TCS Daily

Europe's Way Forward

By Johnny Munkhammar - February 24, 2005 12:00 AM

Everyone talks about the need for economic growth. It is a top priority for the Barroso Commission. But does any leading politician realize what changes need to be made? We have to move rapidly away from the European social model. Does any Western European leader have the boldness needed for this kind of sweeping reform?

The European social model, with high taxes and big public spending, is not the solution to our problems of low growth and declining living standards. On the contrary, it is the main cause of our problems. Yet the much-ballyhooed report written by former Dutch Prime Minister Wim Kok, "Facing the Challenge", states that we are not only going to keep it, but that keeping it is the main aim of the reforms. "To achieve the goals of higher growth and increased employment in order to sustain Europe's social model [my italics], will require powerful, committed and convincing political leadership."

That is impossible. We can no longer hide from the problems or avoid the challenge. For as the Kok Report also states, somewhat more wisely: "Time is running out and there can be no room for complacency".

Unfortunately the report just scratches the surface of the system. The main problem is that the average Western European tax pressure rose from 20-25 percent in the 1950s to 40-50 percent in the 1980s. Government became an ever larger part of society. This is a heavy burden on all productive forces.

The famous aim of the Lisbon process was to close the wealth gap with the US by 2010. Since 2000, when it was conceived, the gap has widened. In fact, the average person in 38 American states is richer than the average person in any country in Europe, except in Luxemburg. And the average American is about 40 percent richer than the European. Employment is also higher.

High taxes and high levels of social protection have created a situation in Western Europe in which few work and more people live off the state. With the current systems, fewer working people will be supporting a larger part of society. That makes the Lisbon Strategy aim to increase employment rate to 67 percent of the working age population somewhat pointless, since that share of the total population continuously decreases.

Globalization increases competition and mobility, which push taxes downwards. Companies will place their production where the conditions are the best. Every third large Swedish company has outsourced jobs in recent years. Taxes on capital and corporations have already been lowered and this will continue.

The European social model thus has to change fundamentally. In a society with lower taxes and higher demand for welfare services, those services will be paid for privately and provided by private companies. There has to be a very large difference between working and not working, making work and production truly profitable.

We all want more companies to move here, especially their main functions. We want more advanced jobs with high salaries. We want new companies to start and grow. We want more people working and fewer people to depend on government. We want economic growth to increase. What should we do in order to achieve those aims?

The challenge is there. So is the way out. Here are four reforms which would change Europe to the better:

1. Abolish the public pension age.

When the public pensions were introduced in Sweden, the pension age was 67 and life expectancy 55. Now, the real pension age is 58 and life expectancy is 80. So we had to do a pension reform, but it only came half way. Under the current systems, the population of working age in Germany, for example, would be reduced from 56 million today to 41.5 million in 2050. In Italy, it would decrease from 39 to 22. The expenses would explode: in Spain the public pensions' share of the public expenses would increase from 50 percent today to 80 percent in 2030.

Nobody should be forced to work. But the choice not to work must be paid for by oneself. And consequently nobody should be forced to retire at a certain age. We could replace the pension age of today with a system that gives you a basic public pension, and the earlier you retire, the lower it is. If you wait until 75, it gets rather high. Of course, above this basic public level, you can save privately, but that is another issue. This pension reform would lead to more work being done and less public pensions expenses - and hence lower taxes.

2. Reduce benefits in public social insurance

European countries have similar systems of mandatory public social systems for sick-leave, unemployment, parenthood leave and early retirement. In Sweden, there are in practice no limits to for how long you could live off these systems. The basic public level of contribution is 80 percent of salary, but most have higher levels than that, due to negotiated extra benefits. For a person with an average income, the benefit from going to work instead of living off these systems is about €5-10 a day due to the high taxes when you do work. Thus, many people choose not to work. Only about 3 million out of the Swedish population of 9 million go to work on an average day. Over 60 percent of the adult population is to some extent dependent on the government.

This is highly destructive. You cannot punish work and reward living off the work of others. Especially if you believe that it would be good if more people do work and growth increases. There should be a limit to how long you can live off the systems and the high levels should be reduced to a basic level, perhaps half of the level today. Then, incentives to work would be of a totally different kind and public expenses substantially lower. The labor supply would increase. In turn, less government intervention would open a new market of private insurance where free competition would create new and better systems that will, for example, make sick people healthy again so they can get back to work.

3. Free enterprise in welfare services

In Western Europe, the government finances most welfare services like health care, child and elderly care, school and higher education. In many countries, the services are also almost entirely provided by government. Basically this is the system of the planned economy - one that finances, one that provides, a monopoly. Thus, you get lines of people waiting for treatment, you get inefficiency and a waste of resources. In the labor market perspective you get people working in the public monopolies with low salaries, little influence and you hamper the emergence of a new service sector.

Today, public welfare services try to perform everything for everyone but fail for so many. The resources would be better used if there were a clear limit as to what the public services provide and what they don't provide and you thus instead have to buy for yourself. And the basic services paid for by the government should always be procured in the market among private companies. This would lead to better functioning services and a vast market for private welfare companies. A new service sector could emerge and competition could improve the services. The staff could get better salaries since they get to choose between different employers and, not least, be able to start their own business.

4. Lower taxes

Western Europe has the highest taxes in the world. Naturally, this makes our climate for creative business and work less attractive, not least in the global perspective. In Sweden, the average wage per hour for a worker in the industry is about €20, in China it is €1. It is not matched by a difference in productivity, and taxes are of course one explanation for the difference. Every third Swedish company has outsourced production in recent years. This is not a threat - the fact that China, India, Brazil and others grow is a great promise - but it is a challenge for the West.

Several taxes have already been lowered. Capital taxes are lower, since capital otherwise leaves the country. Corporate taxes are lowered - Austria just lowered its rate from 34 to 25 percent following EU enlargement. But the total tax pressure remains stubbornly extreme - and harmful. The reforms of pensions, social security and welfare services that I have mentioned would make radical tax reductions possible. Especially harmful taxes on work and enterprise could be abolished and tax pressure lowered. This would make work more attractive, improve the business climate and increase economic growth.

Government is not the solution to our problems, government is the problem. Government is the main obstacle standing in the way for more jobs, more companies, higher growth and thus better living standards. The direction of the reforms for a brighter future must be the reduction of big government. And thereby the release of the creative forces of humanity.

This is the way to a better society. Stronger incentives to work will lead to more people working, and lower tax pressure lead to higher growth. We have to talk openly about this, we can't hide the necessity of big changes behind rhetoric and policy changes on the margin. Europe can again become a beacon of growth and impressive living standards - if we want to.

The author is director of the Swedish free market think-tank Timbro and author of "The Final Collapse of Big Government" (not yet in English)


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