Are there Hayekian Welfare States? Why Some Countries with Big Government also Have High Economic Freedom

Andreas Bergh

Dimensions of EF

• Freedom from government• Property rights• Sound money• Trade• Freedom from regulation

Correlation matrix for EF-dimensions

Taxes and economic freedom 1970-2000

5

5.5

6

6.5

7

7.5

8

8.5

9

9.5

20 25 30 35 40 45 50 55 60

USA

France

Sweden

Economic freedom excl. gov. s ize

Tax ratio

1970

2000

1970

2000

1970

2000

Huskinson & Lawson (2014) Clusters of economic freedom

Why are “social democratic market economies” doing so well?

Persson and Rothstein (2011). "Why Big Government is Good Government.“APSA 2011 Annual Meeting Paper.

Persson, & Rothstein (2015). "It´s My Money. Why Big Government May be Good Government". Comparative Politics 47(2)

Taxes and economic freedom 1970-2000

5

5.5

6

6.5

7

7.5

8

8.5

9

9.5

20 25 30 35 40 45 50 55 60

USA

France

Sweden

Economic freedom excl. gov. s ize

Tax ratio

1970

2000

1970

2000

1970

2000

What are (supposedly) the problems with big government?• (1) Neo-classical answers: Taxes, distortions &

disincentives. Free riding on welfare benefits.

• (2) Public choice answers: Corruption, rent seeking.

• (3) Hayekian answers: The knowledge problem.

Neo-classical answer

However…

• Clever design of taxes and expenditure can (theoretically) minimize distortions

• Nicholas Barr, Torben M Andersen, Peter Lindert (and many, many others)

The equity-efficiency trade-off

• Okun’s leaky bucket• -> Countries with bigger government that

redistribute more should have• higher income equality• but also be poorer.

• Are they?

Figure 1: The efficiency-equity trade-off – OECD countries 2008

55 60 65 70 75 8050

70

90

110

130

150

170

190

210

105.67 107.76105.92115.84

63.81

106.53103.16

100.25 105.384.05

51.38

119.64

89.499581.73

198.09

119.87

73.82

165.1

63.73

56.42

90.86

115.69121.29112.04

144.49

100-GINI

Inco

me,

1.0

00 P

PP U

S$

Torben M Andersen (2015)

Andersen (2015).

• Apparently, few countries are clever in this way.

• Have the politicians not taken public economics and read Barr’s book?

Public choice answer

• Why would politicians implement the ”optimal social planner solution”?

• Myrdal (1968): civil servants will deliberately introduce extensive public sector regulations to increase citizen’s willingness to pay bribes

• Mueller (2003) argues that “corruption is almost an inevitable consequence of the existence of government and the principal/agent problems that come with it” (p. 545).

The knowledge problem

http://www.safehaven.com/article/1399/generations-and-business-cycles-part-ii

Hayek (1945) The Use of Knowledge in Society, American Economic Review

Knowledge is decentralized, discovered through experimentation

Example: Stabilization policy

It is impossible for a planner to know where you are in a business cycle!

Different types of government size

Knowledge needed

Fun

ds n

eede

d

more

more

Keynesian Stabilizationpolicies

Low basic income

Means tested welfare

Public pensionscheme

Encouragement ofentrepreneurs

Trust

Growth

Welfare state size

Income equality

Algan and Cahuc (2010), Bergh and Bjørnskov (2011, 2014), Bjørnskov and Svendsen (2012).

Ignoring trust lead to biased results – especially for between country analysis (RE, scatter plots), as opposed to within country variation (country FE).

-

+

+

+

+

Figure 1: The efficiency-equity trade-off – OECD countries 2008

55 60 65 70 75 8050

70

90

110

130

150

170

190

210

105.67 107.76105.92115.84

63.81

106.53103.16

100.25 105.384.05

51.38

119.64

89.499581.73

198.09

119.87

73.82

165.1

63.73

56.42

90.86

115.69121.29112.04

144.49

100-GINI

Inco

me,

1.0

00 P

PP U

S$

40

66

Social trust: 40

Torben M Andersen (2015)

So far so good

• Some countries with big government have high economic freedom today

• But that was not the case in the 1970s.

• Can this be explained?

• Idea: Trust, state capacity and de-industrialization

Some economic history

• Sweden and the US similar size of government until 1960

• Transfers (social insurance, pensions), child care.

• 1970s: oil crises, stagflation• Trust and state capacity helps to understand

both low levels of economic freedom in the 1970s

• …and the far-reaching reforms 1980-2000.

More on this here…

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Conclusion

• Some seemingly odd countries combine big government and relatively high growth

• Trust is a background factor that explains the oddity• Trust also gives a state capacity that enables

countries to experiment and learn from their mistakes• These countries were half-socialist in the 1970s, but

have since then increased EF more than most comparable countries

• Hayekian welfare states?

• Hayek, Friedrich A. 1945. The Use of Knowledge in Society. American Economic Review 35(4): 519-530.• Mueller, D.C. (2003). Public Choice III. Cambridge: Cambridge University Press.• Myrdal, J. (1968). Asian Drama: An Inquiry into the Poverty of Nations. Harmondsworth: Penguin.• Persson, Anna and Bo Rothstein. 2011. "Why Big Government is Good Government." APSA 2011 Annual

Meeting Paper. • Persson, Anna & Bo Rothstein (2015). "It´s My Money. Why Big Government May be Good Government".

Comparative Politics 47(2)• Bergh, A. and C. Bjørnskov. 2014. "Trust, welfare states and income equality: Sorting out the causality."

European Journal of Political Economy 35:183-199.• Bergh, Andreas and Christian Bjørnskov. 2011. "Historical trust levels predict the current size of the

welfare state." Kyklos 64:1-19.• Bjørnskov, Christian and GertTinggaard Svendsen. 2012. "Does social trust determine the size of the

welfare state? Evidence using historical identification." Public Choice:1-18.• Algan, Yann and Pierre Cahuc. 2010. "Inherited Trust and Growth." American Economic Review:2060-

2092.

What I will discuss

• Are there Hayekian Welfare States?• Why do some countries with big government

also have high economic freedom• Does government size belong in an index of

economic freedom?

Example: How steep is the efficiency – equity frontier?

Andersen (2015) SOU 2015:53

the efficiency – equity frontier revisited

Andersen (2015) SOU 2015:53