remittances is a major obstacle, it is no less true that development is recognised today to be an intricate process of dynamic inter-relationships (due to the multi-dimensionality of development). There is a need to get away from the traditional approach taken by many econometric studies, which start from the assumption of a linear and direct relationship between every single and separate international capital and economic development. Econometric tests should be applied to a number of aspects that previous analyses have so far ignored, and particularly the following: 1. 2.

3.

4.

The non-linear nature of relations between financial flows (including workers’ remittances) and economic development. The endogenous nature of remittances, which cannot be considered as an exogenous variable and must be considered as both determined by, and determinant of, development. The non-independent nature of other foreign capital flows (aid, FDI, external debt), which are usually considered to be independent determinants of economic development, but which are likely to be interrelated. The impossibility of ignoring non-economic dimensions of the build-up of a development process (including institutional and social variables, which also interact with the volume of sending money home).

At the macro-economic level, remittances are considered to be a mixed blessing (Zupi, 2003a). On the one hand, it has often been emphasised that they have so many positive effects: in particular they: 1. 2. 3. 4. 5. 6. 7. 8.

Improve the balance of payments. Are a source of foreign exchange which can be used to import capital goods and raw materials. Are potentially a source of savings and investment (the assets). Raise the living standards of the population in the countries of origin. Increase national income. Improve income distribution (when the poorest and least skilled people migrate). Help to ease social tensions by preventing further emigration of the poorest sections of the population, and lower the tension due to high unemployment. At least partially ease the financial constraints and risks that hamper rural development.

Internationl Finance for Development 9.

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Not only develop a new branch of services, but also help to open up new channels of communication with foreign countries for the economy and society in the areas of emigration.

A number of scholars have emphasised the negative impact of remittances on a country’s economic development. According to some writers, even though there are potential positive effects, the negative ones predominate because emigration rarely manages to trigger a development process. Rather, a vicious circle is created: dependency by the home communities’ fuels further migration, freezing the local system in terms of an economy characterised by low productivity and underdevelopment. The negative effects of remittances include the fact that they: 1. 2. 3. 4.

5. 6.

Create dependency between the beneficiaries, replacing other forms of income and reducing the propensity to work. Encourage the migration of the most productive and potentially innovative sections of the labour force. Dry up the labour pool, which is replaced by women and children with the consequence that productivity falls and school attendance declines. Squeeze out public, private and foreign investment because of a lower availability of manpower and because fungible resources can make local governments cut down on investment. Are highly unpredictable. Alter consumption models and living patterns of non-emigrants by increasing the acquisition of consumer goods and investment for personal use (buildings) and of imported goods (which reduces the multiplier effect, increases importdependency and consequently worsens the balance of payments).

They can also lead to increased inflation. In South Korea and Pakistan, for example, migration has been seen as a cause of a decline in the supply of specific skills which, coupled with inflation, has raised wages and led to an important variation in relative labour costs (International Labour Office, 2001) To summarise and referring to growth theories, at the macro level remittances are believed to have a positive impact on growth when they are used to finance education and health expenses. And remittances seem to generate multiplier effects even when they are used for consumption (very often), especially in poor countries with high unemployment (Edwards and Ureta, 2003). However, the debate over the macroeconomic effects of remittances is just beginning and it reflects growing but different and not necessarily converging interests, which are now focussed on this specific capital account. The relative stability of remittances and the fact that they represent a basic foreign currency inflow make remittances an invaluable help to the Balance of Payments. Moreover, future flows of remittances have started to be used as collateral to issue bond, that is as backed securities to access international capital (Ketkar and Ratha, 2001).

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However, an excessive volume of remittances can result in currency appreciation, which may negatively affect the competitiveness of exports. So, even as far as the aggregated aspect of the balance of payments is concerned, beyond the general positive observations concerning the effects of remittances, it is necessary to evaluate the dynamics which have overall been activated, with care. Another issue debated in the literature has to do with the internal dynamics connected with the influence that remittances have on the propensity to save, both at the national level and at the level of individual households with one or more members abroad. A number of studies of the national data on several Asian countries back up the assumption that remittances have a negative effect on the national savings levels. Other scholars, however, emphasise that in order to verify this hypothesis it is important to consider the national accounting systems, which often calculate savings using a remainders method, subtracting consumption from income. In this way, any increase in income from external factors increases domestic consumption without increasing domestic income, which affects the calculation of the rate of saving. Some studies have examined the micro level of the behaviour of migrant households in several Asian countries and have shown a propensity to save being superior to that of households that do not benefit from remittances. They also indicate that a substantial share of savings is often banked abroad by the migrant workers and is likely to be transferred home only upon return. In this case, therefore, the relationships to be studied are rather complex and cannot easily be put down to generalisations that ignore specific features and contexts; above all, it should be considered that they are dependent on the availability and reliability of statistics (Zupi, 2003b). Based on existing data, workers’ remittances are an impressive source of foreign currency for Africa: the African diasporas are Africa’s biggest aid donors. Remittances account for substantial contributions to increasing number of African nations: in 1999 remittances from migrant workers amounted to 4.1 percent of GDP in Nigeria, 4.2 percent in Egypt, 6.4 percent in the Comoros, and an impressive 16.7 percent in Eritrea and around 20 percent in Mali and Cape Verde. During the 1980s, remittances covered 80 percent of the current account deficit in Botswana, 70 percent of total commodity export earnings in Sudan, more than half of the forex earnings in Lesotho (Sander, 2003). In 2002, Sub-Saharan Africa received only $951 million. A very limited amount of resources – some 10.7 percent of FDI inflows and 5 percent of ODA – but highly underestimated as it does not consider the informal channels used to transfer remittances and these channels are widely used by Africans. In fact, at least based on some researches conducted in Italy, compared to North-African, Latin American and Asian immigrants, immigrants from Sub-Saharan African countries result to be those who prefer money transfer to bank systems. Inefficiency of African banking system and difficulties to access Italian banks induce Africans to use only money transfers. Moreover, compared to other inflows, remittances are more targeted to the poor (even though not to the poorest), aimed to help the families in the recipient countries, to meet their financial needs for food and clothing, children’s education,


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medical expenses, and housing. However, remittances, as well as other external flows, may reduce recipients’ motivation to work and to be self-reliant (Chami, Fullenkamp and Jahjah 2003), and they may raise income inequality in the receiving society. The Somali case in an interesting example of economy as a whole highly dependent on remittances, particularly those channelled through informal networks as the alternative formal money transfers don’t operate in Somalia. Urban households, including those in refugee camps, are the main beneficiaries of remittances, which may account for between 20 and 60 percent of household income. And even if there is an urban bias, some remittances are redistributed among people in rural areas. About $60 million was injected into the Somali economy in 2000 through international aid. In contrast, between $200 million and $500 million may have been transferred to Somalia through the hawilaad system, and these funds reach many more poor people than does international aid (Horst and Van Hear, 2002) The price recently paid in Somalia, in terms of collective welfare, following the dismantling of the hawilaad network as a precautionary measure in the fight against terrorism which led to a collapse in the remittance flows entering the country, is only one of the demonstrations of the tangle among international finance, welfare, poverty and the new international agenda. Thus, the importance of remittances cannot be underestimated. But another reason behind the growing debate on remittances has to be mentioned, and this partially contrasts with the preceding interests, which are more coherently interlinked and related to finance for development. We might describe it as an additional, remarkable tendency to the privatisation of welfare provision. Remittances can play an increasing role in the economic and social development of poor countries because income earned by migrant workers enables their families back home to receive needed capital for education, housing and business start-ups. Thus, in the aid fatigue context and with more scepticism among donors governments about the role and influence of international aid and state mechanisms to promote welfare, remittances are interpreted as an emerging demonstration of the fact that individual initiatives and economic freedom, through private property and accumulation, are the very engine of development and that the main (or unique) responsibility of the governments is to ensure economic actors sound finance and an attractive environment. The main internationally-sponsored initiatives are to facilitate a reduction of remittances’ fees, which means to oil the mechanism: market forces by themselves are able to provide the best solutions to all the problems, including poverty. Multilateral institutions – in particular, the International Financial Institutions (IFI) – obliged to defend themselves from the assaults of those who want to abolish or radically reform them, try to demonstrate their leverage effect and capacity to manage new matching funds, including the possibility to support and re-orient remittances’ flows. At this regard, by nature, international development cooperation is a transnational policy, which could be adequately oriented to interact with remittances’ circuits, in a better way than other national or sub-national instruments and policies.

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But there is a final difficult composition of interests, which should be taken into account and is a very delicate question related to the impact of remittances on development and welfare. There are difficulties inherent to the fact that sending remittances is a process between different actors, those who send and those who receive money. The problems of ‘in-betweenness’ with the existence of asymmetric information between them imply the risk of conflictual expectations. Those who receive money may perceive remittances as paying back money spent by the family enabling the migrant to leave, which is money that belongs to the family. In the meantime, the sender may think that the family and friends have to be self-reliant and more responsible and tries to monitor the situation, to receive feedback and influence the decisions. With such different expectations, the decisions on how to use remittances for consumption and investment may differ as well as preferences and perceptions of needs. But the main critical aspect to be considered is that much of the interests involved – such as banks and governments – and mentioned earlier lack the transnational perspective and approach necessary to understand the real nature of this account. The relations among welfare, economic growth and migration, are undoubtedly very complex. What transpires, however, is that the phenomenon of remittances, combined to that of a possibly positive role of migration for development and welfare, highlights how it is wrong to automatically assume that flows of goods and capital on one hand and labour flows on the other, are interchangeable. On closer inspection, this is the principle of many development policies recommended and used on an international level, which include the creation of free trade areas and economic reform policies aimed at attracting FDIs into poor countries. In theory, these measures should reduce the barriers for trade and flows of capital and technology; subsequently trade and capital should generate the productive and employment growth necessary to reduce the development differential and the urge to migrate. On the contrary, scientific literature and empirical research show that, initially, economic development leads to an increase in migration flows (the so called migration hump theory): family income growth makes it, in fact, possible to handle the costs of travel for migrants. A more structured observation of the complementary links among flows (of goods, capital and labour) and of the connections among migration, commercial and financial integration and economic development could lead to significant contributions to the debate on the future of welfare, in particular as far as the links between national and transnational dimensions of welfare itself are concerned.

From National Welfare State and Market Systems to the Need of New Solutions Welfare is an ambiguous term, at the same time referring to well-being, to the range of services which are provided to protect and integrate people in a number of conditions, and to financial assistance to poor people. The main objectives of


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modern welfare states are to reduce poverty, to ensure a more equal distribution of wealth, to provide insurance against various risks that private insurance market do not cover adequately, and to grant social services that correct market inefficiencies. Born in Europe, through the Westernalisation of the world this project had an indirect influence on developing countries and Africa, too (Hoogvelt, 1997). Colonialism, two world wars and depression during the 1930s induced the emergence of a Western culture, both at government and civil society level, on the human, social and political costs of unsatisfied social welfare needs. Obviously, different historical experiences in terms of State organisation, which have led Esping-Andersen to identify three models of welfare state, can be reduced to three categories only as a first aggregation. To analyse historical patterns and trends of welfare and developmental states in the large number of LDCs is a useful step to look at development and welfare in the South.5 Following Esping-Andersen types, corporatist and conservative regimes prevailed in a lot of East Asia and Latin American countries, before the 1980s, with social insurance schemes being addressed to a limited group of citizens (soldiers and public servants, above all), in the context of authoritarian and developmental States (East Asia) and populist and corporatist States (Latin America). The important role played by trade unions in Latin America induced the extension of social insurance to a broader group of citizens (all the workers in the formal sector), with an increasing share of welfare expenditures as a GDP ratio compared to the Asian situation. However, from the end of the 1980s, as a very general description, the adoption of neoliberal policies in Latin America produced a shift to liberal welfare States, based on market mechanisms and schemes of welfare provision, with State intervention limited to the most vulnerable groups of population; whereas East Asia combined liberal ideas with social insurance universalism (Usami, 2003) A different situation occurred in the poorest African countries, where developmentalism and welfarism did simply mean a focus on the development of social expenditures and policies, rather than massive redistribution from richer to poorer income segments of the population. This was also a consequence of the crucial dimension of mass poverty in a lot of poor African nations based on the tendency of men and women to submit to equilibrium of rural poverty ad on the fact that unequal distribution was not perceived as the main problem (Galbraith, 1979), The weakness of the nation-State

5

We should take into account the fact that focusing on the official data of welfare expenditure to identify the ‘type’ of welfare state, there is a misleading effect due to the lack of reliability and comparability of these data. In fact, they are estimates at the best and they can be easily manipulated: this is true in the case of Western societies (where some 30 percent of welfare expenditures are estimates rather than factual data) and all the more reason in the case of LDCs. In East Asia, official data include environmental protection expenditures, military – such as soldiers lodging – administrative costs of central government, and propaganda expenditures. That’s why a more useful comparison must be based on basic education, basic health, town planning for the poor, social insurance and net of administrative costs. See Aspalter (2001).

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institutions inherited from colonialism hindered African bureaucratic States from taking on a complete Keynesian role. State interventionism, emphasis on the role of investment in determining aggregate output and employment, and the priority conferred to macroeconomic policy in detriment of microeconomic efficiency, were not associated with policies aiming at social integration and cohesion. Rather, social welfare objectives were confined to State interactions with international aid, and in this context the Welfare State ideal took on the form of paternalistic and charity-oriented social policies. During the 1980s and 1990s, the magnitude and absolute size of expenditure on social programmes in most of developing countries has decreased as a direct consequence of financial cuts to the welfare state. Poor and vulnerable groups (older people, women and children) have been amongst those most affected by the privatisation of health care and education, and the burden of external debt repayments. A turning point occurred in the late 1980s, when UNICEF embraced the concept of ‘adjustment with a human face’. According to this perspective, the poor should be protected during processes of macroeconomic adjustment through institutional reforms, the creation of social safety nets and qualitative expenditure cutting to avoid reductions in social spending. This concept was profoundly influential in the 1990s, and the focus on integrating poverty reduction and economic growth was absorbed by international financial institutions. In terms of welfare provision, both the World Bank and IMF have been influential in making the case for multi-pillar pension systems, based on a pillar built around private, non-redistributive, individualised and capitalised contribution pension plans and on reducing state pay-as-you-go schemes to a minimal role of basic pension provision. Concerning health and education, reductions in public spending and the introduction of a system of user fees at the point to provide a cost-recovery service spread all over developing countries demonstrate the negative impact of paying a fee at point of service. In Africa, health, education and social protection systems are neither sufficiently funded nor concentrated on targeting vulnerable populations and ensuring equity is not easily consistent with financial sustainability in the provision of services. Public health, education and social protection systems should be better directed to targeting vulnerable populations and ensuring equity, quality, efficiency, and financial sustainability in the provision of services. But the consistency between equitable, efficient and financially sustainable public and private mechanisms is everything but guaranteed and the economic and institutional context for such a reform has not been favourable and the results are not encouraging. Despite the implementation of poverty reduction strategies, the prevalence has gone and is still going to cost recovery in public institutions, expansion of private services through appropriate accreditation standards and outsourcing, rather than to provide a free, high-quality public service to the poor at all levels. Social insurance, social assistance and labour market programs have been and are still


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limited to workers in the formal sector, mostly in urban areas, whereas the majority of population is involved in informal economy’s activities and this implies the need to redesign safety net programs, which have limited outreach. The main tension is between the need to collect user fees for basic health and education services in most settings, and the fact that tiered pricing systems may be needed to avoid excluding the poorest clients. When user fees, health insurance schemes and education vouchers contracting-out services are introduced or increased, the effects on access and equity appear to be negative: rates of health-care and education services utilisation are adversely affected among the poorest, forcing them – particularly women – to forgo services (Sadasivam, 1999). Moreover, even in families with economic resources, women often have limited access to cash. It has been argued that the potential revenue to be gained by collecting charges for essential services in resource-poor settings is often too small to justify the negative impact on access for the most disadvantaged clients (Sachs, 2001). The last 1990s and the first half of current decade have not been kind to the neo-liberal consensus. Growth outcomes were deeply disappointing and below the levels of the 1950s and 1960s. Poverty reduction made little headway, and the elimination of restrictions on domestic finance and on international capital flows resulted in huge global crises but did not succeed in enhancing volume and efficiency of productive investment. The need of providing public goods and – in the context of globalisation – the so-called global public goods and common goods, together with international commitment to reduce absolute poverty have contributed to emphasise the strategic pro-active role played by the international actors. Nowadays, exploring the impact of globalisation on welfare discourse and aid policies is especially significant for the debates on the solutions to poverty in developing countries. In these accounts, what appears to be very interesting is that market failure central to development economics and government/non-market failure central to neo-classical economists are replaced by something new, the national as well as societal failures signalled by the disease-like spread of this societal malaise into both market and state structures as well as into the national dimension.

Remittances, Informal Systems and Transnational Welfare Practices Concerning societal failures that hit both state and market, the informal economy is an important concrete reaction, in the economic and welfare spheres, outside of the welfare mechanisms provided by states and markets. Its nature differs significantly among countries with different structures and theories differ in their views of how informal economy came into being, what functions it serves and its relations to the formal economy. As for the social and welfare aspect of the informal sector, social networks in the informal sector have been a practical way to protect from extreme poverty those who remains socially marginalised. The increased number of unemployed people and the reduction in supportive social welfare systems, as a

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consequence of SAPs, provide incentives to individuals to search for alternative opportunities, which are mostly available in the informal sector. This sector offers some marginal employment opportunities – particularly for the urban poor and women – and is primarily a social safety net for those excluded from the formal economy (Losby et al., 2002). This kind of informal economy is a direct outgrown of the global restructuring and can be connected to formal economy: informal selfemployment aims to be highly interrelated with formal economy and rather than being isolated its purpose is to be directly or indirectly connected to a large formal firm through a chain of intermediaries. Low-wage workers, non-compliance with tax and social security payments can allow them to provide the system with competitive advantages. Competitiveness of local systems can increase together with a reduction of welfare provision, which in turn is abandoned to informal selfhelp social networks and reciprocal exchange relationships, making informal sector a crucial source of welfare to the poorest and of economic competitiveness to the system. Empirical evidence is still limited, due to data and research limitations on this issue, but it is likely that workers’ remittances from abroad are one of the main (unrecorded) sources of financial supports to economic and social informal activities found in developing countries. From this perspective, remittances reflect a transnational dimension of welfare, related to local informal economy as well as informal transnational financial channels. This can be an innovative dimension of experiencing little left welfare out of state (through aid) and private sector (through FDI), that is through migrants. World has moved from a period, guided by international organisations, of inadequate reproduction of welfare state through aid to developing countries to a period of free-market orthodoxy and faith in FDI (still popular), with a latent reality still more guided by cross-borders migrations and producing a sort of geographical hybridity or transnationality of welfare provision. This welfare is provided by and dependent on self-help and communitarian practices experienced by exploiting the opportunities created in the globalised system. This autonomous reaction cannot be considered as an efficient and comprehensive solution to the inadequacy of welfare state and market mechanisms among the poor, but it is a strategy implemented by people and families to improve the quality of their lives, based on the social network. Globalisation, defined as the process whereby nation-states are influenced and transformed by transnational actors (Beck, 2001), has become an influential force in shaping responses to poverty and social problems in developing countries. The development of a global economy has had direct implications for national welfare policies. Global trends have been associated with a strong neo-liberal ideology, promoting inequality and representing social protection as the source of rigidity in the labour market (Mishra, 2000). Inequality has worsened in 70 per cent of the 73 developed, developing, and transitional countries studied (Cornia, 2004). The world is a more interconnected global order, marked by intense patterns of exchange as well as by clear patterns of power, hierarchy and unevenness. Globalisation has enforces unequal and highly stratified conditions of life between


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and within countries. Globalisation is also disempowering citizens within the nation-state as far as social rights are concerned without providing them with any leverage globally. And a new process occurs for decentralising the provision of social welfare, with globalisation that brings forth a new set of actors and institutions influencing the social construction of public policy for vulnerable groups. These are decentralised local governments, with increasing responsibility on social issues but without adequate financial resources, from one side; and actors who operate across national borders (transnationally), from another side. The increasing power of global finance and private transnational bodies raises significant issues about the nature of citizenship, and associated rights to health and social care, in old age. In the period of welfare state reconstruction, rights were defined and negotiated through various forms of nation state-based social policy (with much help to poor countries from international aid and IFI system). Globalisation is transferring citizenship issues to a transnational stage, this driven by a combination of the power of inter-governmental structures, the influence of multinational corporations, and the pressures of population movement and migration. These developments pose provocative questions about the nature of citizenrights, the determinants of the life chances available to people and welfare provision. Bauman (Bauman, 2001) has argued that rights have become more fragmented as well as individualised. Reflecting a neo-liberal perspective, the necessity to cope with these has been transferred to individual families and individual people. Whilst this new global discourse is re-shaping welfare states in the developed world, its impact on developing countries has proved to be even more dramatic, for children, women, disabled and elderly people (Polivka, 2001). Already the majority of the world’s population of older people (61 per cent or 355 million) live in poorer countries and the proportion will increase to nearly 70 percent by 2025. For many countries, however, population ageing has been accompanied by reductions in per capita income and declining living standards. Income inequalities within and between countries and regions may create a number of pressures for elderly people and vulnerable groups, increasing the risk of poverty but also disrupting social networks as younger people abandon rural areas for cities, or attempt long distance migrations to wealthier regions or countries (Pfaller, 2001). The emergence of transnational practices and actions deliberately concerned with global affairs and aimed to provide solutions to welfare-related services has altered past framework. The reality of welfare has itself become relocated within a transnational context. Transnational networks and relations have developed across virtually all areas of human activity. Goods, capital, people and knowledge, as well as crime, weapons and pollution move across national boundaries. As goods and investment flow more easily across national boundaries, so do immigrant flows (Lewellen, 2002). The more closely integrated global economy has stimulated increased migration of workers and family members, but these human flows are, for the most

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part, not regulated by the type of international agreements that are being formulated to manage capital and trade flows. This migration in search of opportunity and advancement is partially illegal. Increasingly, borders are transcended by migrants despite the fact that access to foreign countries remains constrained by strict immigration laws that restrict the entry of low-skilled labour and refugees from poor countries. Migrants, in their multiple role in bridging different countries are leading protagonists of this new dimension of welfare provision, as contemporary migration circuits have a circle nature, rather than being merely a uni- or bidimensional vector (from the country of origin to the country of arrival and, perhaps, back to the country of origin). The migrants are effectively connecting two or more countries, and this is directly translated in terms of welfare provision. Rich countries of arrival of migrants’ flows are directly experiencing this new dimension of welfare. Much immigration consists of movements of people from poorer countries to richer ones: immigrants tend to come with relatively limited resources from countries where the welfare state is usually weak and poor. There is some evidence that prospective immigrants are drawn to the rich countries (Europe, in particular) because of its public assistance programs and that overall immigrant use of welfare is rising, regardless of how immigrant and welfare are defined. However, immigrants from developing countries do not use welfare or social services as much as people born in the recipient countries, for the simple reason that there are lots of immigrants who come back to their countries of origin when they are elderly. To be eligible for a lot of old age benefits and the basic allowance for a disabled person, a person must have lived in the country for a minimum of years and continue to live there, as many countries have some kind of minimum residential qualification in both cash and non-cash based assistance programs. At the same time, migrants from poor countries tend to be younger and less dependent on social assistance than host populations (apart from refugees and elderly immigrants). Given the elderly-bias of welfare state in Europe (particularly, referring to those benefits not linked to a contribution mechanism) and the opposite demographic profile of immigrants from developing countries, few rich countries offer those immigrants a full range of social protection or benefits. In the longer term, much will depend on the propensity to spend old age in the host country. Some other net benefits for the welfare of native people in the recipient country have to be added to taxes paid by immigrants on earned income for welfare and as contribution to service that are not accessed and to the pensions that are not drawn by immigrants who come back to their country of origin (if there is no bilateral agreement between the county of origin and that of arrival on pension transfer). In particular there is a direct contribution of immigrants to welfare state in rich countries through the high number among immigrants of social workers, nurses, carers who provide personal and community and institutional services for disabled and services to the elderly persons. Immigrants provide an important net contribution to the economy as well. In general terms, in rich countries immigrants from developing countries do not push


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natives out of jobs. Immigrants tend to fill jobs that natives cannot or will not fill, mostly at the high and low ends of the skill spectrum. Immigrants from developing countries are disproportionately represented in lower-skilled sectors such as hotels and restaurants, domestic service, construction and light manufacturing. Conversely, countries of origin benefit from migration in terms of welfare in terms of remittances, pensions paid on the basis of a bilateral agreement between involved countries, and relatives’ access to assistance programs provided in the migrants’ country of arrival, such as hospitals, thanks to clauses to rejoin their families or occasional visits. From this point of view, a transnational or geographically hybrid dimension of welfare like this tends to be encouraged in the context of the unembedded liberalism, which characterises current globalisation. In neoclassical principle, with flexible labour markets, migration creates welfare gains for all countries. Immigrants from poor countries are not a drain on government finances. The typical immigrant and his or her offspring will pay more in taxes during their lifetimes than they collect in government services. Emigration countries gain because their nationals can earn an income in rich countries that, for all but the most marginal migrant, is more than sufficient to compensate for the loss of domestic value added and the subjective and objective costs of migration. Immigration countries gain because all but marginal migrants produce more value added than they get back in wages. While blue-collar workers incur income losses, their losses will be overcompensated by the gains of landowners, capital owners, entrepreneurs and white collar workers. However, with specific reference to remittances, evidence shows a tension between a national orientation of governments, banks’ financial services and microfinance institutions’ schemes (interested to attract immigrants’ savings and remittances) and practices of migrants who render territorial borders increasingly porous. Remittances circuits have been created out of horizontal and vertical government networks and they represent transnational interests which can not be easily reduced to national ones. An effective strategy to capture a market share of an under-serviced market of remittance money transfer, to cross sell other financial services and to promote welfare by encompassing remittances’ flows should start by recognising that there is a discrepancy between a globalised communitarian network (such as migrants’ circuits) and national, separate units of welfare- and policy-making. Indeed, with policy-making still predominantly national in both focus and scope, a gap arises due to the simple fact that many of migrants’ interests are trans-national. The absence of a clear strategy for linking national policy objective to international movements can lead to the mismatch between traditional national approaches to policy-making and the demands of the new trans-national services. At the same time, against the risk of romantic views on migrants and remittances’ circuits, due to the limitations on the existing literature on these transnational networks, it is not possible to acritically consider them as vehicles to construct and contest the hegemony of global capital – following a neo-Gramscian approach to civil society (Henry, Mohan and Yanacopulos, 2004). It is necessary to

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evaluate the importance and the existence of power relationships, imbalances of resources, democracy and empowerment within these networks and between those who migrate abroad and their relatives in the country of origin as well. The interplay between all the involved actors and different interests in the market of remittances money transfer means that remittances, as well as other international financial flows, are not the panacea to development and welfare. The remittances/informal markets/welfare circuits can be viewed as a change in degree and in kind of welfare provisions, with inevitable risks of undeprovision, fragility, insecurity, unequal distribution, fragmentation and deterritorialisation (which can also imply breaking up traditional and strong ties) of practices and services. Whatever its strengths and weaknesses, there are arguments that the universal citizenship model of social welfare provision is breaking down and these self-help based reactions of people represent their strategies to survive, awareness of risks to their welfare and scepticism on the abilities of policy-makers and markets to deal with them. As Beck has argued, uncertainty, insecurity and risk are regarded as pervasive and central in late modernity and in itself this challenges the security of welfare citizenship. Robert Cox referred to as the internationalisation of the state, in which the state becomes a vehicle for transmitting the global market discipline to the domestic economy (Cox, 1981). We could also describe today’s globalisation as a period of transnationalisation of weak welfare. A discovery of the great capacity of workers’ remittances, in financial and welfare terms, cannot prove an alibi for not increasing and readdressing official and private flows in a development-oriented way an to rethink in a proper way the balance between state and market, and remittances cannot become the way to squeeze resources out of migrants. Up to now unfortunately to put a real human face or democratic governance on globalisation and an effectively welfare-oriented post Washington consensus, it has not moved beyond much rhetoric.

Chapter 8

From Globalisation to World Welfare: Established and Emerging Global Actors Andrea Gallina

Introduction1 What Keynes defined in the General Theory as the two capital vices of the economic world in which we live, i.e. the absence of a safe employment and the uneven and arbitrary distribution of welfare and income, are not yet eradicated. In this vein, the French economist Jean-Paul Fitoussi recently reaffirmed that: Today, it cannot be said that the economic science has solved the mystery of growth and development. This is probably the reason why economists study the issue of ‘good’ governance and the ‘best’ political regime (Fitoussi, 2004).

The study of Robert Barro attempting to verify the link between democracy and growth is a very good example in this regard (Barro, 1996). It is without doubt that the research on the causes of growth, development, inequality and poverty – the key issues for political economists – has been recently conducted within mainstream economics with the objective to highlight both the inefficiencies of institutions (to stop corruption, spur western democracy, enhance social capital, etc.), the underdevelopment of the knowledge base (to spur technology innovation and reform educational systems) and the limited empowerment of people (to allow the self-made individual in a free society). The enormous effort to create knowledge organisations able to provide the right

1

Some parts and arguments presented in this paper were originally presented at the VI International Meeting of Economists ‘Globalisation and Development Problems’, Havana 9–13 February 2004 and at the International conference on ‘The Future of Welfare States’, Roskilde 28–29 August 2004. I am very grateful to Michael A. Lebowitz, Frank Gatto, James Galbraith, Riccardo Petrella and Bruno Amoroso for their useful remarks during the conferences. The responsibility of what is written remains entirely mine.

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analysis at the right moment has been the backbone of this strategy.2 As a result, the last 25 years agenda of national governments, international development organisation and NGOs has been strongly influenced by these ideas. However, when looking at the indicators measuring inequality, poverty and human development, in both the centre and the periphery of the capitalist system, one can see negative trends demonstrating the distributive inefficiencies of the neoliberal approach to growth and development, which in turn has created a situation where civil societies and governments are pressed to provide answers to this fundamentally moral problem of justice. Neoliberal Globalisation, i.e. the political project of transnational capitalism for world economic and political domination,3 has taken shape during the period 1980–2000. According to Branko Milanovic, this period has marked the passage from ‘import substitution’ to ‘structural adjustment’ in Latin America and Africa, from ‘Communism’ to ‘transition to market economy’ in Eastern European countries, China and Vietnam and from ‘welfare state’ (or ‘Keynesian Welfare National States’) to the ‘retrenchment of welfare state’ (Milanovic, 2003) (or the adoption of ‘Schumpeterian Workfare Post-national Regime’ (Jessop, 2004). These two decades have seen an unprecedented concentration of technological, financial and economic power within the so-called Triadic block: Japan, United States and the European Union.4 During this period, academic papers and reports focused on winning the race for competitive and technological supremacy, while the political debate was saturated with Western myths of ‘performance’ and ‘democracy’. Liberalisation, deregulation and privatization policies created by international financial institutions (IFIs) were sold in countries of both the North and the South as the panacea for eliminating governmental and market failures. Those countries not willing to follow these recipes were destabilised, economically, financially or militarily (Amoroso, 2003a, 2003b). The foundation of this strategy laid down during the Reagan and Thatcher administrations and perpetuated during the Clinton administration has been crystallised in the so-called Washington Consensus (Williamson, 1990). Suffice to say that, as result of two decades of neoliberal policies, the current economic disorder features the following prevailing elements: strong asymmetries in trade

2

The World Bank for example, attempts to do so by becoming the Knowledge Organization setting the ‘development’ discourse and agenda. A new report by the Bank may be printed (or downloaded) in 100.000 copies each time it is made available on the net. 3 The many references on the neomarxist and neorealist approaches to globalisation are kept at the minimum. 4 The qualitative change in the process of internationalization was highlighted for the first time in the final report “The Globalisation of the Economy and Technology” of the FAST Research Program (Forecasting and Assessing Science and Technology) directed by Riccardo Petrella (1994). Following analysis by Amin (1994) Amoroso (1998) and the group at the Amoroso, Infante, Gomez y Paloma and Perrone (1993) have confirmed the Triadic nature of Globalisation.

From Globalisation to World Welfare

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regimes, elimination or substantial dismantling of public sector economy in the centre and the periphery, unmitigated labour precariousness, unilateral military interventions, widening of the working-poor classes, increasing poverty and misery, reduced growth rate of human development indicators. In the words of US economist William K. Tabb: ‘Neoliberalism succeeded as the class project of capital’ (Tabb, 2003a). The EU is not an exception. In terms of economic policies and strategies, the EU Commission has recently taken another huge step towards neoliberalism; first with the adoption of the Single European Act and second, with the reiteration of the neoliberal goals in the Lisbon Strategy. The ‘corroding’ trends that have been used to illustrate American working and social nomadism are now used to explain European labour markets and societies. Although it must be said that the EU is not a uniform block, it does seem to increasingly converge towards the US model of flexible capitalism mitigated by flexible security: The European social model is often invoked as something which has to be preserved and defended against tendencies to subordinate all aspects of social life to the rule of markets and to the imperative of international competitiveness. It is presented as an alternative to neo-liberal policies and to the emulation of the American model with its wide inequalities, its low social cohesion and the enormous economic and social weight carried on the shoulders of its populace. However, beyond this very general rhetorical appreciation, the characteristics of a specific European social model remain quite vague, while practiced economic and social policy has been conducted in the opposite direction – towards the US pattern.5

The temptation of resorting to neoliberal ideology is also very evident in the external relations policies. Taking the Euro-Mediterranean relationship as paradigm of the EU relationship with the South, it can be shown that after about 30 years of ‘neighbourhood’ and ‘partnership’ declarations, the EU is still playing with a mix of policies based on a cocktail of neoliberalism and pragmatism. The justification offered in the 1990s by the European Commission’s representatives for the establishment of free trade area between the EU and the economies of the eastern and southern Mediterranean seaboard, followed the same logic as those given by the Washington Consensus for Stabilisation and Structural Adjustment Programmes: implementation would provide an essential stimulus to increased allocative efficiency in the region, thereby enhancing consumer welfare (Hunt, 2004).6 Another striking element of this process is that by adopting the neoliberal policy package, governments of both periphery and centre capitalist countries have 5

European Economists for an Alternative Economic Policy in Europe (2002). It should be stressed that the predicted outcome of this policy can be deeply disputed as not so valid as they were in the mind of the proponents. 6

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not only relinquished substantial amounts of economic and financial sovereignty, but are now confronted with the problem of how to maintain political legitimacy. Recent local and national votes within the EU have shown the limits of the social and political sustainability of the neoliberal project; Latin American countries have witnessed a renewed popular uprising against the neoliberal policies of their governments; not to mention the resurgence of Islamic fundamentalism in response to neoliberal policies in Islamic countries. When comparing the recent decades of neoliberal experimentation with the period of post WWII state-led economic policies, limited growth rates, stagnant development and circumscribed convergence are nothing new. But this is taking place at the dawn of the third millennium in a context that has interesting policy implications and gives the possibility for alternative interpretations. The economic and political raise of China and the raise worldwide of a local civil society organised to counteract these trends may accelerate the pace towards local, national and international struggles for a better distribution of resources. At the same time the high-level of interdependency that characterises the world today brings us to consider the current geopolitical and geo-economic scenarios based on a transnational capitalist accumulation as the main independent variable; one which is able to determine the destiny of entire nations and of their communities. Then what are the determining factors that could modify the current process of globalisation towards world welfare? The issue lies in the affirmation of an economic thought process and policy framework that can provide a valuable alternative to the current process of modernisation. With this in mind, it would be possible to analyse the national welfare policies and the forms of local public participation in the coming years, by what is possible, required and desired, as defined by the people. This implies a methodological challenge to better understand the problems and potentialities that each society, community and market presents; given that there is neither one market (the capitalist) nor one form of organisation of society (the Western society) but many different forms of organizing exchanges, production and distribution. I do believe this is not excess relativism since differences exist, even within the capitalist system. It is important to start re-considering each economy and society as a set of norms and values that are culturally embedded into the communities in which they have unfolded.7 This article reviews some basic concepts underlying the current geopolitical and geo-economic scenario. Next, it provides an overview of the results of the last 25 years of the neoliberal development agenda in both the centre and the periphery of the capitalist system. The review of the welfare policy trends in China will complement this picture. Finally, it concludes with a discussion of the passage from globalisation to world welfare.

7

The seminal work of Karl Polanyi (1957) and ,more recently, of French economist Serge Latouche (1998) are enlightening in this regard.


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On Globalisation: Conceptual Clarity Helps Academic and policy papers produced in the last two decades have often used the term ‘globalisation’ to indicate the Information and Communication Technologies (ICT) revolution, the intensification of trade and financial flows, mass migration and the integration of regional markets. The stress stemming from the compression of time and space, interdependence and the integration of markets characterising the current global economic relationships has been so pervasive that ‘manifestations’ of the phenomenon have been used as explanatory variables, and thus allowed for the possibility of its reversibility. Technological change, market liberalisation, financial instability and migration have always occurred. But today’s quantitative increase of their magnitude is rather the result of a political strategy, which led to a qualitatively new situation, and not the opposite, i.e. a natural phenomenon to which policy makers must adapt. In fact, if considered as the current historical stage of capitalist development – which has mainly a transnational nature and is qualitatively different from its previous stages of mercantilism, imperialism and colonialism8 – globalisation is not a reversible process. From this perspective, globalisation is a recent political and economic project that started to take shape in the early 1980s. Before that, the relationship between centre and periphery (North and South, industrialised and industrialising, or First and Third World) was debated among economists in terms of functional patterns of specialisation. Afterwards, this relationship changed and instead, the South was

8

The firsts to stress the qualitative difference between Globalisation and the previous stages of internationalisation of capital was the group of economists of Marxists tradition such as Samir Amin and Bruno Amoroso.

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marginalised – in the sense of being excluded from any possibility of ‘catching up’ to the wealthiest countries.9 This process occurred during the period 1980–2000 when the ‘actors’ of globalisation – i.e. the international financial institutions (IFIs) that serve the purposes of transnational capital – developed their strategies and elaborated the Washington Consensus. In many cases, the implementation of the neoliberal policies occurred with the conscious involvement of the compradora bourgeoisie governments in the First, Second and Third worlds, which applied these recipes, for either personal gain or due to their incapacity to oppose them. In other cases, it was either imposed through political destabilisation or economic marginalisation. The double logic of ‘substitution’ and ‘expropriation’ at the base of the globalisation strategy was diffused also with the participation of a great number of academics, large industries and the governments in the Triad.10 The implementation of this logic has created an unbalanced distribution of power which manifests in three ways: 1. 2. 3.

The destabilization of the nation-state, to indicate the loss of sovereignty. The ‘corrosion of character’ (Sennett, 2000), to indicate the effects of flexible production on the person and the communities. The ‘economic marginalization’ of 7/8 of world population, to indicate the creation of a Global Apartheid for few rich consumers (Amoroso, 2003a, 2003b).

9 It is also important to stress that globalisation differs from other phenomena such as universalisation or mondialisation, regionalisation and internationalisation. Mondialisation is the expression of the increasing global interdependency for finding solutions to global problems such as the lack of access to water, environment, energy, migration, peace, human rights, labour, etc. International agencies of the United Nations, national movements, popular movements and non-governmental organizations, i.e. the civil society at large, are the main actors of this phenomenon. Regionalization reflects the needs for cohesion sustained by national governments and influential political groups to create integrated local and regional economies and rediscover the local and regional markets to escape the marginalisation and destabilisation caused by globalisation. Regionalisation may lead to the creation of meso-regions which is opposite to ‘open regionalism’ and to free trade areas creation. Internationalisation can be viewed as the agreements between national governments and as strategies to resist the negative effects of criminal forms of internationalisation such as clandestine migration, criminal economy, and export oriented industrialisation strategies which deplete the local resources. It is the oldest and the newest phenomenon submitted to the jurisdiction of national governments or lobbies of local power groups. 10 By ‘substitution’ I mean that of labor and life through technological innovation and the separation of immaterial from material labor. By ‘expropriation’ I mean that of common goods and knowledge through privatisation policies.


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These strategies of destabilisation represented the early unsystematic attempt of the Triad to reduce the growth rates of emerging countries. The financial crises of the late 1990s are a good example of this practice worldwide. Instruments such as the so-called hedge funds served for these purposes. According to the Staff Report to the United States Securities and Exchange Commission,11 based on current estimates, the number of hedge funds operating has risen from 400 in 1992 to 6,000 to 7,000 in 2003 managing approximately $600 to $650 billion in assets. Each of these funds are managed by less than 100 people (whom invest their personal money) and can therefore be exempted from US legislation. In the next five to ten years, hedge fund assets have been predicted to exceed $1 trillion. They played a central role in the Asian financial crises during 1997 – today widely documented (Khor, 1998) – and that of Argentina, Turkey and Nigeria in 2000– 2001. Despite the attempts of the IMF to defend them and down-play their role or the risks they posed, the evidence elucidates the threat they pose to international financial stability.12 The second aspect related with the logic of globalisation is the introduction of labour flexibility and the militarisation of daily life through the diffusion of security technology (to ‘protect’ us from the ‘risks’ infesting modern society). This has contributed to new forms of control over our own personal life and time which have been delegated to the strategists of the free enterprises (Sennett, 2000). This type of flexibility has produced dramatic consequences for the organisation of personal life and communities. People are becoming ‘nomads’ because they are forced to move from one virtual community to another within the same day. (Bauman, 2001a) In this perspective, the old capitalist-worker dialectics are substituted by the rhetoric of control: control over the means of production, family life, technological capability, financial capital availability and even national sovereignty (Bauman, 2003). The creation of Global Apartheid is the third aspect produced by the logic of globalisation. This has been created by deliberately concentrating high value-added activities in the territory of Triadic countries’ transnational corporations, which has sparked enormous acceleration to their process of accumulation.13 During the 1980s and the 1990s, trade and financial flows and technology innovation have

11

United States Securities and Exchange Commission, Staff Report ‘Implications of the Growth of Hedge Funds’ (at: http://www.sec.gov/news/studies/hedgefunds0903.pdf). 12 The IMF report claims that hedge funds are large in absolute terms, but they are dwarfed by other institutional investors (banks, pension funds, mutual funds) that engage in many of the same activities, therefore not solely responsible of the crises. Barry Eichengreen and D. Mathieson, mimeo. 13 The creation of the ‘hollow corporations’, the ‘brand firm’ and the ‘concept houses’ in the 1990s is typical of the process of ‘concentration without centralisation’ (Bennett Harrison, 1994) with which the advanced industrialised countries (the North) transferred the social and environmental costs to the countries in the South. The recent approach to the Global Commodity Chain (Kaplinsky, 2000), is a weak attempt to justify these policies.

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been increasingly concentrated within the Triad, excluding the rest of the world from the welfare gains that innovation and trade can produce. (Petrella, 1998. Amoroso, 1998, op. cit). Furthermore, in order to control the sources of raw material necessary for the development in the Centre, and to extract the surplus value accumulated in the Peripheral countries, the Centre imposed structural adjustment plans aiming at privatisation of public goods, de-regulation of competition and liberalisation of markets. Unfortunately, the promises that these policies would help the Peripheral countries to escape the vicious circle of poverty and underdevelopment have not materialised. Instead they produced the opposite result. In the following section a review of some stylised facts concerning growth, development and inequality during the period of neoliberal globalisation is presented.

The Economic Results of Neoliberal Globalisation Empirically, two aspects connected with the failure of Neoliberalism need to be recalled. The first is that during two decades (1980–2000) not only has development (improvement of social indicators) not materialised but economic growth (in terms of GDP) has even stagnated. The second and intertwined problem is related to increasing world-wide income inequality and poverty. Neoliberal Globalisation has produced neither growth nor development. Measured in terms of GDP, the recorded growth rates of the last two decades (1980–2000) have been less than those of the previous decades in many regions of the world. Today, according to Mark Weisbrot, ‘for the entire set of low- and middle-income countries, per capita GDP growth was less than half of its average for the previous 20 years’ (Weisbrot, 2002). For example in Latin America and the Caribbean, gross domestic product grew by 75 percent per capita from 1960 to 1980 and by only 7 percent per capita from 1980 to 2000. African countries witnessed an even worse collapse, 34 percent growth during 1960–1980 compared to a fall of 15 percent in the following period. An analogous situation is seen on the Asian continent, even including the rapidly growing economies of South East Asia. The only regional exception is East Asia which grew faster than the early period due to the fourfold growth of China’s GDP. Weisbrot points out that: There is no disputing this data; nor can anyone take issue with the time periods chosen for comparison. This is not a cyclical phenomenon: Both of these periods contain a world recession, and the 1970s had major oil shocks. In fact, if full data were available for the 1950s, the past 20 years would look even worse […] In short, there is no region of the world that the [World] Bank or [International Monetary] Fund can point to as having succeeded through adopting the policies that they promote – or in many cases, impose – in borrowing countries’ (Weisbrot, 2002).


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As it can be expected in this period of crisis, the majority of low- and middleincome countries have experienced a regression of absolute growth rates as according to the Human Development Index during the period 1975–2001. China and India are among those countries that have maintained a fairly constant HDI growth rate. African countries have recorded a constant decline of the HDI rates and in some cases even a devolution in absolute terms.14 Generally, behind the decline in the indicator of human development there is an increase in poverty and most likely in inequality. Neoclassical explanations of the problem can be found in some recent and influential papers.15 Common to these analyses is that global poverty rates have fallen dramatically over the last 25 years, with no evidence of rising inequality. Therefore, developing countries that have integrated into the world economy have reduced poverty and improved living standards, whilst those that have failed to do so, have recorded increased poverty levels. These findings imply that trade liberalisation helps poor countries to catch up with rich ones and that the economic growth produced helps alleviating poverty. Paradoxically, the World Bank’s conclusion that the majority of the poor have improved during the era of increasing trade and capital-liberalisation relies substantially on data from China and India: both countries are anomalies (from the point of view of the IFIs). Liberalisation in these two countries have been comparatively little,16 both nations have sheltered their currencies from global speculative pressures.17 India has been leading the bloc of developing nations against the WTO pressures for liberalisation. And both rely on state-led development strategy, with conditionality in foreign capital inflow, therefore limiting their concession on sovereignty. Again, the neoclassical explanation is that although globalisation may increase inequality in some countries, this can be remedied with structural responses and a stronger participation in the process of

14

Taking the percentage variation of HDI growth rates for periods of five years between 1975 and 2001, it can be shown that in the 1970s, before Neoliberal globalisation policies entered into effects, several countries in both North and South scored higher growth rates of HDI. From the 1980s outwards, data are generally negative for any country (Gallina, 2004). 15 Here I mention just some: Sala-i-Martin 2002; Lindert and Williamson, 2003; World Bank Report 2000/2001; Dollar and Collier, 2001; Dollar and Kray, 2000; Dowrick and DeLong, 2001. 16 See also the Heritage Foundation annual Index of Economic Freedom that ranks China and India as the least economically open nations in the world. 17 See also Dani Rodrik study on the relationship between openness and growth.

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globalisation.18 Following this logic, the IFI’s ‘successful globalisers’, then, are the exceptions that prove the rule. What can be learned by this is that, if there is any rule, it is that the conditions under which international trade and investments can contribute to growth and development are country-specific (Weisbrot, 2002; Khor, 2000). However, there is also another perspective according to which trade liberalisation and deregulated capital markets have raised inequality and limited efforts at poverty reduction (Milanovic, 2002; Bannister and Thugge, 2001; Scott, 2001; Weller, Scott and Hersh, 2001). The induced structural change in the economy provoked by market liberalization has led to falling living standards, fall in real wages and declining working conditions both in the centre and in the periphery.19 In the United States, real wages decreased by 20 percent in the last two decades of the twentieth century, while the duration of a working week increased in the same period of 10 percent. Edward Wolff stated that in the US, real wages at the end of the twentieth century were equivalent to those gained by the workers in the aftermath of the II World War. Similarly, Tablada and Dierckxsens showed that in 1993, 40 percent of the working population in the US perceived an income lower than that gained in 1973 in constant terms. Furthermore, real average hourly wages between 1973 and 1996 decreased of 10.9 percent in the industrial sector and of 4.6 percent in the service sector. This trend was already in motion during the Nixon administration. Ever since, the accumulation of wealth has been increasingly concentrated in the hands of the richest 20 percent. In 1992, Clinton stated that for the first time since the 1920, 1 percent of the population owns more than 90 percent of the population. Not surprisingly, the increase of poverty in the US has reached dramatic levels. In 1977, more than 11 percent of the population (25 million people) was living below the poverty line. Twenty years later in 1997, the figure was 35.5 million people, i.e. 13 percent of the population, which meant an increase of 43 percent. A tendency that accelerated with Clinton and that dramatically increased with Bush (Tablada and Dierckxsens, 2003).

18

The equation liberalization=growth can be found in the view of many proliberalization research centers advocating globalisation. Worldgrowth.org is an internet site based resource which provides links to reports on major globalisation issues. The Cato Institute is a long-standing advocate of the benefits of free trade and free markets. Management consultants A.T. Kearney established the Global Business Policy Council as a strategic service to help chief executives monitor and capitalise on geopolitical, economic, social and technological change worldwide. It is best known for its Globalisation Index which views free trade in a positive light. Famous free-trade business magazine, The Economist, maintains a page on globalisation. The US Alliance for Trade Expansion is an organisation devoted to answering some of the criticisms raised by critics of globalisation. 19 Economic Policy Institute Briefing Paper, 2001.


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The citizens of the European Union are facing similar problems. According to ILO (International Labour Organization) researcher Hedva Sarfati, it takes but a few figures to illustrate these trends: EU unemployment almost tripled over the past 3 decades, rising from 4 percent in 1970 to 11 percent in 1994, remaining above 8 percent by 2002; the incidence of long-term unemployment is double or triple national average across OECD; employment rates in the EU fell from 64.1 percent in 1970 to 61 percent by 1994, and still lag behind potential, hitting women in their prime, youths and male workers over 50. ‘Atypical’, often precarious, jobs increased rapidly to about a third of the working population. In response, welfare states are being reformed, scaled back and modernised, but still fail to come to grips with long-term unemployment, youth unemployment, social exclusion aggravated by inadequate social coverage and the new phenomenon of the ‘working poor’ (Hedva Sarfati, 2003).

This is a phenomenon that affects almost all industrial economies. According to Gottschalk and Smeeding analysis of the Luxembourg Income Study data ‘almost every industrial country experienced some increase in wage inequality among prime-aged males in the 1980s and early 1990s’. The data from them showed that among 24 such countries, 18 experienced a rise in income inequality, only 5 experienced a decline in inequality (Denmark, Luxembourg, the Netherlands, Spain and Switzerland) and 1 (France) saw no change. In Latin America trade liberalisation led to widening wage gaps, falling real wages for unskilled workers (often more than 90 percent of the labour force in developing countries), and rising unemployment.20 World-wide the picture is even more depressing; over the past ten years, the number of people earning $1 a day or less has remained static at 1.2 billion while the number earning less than $2 a day has increased from 2.55 billion to 2.8 billion people. Furthermore, in many countries, the share of poor people increased (in 1998 close to half the population in many parts of the world were considered poor) and did not catch-up with the rest. In 1980, the world’s poorest 10 percent, or 400 million people, lived on the equivalent of 72 cents a day or less. The same number of people had 79 cents per day in 1990 and 78 cents in 1999. This shows firstly that ‘The income of the world’s poorest did not even keep up with inflation’,21 and secondly that the neoclassic economists’ claim that poor people are still poor, but better off than before, proved to be wrong. Therefore, there is evidence that the increase in the 20

United Nations Conference on Trade and Development, 1997. Christian E. Weller and Adam Hersh, 2002. Adam Hersh and Christian Weller are, respectively, research assistant and macroeconomist at the Economic Policy Institute, which is an independent think-thank based in Washington that counts among its founder members Robert Reich, former US secretary of labor and professor at Brandeis University and economist Lester Thurow of the MIT Sloan. 21

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number of people living in condition of poverty is accompanied by the increase in the gap in incomes (Weller and Hersh, 2002). Another striking problem of this debate – and that only few mention – is the limits of the measurement methods in assessing poverty and poverty gaps. All methods are based on monetary measurement of poverty, and also, on statistics that are often estimated by the same staff of the IFIs. Robert Wade in a paper for the IMF review concluded that none of the measurements that are currently used shows a decrease in inequality: […] evidence suggests that none of the eight alternative measures clearly shows that world income distribution has become more equal over the past t20 years. Seven of the eight show varying degrees of increasing inequality. The eighth – the one that uses the Gini coefficient, countries weighted by population and purchasing power parity – shows no significant change in world income distribution. This is because the Gini coefficient gives excessive weight to changes around the middle of the distribution and insufficient weight to changes at the extremes and therefore, in this case, gives more weight (than a decile ratio) to the rapidly-growing China; the use of countries weighted by population has the same effect; and the use of purchasing power parity tends to raise low incomes more than high incomes, compared with market exchange rates. Hence this combination generates the least rise in inequality (Wade, 2001).

It should also be pointed out that the success stories that are found in the IFIs reports hide the dark side of poverty, exclusion, and social degradation behind few islands of happiness and wealth. Also, some have authoritatively pointed out that the World Bank’s data set on inequality suffers from major deficiencies of scope.22 German sociologist Zigmunt Bauman once passionately said: […] We normally speak about the money aspects of poverty which are extremely important and I wouldn’t play them down because it is the conceit of people who are better-off that being deprived of money is not a painful thing. But I think we often underestimate the pain of humiliation, being denied the value of your worth and identity, of how you earned your living and kept your commitments to your family and neighbours (Bunting, 2003).

Emerging Actors in the Global Economy The US and the EU Commission models are unable -so far- to give a alternative answer to the current crises and propose a more radical vision on the economic 22

Galbraith, Conceição and Kum (2000). .


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policy that can lead to a ‘good society’. But are the emerging global players such as China, India or Brazil having their own answers, or are they just defending themselves from the competition pressures coming from Globalisation and therefore submitting welfare policies to a second rank priority? From the second half of the XXI century, the major economic (and political) player will be China and to a lesser extent India and Brazil. Will the innovation in economic thinking and policies therefore come from these countries or will they be some other non-enlightened imperial power? These are legitimate questions that will take a couple of generations to answer, but already now the fear and hopes are vividly present among intellectuals and policy makers. At the current growth rates, almost 10 percent per year during the last decade, between 2040 and 2045 China will become the largest economy of the world measured in total GDP.23 The four emerging BRIC countries Brazil, Russia, India and China will pass from the current 15 percent of G6’s GDP to more than half in 2025. China’s GDP per capita will be the same in 2050 as that of developed economies today, i.e. approximately 30,000 US dollars (Wilson and Purushothaman, 2003). As one might expect in a developing countries of this magnitude, the economic growth in China is not leading to an immediate distribution of wealth. However, in this case, increases in inequality do not imply increases in poverty as shown for other countries. Furthermore, inequality in China is rising on the urban/rural and on the East/West axis but not within the same locality. This means that everybody is getting richer but at a different speed, contrary to what has happened in Africa and Latin America. Nevertheless, this growth is producing a growing underclass in the urban areas with an increasing need of social and public services. What has been labelled as the Chinese decision of ‘retreat from equity’ is showing its signs. According to the World Health Organisation ranking of public health system, China was placed at 144 out of 191 countries, behind some African countries and India (placed at 112 despite having half of China’s GDP per capita).24 The government spending on health – as percentage of total government spending – has dropped from a 16–17 percent in 1991 to 10 percent ten years later. Chinese life expectancy is comparable to that of medium-level developed countries but wide disparities exist between regions. Western China is largely affected by a poor health care system which, in turn, affects poverty reduction strategies. The social security system is also affected by changing demographic patterns. According to UN forecasts, by 2040, China will have only two working-age people for every person over 60 compared with 6.4 in year 2000. China will become old before becoming rich. Measures are being taken to establish new forms of cooperative health care systems with the participation of the local authorities, 23

These projections are made using a model that combines the latest demographic projections and a model of capital accumulation and productivity growth. 24 The Economist, August 2004.

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voluntary participants and the central government. But these projects have some drawbacks: people and local authorities are unwilling to pay for something they do not need in the immediate future and therefore do not participate. This attitude leaves space to the market to fill in the holes and if the state does not take the due precaution, better health care will be available only to the affluent. According to James Galbraith, this is not a developing country problem or a problem of market vs. socialism: Advanced Western market economies that fail to provide adequate assurances of social security suffer from exactly the same syndrome, and most of them have long since built institutions to overcome the difficulty. In other words, the correct way to analyse China is not as either a uniquely socialist or free-market economy, but rather as a developing country facing exactly the same range of fiscal, demand management and sectoral-balance problems that all developing countries face, irrespective of the ideological terms in which they describe themselves, but with particular characteristics rooted in the evolution of Chinese development up until now (Galbraith and Lu, 2000, p. 11).

For the American economist, the solution lies in the creation of a marketfriendly social welfare and credit system that will enable a certain level of social security for all, as it has occurred in the West during the period of prosperity. How this will be implemented given the pressures from outside of commercial modernisation and a leadership committed to a distorted free market image remains a deep and troubling question (Galbraith and Lu, 2000). China’s reforms show indications of a sustained move towards a market system in which the private sector is the rule (Galbraith and Wang, 2001). China’s retreat from equity is a source of increasing insecurity for Chinese people that traditionally are not risk takers. According to James Galbraith and Jiaqing Lu: in 1998, new employment growth was 0.1 percent, the lowest since 1949. Overall unemployment, including layoffs and rural immigrants who lose their jobs, is higher still. Hu estimates urban unemployment at around 160 million and rural unemployment at 170 million, for a total of 330 million – a huge figure, and possibly exaggerated, but indicative nevertheless […] Living standards for those who lose their jobs are low. According to Hu, average monthly living fees a laid-off urban worker can get are 77.1 yuan in 1996, and 82.7 in 1997, about 15 percent of the average monthly wage of Chinese workers in the same year. For those laid off in remote regions and provinces hosting large state owned enterprises (SOE’s), particularly in North China, the monthly living fees they can get are surprisingly low: Heilongjiang, 5 yuan per month, Qing-hai, 25 yuan per month’ (Galbraith and Lu, 2000, p. 11-12).


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The traditional security policy offered by the state before ‘opening the door’ has practically vanished. Retired workers received 80–100 percent of their salary of the last year and kept medical coverage and other welfare benefits. The future is more expensive and not surprisingly, savings are rising and thus to make future plans affordable, consumption necessarily has to limp. The Chinese socialist-market model has dramatic implications also for the rest of world. Nuclear energy production will be doubled to satisfy the demand of energy at a rate of two nuclear plants per year for the next six years. Similarly, gas emission will worsen the ongoing climatic change. Thus, the kind of development policy China, and then India or Brazil will implement in the next 10–15 years may be worrisome; as is worrisome the geopolitical order that this will impose worldwide for the control over needed resources.

Conclusion In today’s globalised world, the only thing that observes borders is wealth creation. Global economic and social indicators clearly show the trends produced by the implementation of neoliberal policies during the last two decades. These data reflect the other side of the story of capitalist mode of production. The increase in the wealth of the dominant class, which has benefited from tax cuts, privatisation, de-regulation and fiscal benefits, has occurred to the detriment of the underclass. This has also had consequences for the social cohesion and inclusion of societies, families and communities. Stricter forms of control and mass imprisonment are the measures applied in the United States to cope with increasing criminality: today, in the US there are 1.5 million people in prison and 3.5 million are waiting for a process, while 28 million people live in ‘ghettos’ protected by private security guards.25 The failures of the neoliberal strategy in poverty alleviation (the job of the World Bank) and macro-economic stability (the job of the IMF) have been exhaustively summed-up by many authors with a wealth of reliable data. This statement contrasts the widely accepted view among mainstream economists that globalisation leads to immediate income convergence and eliminates inequality between and within nations. Indeed, thoughtful scrutiny of this issue has brought opposite results (Milanovic, 2002 and 2003). Therefore, it seems that there is a ‘lacuna between the reality of neoclassical theory and the reality of empirical observation’ (Darity and Davis, 2005, p. 141). Some scholars, such as Branko 25

Indicative of this attitude are Anne Krueger (IMF nr. 2) comments at the Conference on Globalisation in Historical Perspective (held at Santa Barbara on May 4-5, 200l) […] ‘the effects of globalisation on developing countries’ prospects for improved well-being, an instance where those protesting globalisation seem to be largely ignorant of the facts’. And […] ‘those who perceive globalisation to be harming the poor are in fact largely misinformed’.

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Milanovic and Joseph Stiglitz, have recently reached the conclusion that given the profoundness, importance, extent, and implications of the current solutions to poverty for the daily survival of billions of people, underdevelopment and inequality cannot be reduced to a ‘blue print’ approach (one-fits-all). Others have called for the drafting of an alternative social contract and a re-subordination of the economic system to broader social objectives (Ocampo, 2002). The reappropriation of the development agenda and the ownership of development policies are other necessary aspects to be taken into account in both the Centre and the Periphery. To respond to the challenges and threats of the current dominant neoliberal ideology, future development agendas need to focus on strategic sectors and objectives that can enable groups of countries to regain control over markets and production systems embedded in the territory. Probably, a national perspective is doomed to fail, unless the nation-state has the magnitude of that of China or India. The results of the EU Commission integration strategy of openness and internal cohesion, and its sustainability in this newly opened era has disclosed the lack of a ‘European alternative social model’, but the member countries still have manoeuvring room. Whether China is going towards the direction of a social welfare economy is also doubtful. There, increasing inequality is not coupled with increased social security and welfare policies. Consumerism and highly polluting production systems are threatening the global environment, although not as much as industrialised countries do. However, global players also have a responsibility to guarantee global stability and growth, since the choice of one model of economic development and social welfare over another can have serious repercussions on the welfare of the world’s communities. In fact, issues of poverty and inequality, and the underlying mode of production that creates them, are not only internal challenges to growth with redistribution, but also a global challenge of preserving the global common goods (water, air, soil) for the future generations. With this in mind, to shift the focus of economic policy from a ‘passive’ management of globalisation to a world communities welfare is necessary to re-think the global development agenda at the international level and also to restore the centrality of the concept of social justice in the economic debate. The broader social objective of economic growth should also be reintroduced in the macro-economic policies framework and cannot be separated from participation frameworks that people need to develop to achieve the objectives and priorities set by the community in which they live. Global welfare can be thus achieved if national strategies start to diverge from the neoliberal economic model towards a balanced social model in which the control of the civil society upon state policy is the central point. But, what it is even more important in order to achieve a welfare system for the world communities is a development and growth model that transforms the existing diversity and variety of markets, forms of governance and institutions at national and local level into a driving force and without imposing blue print solutions. At the same time, the governance at the international level needs deep reforms to reequilibrate the power structure established in the last 30 years. Some economists


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have recently advocated for a World Region Organization to regain equilibrium in international relations and provide a forum in which developing countries can be better represented (Holland, 2004). Others have claimed the establishment of global contracts on the common goods to stop the pillage of global resources for the benefit of the few (Petrella, 2005). Once John Maynard Keynes said that ‘wishes’ are the parents of ‘thoughts’ (Keynes, 1931). But the question on who can then be the centre of a new narration – autobiographic and alternative – to the technocratic dominant model remains still open.


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Index

Activity rates 22–3 Actuarially neutral 13 Adverse selection 73 African 114, 117–8, 132–3, 137 Ageing 1, 3, 11, 16, 21–2, 24–5, 30, 121 of societies 1 Aggregate demand 42, 84, 102 Aggregate labour supply 39 Aid-allocation 109 American Earned Income Tax Credit 95 Anglo-Saxon direction 41 Argentina 20, 105, 131 Asymmetric information 116 At-persistent-risk-of-poverty 53–4 At-risk-of poverty line 49, 57 At-risk-of-poverty rate 53–5 Austria 50, 53–8 Automatic macroeconomic stabilisers 76 Baby-boom generation 16 Balance of payments 110, 112–114 Banks 101, 110–111, 114, 116, 123 Basic income 4 pension 118 Bequest 17 Bismarck 13 BRIC countries 2, 137 Business cycles 101–102, 104 Capital accumulation 99–101, 137

Capital theory controversy 19 critique 17 Care 3, 25, 30, 33, 71, 79, 86, 114, 118, 121, 137–8 Celtic Tiger 53 Child mortality 21 Chile 19, 105 China 7, 105, 126, 128, 133, 136–140 Choice 12, 25–6, 31, 46, 75, 79–80, 83, 88–9, 102, 140 Citizenship 121, 124 Civil society 7, 117, 123, 128, 130, 140 Cohesion policy 52 Collective welfare 106, 115 Common goods 130, 140–141 Communitarian 120, 123 Comparative advantages 64 poverty 51 Consensus model 23 Consumerism 1, 41 Convergence 1, 31, 92, 94–7, 128, 139 Corporate social responsibility 106 Cost-Benefit Analysis 60 Credit 70–71, 73, 77, 96–7, 138 Current account surpluses 106 David Ricardo 63 Day-care 33–4 Dead weight 71, 77 Debt flows 103, 107

156


Defined Benefit scheme 12 Contribution scheme 12 Demand 6, 19–22, 24, 26, 31–2, 34, 42, 45, 64–5, 75–7, 82, 84, 97, 102, 107, 138–9 policy 83 Democracy 95, 109, 124–6 Democratic governance 124 Demographic 2–7, 11, 16, 17, 21–5, 27–35, 59, 67, 122, 137 changes 27–8, 30–31, 33, 35 Denmark 28–29, 50, 94, 135 Dependency 24–5, 27–9, 35, 113 ratio 24–5, 27–9, 35 Deprivation 45, 48 De-regulation 132, 139 Developing countries 6, 102–110, 117–123, 133, 135, 137–9, 141 Disempowering 121 Dismantling 27, 109, 115, 127 Distribution 16, 25–6 Distributional issues 2, 4–6 Division of labour 3 Dublin 5, 45, 52–8 East Asia 117, 132 ECHP 5, 52–8 Economic development 6, 63, 67, 72, 74, 87, 105, 112–113, 116, 140 Economic inequality 2–3, 94 Education 2, 21, 28, 31-3, 45, 47–8, 53, 66, 87, 96, 100, 109, 113–115, 117–119 vouchers 119 Educational attainment 27, 33, 35 Effective demand 20–21, 26, 76, 81–2, 86. Elderly people 28, 30, 121 Eligibility effect 30 Emigration 112–113, 123

Employability 38 Employers 5, 37–43, 80–1, 84 Employment rates 51, 135 reports 33 subsidy 5 Empowerment 124–5 Equality and efficiency 4 Equilibrium 6, 12, 51–72, 74–8, 117, 141 economists 63, 68, 74, 77 Ergodic 71–2 EU 1–2, 5, 27, 30, 34, 45, 49, 76, 96–7, 100, 127–8, 135–6, 140 -Commission 127, 136, 140 Euro 2, 39, 42, 48, 95–7 Euro-Mediterranean 127 European Employment Strategy 33 Monetary Union 47 social model 127 Union 23, 28, 95, 126, 135 welfare states 1–2, 27, 35 Europeans 90–5, 97 Female participation rate 22, 30 Fertility 11, 21–2, 28 Financial crises 101, 103, 131 flows 103–104, 110, 112, 124, 129, 131 market 19 sustainability 11, 118 Financing 3, 13, 25, 32, 34, 106–107 welfare states 3 Fiscal policy 97 Flexibility 4, 15, 23, 38, 77, 82–4, 86, 99, 131 Flexible capitalism 127 downwards 42 security 127 Frictional unemployment 80

Index Fully funded pension systems 3, 5 Funded pension systems 3, 5 G7 111 General equilibrium model 6, 66–7, 71, 77 taxation 13, 15, 25 Theory 74, 81, 87, 125 Generations 3, 7, 12, 16, 23, 25–6, 30, 32, 62, 137, 140 Genuine uncertainty 51–63, 67, 71, 77 Geographic 91 Germany 28–9, 41, 50–51, 76, 91, 94–5 Gini coefficient 55, 56, 136 Global Development Finance 2003 111 Global Economic Prospects 2006 111 Global welfare 62, 140 Globalisation 2, 6, 34, 119–121, 123–4, 125–6, 128–134, 37, 39–40 Good governance 109, 125 Good society 136 Governance 106, 109, 124–5, 140 Governments 106, 113, 115–116, 121, 123, 126–8, 130 Grassroots organisations 109 Growing wealth 31 Growth in real–income 27 model 99, 140 theories 113 Harrod-Domar 99 Hawilaad system 115 Head count 53 Health 25, 30, 33, 45, 47–8, 53, 73–4, 87,100, 109, 113, 117–119, 121, 137–8 insurance 73, 119

157 Heavily indebted poor countries 106 Hedge funds 131 Housing 46, 48, 58, 87, 115 Human Development Index 133 ICT revolution 129 IMF 66, 105-6, 109, 111, 118, 131, 136, 139 Immigration 22–3, 53, 122–3 Income convergence 94–6, 139 inequalities 13, 121 poverty 49, 53–5, 57–8 quintile ratio 55 taxation 82 transfers 32–3 Indexation 24 India 7, 105, 133, 137, 139–140 Indicators 1, 5, 45–9, 51, 53, 55–6, 58, 126–7, 132, 139 Individual risk 73 Industrial reserve army 23, 25 Inequality 2–4, 6, 47, 55–6, 79, 82– 94, 115, 120, 125–6, 132–7, 139–140 Inflation 37–8, 42, 63 Informal economy 119–120 market 6 networks 115 Infrastructures 72 Insurance 13, 69–70, 73–4, 77, 80–1, 83, 89, 111, 117–119 markets 70 Integration 27, 31, 33, 34–5, 46, 48, 91, 95, 102–103, 105, 107, 116,118, 129, 140 Interest rate 95–6 International trade 134 Inter-personal comparisons 65 Invisible hand 64 Involuntary Unemployment 82 Ireland 32, 49, 53–8 Iron law 64 Italy 15, 24, 29, 51, 90, 114

158


Jeromy Bentham 65 Job search 80 Just society 4 Justice 51, 95, 126, 140 Keynes 19–20, 66, 69, 74–6, 81–3, 89, 101, 125–6, 141 Keynes’ saving paradox 20 Keynesian theory 1 Knowledge based society 32 Labour Force Survey 58 market 1–7, 15, 21, 23–4, 26–8, 31–5, 37, 41, 43, 58, 118, 120 market flexibility 15, 23 market inflexibility 41 market integration 34 market policy 86 market structure 79 supply 15–6, 18–9, 22–3, 33, 39 Laeken 5, 45, 47–9, 51, 53, 55, 58 indicators 47–9, 53 Later retirement 1, 15–6 Latin America 108, 114, 117, 126, 132, 135, 137 Leisure 34, 80 Léon Walras 64 Life cycle 50 expectancy 17, 70, 72, 137 long learning 4 Lisbon strategy 47, 100, 127 Longevity 11, 15, 21 Lucas, Robert 82, 99, 102 Luxury goods 32 Maastricht Treaty 46–7 Macroeconomic 37, 68, 70, 73–7, 82, 94–6, 102, 106, 113, 118, 139–140 policy 76, 94, 118 uncertainty 74–7

Mainstream economists 16, 67, 139 Major donors 109 Manufacturing 84–6, 88, 90, 92, 96 Marginal productivity 99, 101 propensity to save 17, 19, 21 theory 20 Marginalised groups 34, 74 Market economy 65–8, 70–71, 76 Market failure 119 Marketisation 4 Marx 84 Methodology 49, 62–3, 68, 75, 77–8 Migrant households 114 workers 6, 34, 111, 114–115 Migrants 6, 110–2, 120, 122–4 Migration 3, 22, 113, 116, 121–3 hump 116 Monetary measurement 136 Multi-pillar pension systems 118 Multiplier effects 113 Myopic 62 NAIRU 37–8, 41 National accounting systems 114 Action Plans 46 welfare policies 128 Natural rate 19 Negative effects 103, 109, 113, 130 Neo-classical 12, 15, 17, 19–20, 22, 61–2, 64–7, 69–70, 74–5, 77, 82, 87, 99, 102, 123, 133, 139 capital theory 20 economists 15, 17, 19, 62–5 equilibrium 74 Neo-Keynesian 84, 86 Neo-liberal 117, 126–8, 130, 132–3, 139–140 Neo-Malthusian 26 Net market incomes 57 Netherlands 28–9

Index New Deal 37, 39 Nomads 131 Nominal rate of interest 19 Normal life course 23 Normative value 47 Notional Defined Contribution 11 OECD 1, 27, 30, 34, 47, 66, 108, 135 Official Development Assistance 108 Old-age dependency ratio 24, 28–9, 35 saving 17–9 Older workers 15, 23, 33–4, 89 Open Method of Coordination 5, 29, 46, 48–9, 51–2 Pareto efficient 77 Optimality 65 Participation rates 23, 33 Path dependent 72 Pay-As-You-Go (PAYG) 3, 6, 11–6, 18–21, 24–5 Pension 1, 3, 5–6, 11–20, 22–6, 29–30, 72, 77, 95, 118, 122, 131 benefits 12, 16, 24 debt 19 Perfect competition 65 Policy choice 12 Popper, Karl 72 Portugal 50, 91, 95–6 Positivism 66 Post-Keynesian 62–3, 76–7, 102 economists 62–3, 76–7 Poverty 4, 5, 7, 45–58, 63, 66, 95, 106, 109, 115, 117–121, 125–7, 132–4, 136–7, 139–140 gaps 136 line 47, 55, 134

159 reduction strategies 118, 137 risks 49–50, 52–5, 57–8 statistics 45, 51 Private old-age insurance 12 Privatisation 18–9, 30, 102–103,105, 115, 118, 130, 132, 139 Productivity growth 23–4, 137 Propensity to save 17, 19–21 Public administration 101 goods 109, 119 Pension Expenditures 29 Purchasing power parity 136 Quid pro quo 13 Rational expectations 67, 102 Real investments 72 wage 80–83 Regional accounts 52 disparities 51 poverty 51, 54–5 scope 46 standards 55 Remittances 6, 102, 110–116, 119–120, 123–4 Replacement rate 12–6, 22 Reserve army 23, 25, 83, 88 Retirement age 15, 23, 50 Retrenchment 13, 27, 126 Rich countries 3, 95, 122–3 Rigidities 79, 81, 91 Risk 6, 17, 19, 34–5, 49–51, 53–5, 57–8, 68–74, 77–8, 83, 88–9, 96, 102–103, 108, 116, 121, 123–4, 138 Rudimentary welfare provisions 49 Rural poverty 117 Saving(s) 5, 16–23, 30, 68, 73, 99–100, 102, 111–112,114, 123, 139

160


Scandinavian countries 49 Schumpeterian Workfare Postnational Regime 126 Secondary indicators 47, 55–6 Single European Act 127 Skilled jobs 38 Small open economies 2 Social assistance 46, 118, 122 capital 100 choice 80 classes 24 cohesion 22, 26, 46–7, 52 exclusion 45–9, 58, 135 inclusion 5, 45–9, 52, 58 indicators 132, 139 insurance 117 integration 118 networks 119–121 protection 41, 48, 50, 57–8, 118, 120, 122 security 1, 7, 20, 31–2, 41, 77, 88, 137–8, 140 transfers 57 welfare 57, 95, 117–119, 121, 124, 138, 140 welfare economy 140 Solidarity 25, 30, 89 Somali case 115 South East Asia 132 South Europe 22 Spain 28–9, 50, 88–91, 94, 96–7, 135 Spatial segregation 52 Spending 1, 20–1, 24–5, 29–35, 41, 82, 108, 118, 137 Sraffa 19, 101 Steady-state 99 Structural indicators 47 unemployment 46 Subsidised employment 37 Supply-side 99, 102 Sustainable pensions 29–30

Sweden 11, 16, 25, 28–9, 50 Tax regimes 106 Taxation 13, 15, 18, 25, 76, 82 Trade 2, 24, 64, 80–1, 83, 106–107, 116–117, 122, 126–7, 129–135 liberalisation 133–5 unions 23, 80–81, 83, 117 Training 32–4 Transnational networks 121 policy 115 Treaty of Amsterdam 46 Triadic block 126 Trust 100–101 Typology of welfare states 5 US 96, 109–110, 127, 131, 134–7, 139 Uncertainty 6, 61–3, 67–78 Underclass 137, 139 Underdevelopment 113, 125, 132, 140 Underemployed 88, 90 Unemployment 6, 16, 23–4, 31, 34, 37–8, 40–42, 46–7, 50–53, 63, 71–77, 79–7, 112–113, 135, 138 benefit 34, 38, 41, 71, 80 insurance 80–81, 83, 89 United States 84–7, 89–90, 92, 95, 97, 109, 126, 131, 134, 139 Urban households 115 User fees 119 Utilitarianism 65 Vicious circle 113, 133 Vienna 52–8 Voluntary 17, 24, 80–82, 89, 106, 137 Wage flexibility 82

Index payroll taxes 13 Welfare expenditure 48, 117 gains 123, 132 policy 46, 67, 128 provision 49, 115, 117–118, 120–122, 124 reform 5 regimes 50 services 32–3

161 state 1–7, 13, 23, 25, 27, 31–5, 61, 63, 65, 66–8, 71, 73–8, 82–3, 87–8, 95, 109, 116–118, 120, 122, 126 state crisis 1 Work benefits 37, 40 World Bank 103–104, 107, 109–112, 118, 126, 132–3, 139 World Health Organisation 137 WTO (World Trade Organisation) 133

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