Economics 110
Class 4
European Social Democracy
1. On February 7, pass out the first take home examination, due February 21st.
2. Shift to Varieties of Capitalism. We will look somewhat at Europe.
3. General Principles of Democratic Socialism -- Handout
a. Democratic
1. Seeks to bring about social change that is peaceful, non-violent, gradual, and acceptable
to the majority of people (contrast to Marx)
2. Prefers small-scale direct democracy to large-scale representative government (model is
the local school board)
3. sees the modern corporation as having important social outcomes and therefore it must be
brought under democratic control (contrast with the private property rights theory)
4. Extends democratic principles to the non-political aspects, such as work and education
b. Moralistic
1. No rejection of religion
2. High value given to social justice, cooperation, “brotherhood”, and peace
3. “to eliminate all unnecessary suffering caused by economic or social structures”
c. Egalitarianism
1. “No one is so much richer or poorer that they cannot mix socially on equal terms”
2. Inequality should be the minimum necessary to achieve production incentives
3. Sees inequality as due to monopoly power, luck, and the unequal bargaining power
between employers and workers
4. Argument: Relate to the Theory of Marginal Utility
Argument: John Rawls
Argument: Inequality of wealth generates inequality in political power (ruins the idea of
democracy)
Argument: Inequality of wealth precludes equality of opportunity (Thurow’s crew race)
Argument: Inequality fosters divisiveness and breaks down social cohesion
Argument: market is analogous to dollar votes. But some have many more votes than
others. (How do we use wood for yachts while there are homeless people?)
5. Certain goods (education, health, housing) too important to be treated as commodities
6. Stresses community and common purpose
d. Freedom
1. Places a high value on individuality and diversity
2. Requires Empowerment (c.f. Marx) --- more than just freedom from government
3. A worker should have the same rights as a citizen does!
4. Requires relative equality
e. Seeks to reform capitalism, not overthrow it. Criticisms of capitalism: (c.f. Marx)
1. tendency toward instability, especially recessions
2. generates inequality in the distribution of income and wealth (focus on inheritance);
need government to overcome the inequality in the distribution of ownership of capital
3. generates inequality in the distribution of power (corporations have power over workers)
4. generates monopolies
5. generates inequalities between the developed capitalist world and the poor countries
f. Criticisms of Communism
1. not democratic
2. does not enhance personal freedom
3. replaces one ruling class with another
4. no concern with basic liberties and with human rights
5. alienating and dehumanizing
6. not legitimate (not accepted by the people)
4. Why has there been no Democratic Socialism in the United States?
a. The United States does not have a rigid class structure as Europe does (inherited from its
feudal past)
b. In the United States, ethnicity divides the working class, not class structure
c. The electoral college system makes it very hard for third parties to succeed (also the winner
takes all congressional system)
d. The American frontier served as a safety valve for discontent
e. Americans confuse socialism with communism
f. Canada, where the Tories went, is much like Europe.
5. France typically has had a strong, centralized government --- dirigisme Opposite of laissez
faire. This has been reduced by the integration into Europe, to be discussed in two classes.
6. Social Ownership (Nationalization)
a. Only for some of the industries (c.f. Russia)
1. natural monopolies (electricity, natural gas, railroads, post office)
2. Industries with great social importance that cannot make profits (Public TV)
3. Industries where the government believes it can improve performance through
Reorganization (airways, coal, steel)
4. to remove private economic power (banking)
5. to force companies to pursue important social purposes (health)
b. Done with compensation (not expropriate)
c. The Minister appoints a Board of Directors who appoint a Director
1. to be free of outside influences
2. c.f. Palomar College
3. goal is to make profits and to meet other important social purposes. If there are losses,
the government provides subsidies
d. Results were disappointing --- seen as excessively bureaucratic. Performance was not good
and the subsidies were costly. In the 1980s, Thatcher started privatization. This has
proceeded in many countries. Data, see Page 193 of Kennett
1. done by sales of stock to the public. We will evaluate the privatization of Russia in
detail later.
2. in many cases, the government monopolies have been replaced by private monopolies
3. in many of these, employment fell considerably while executive pay rose (Kennett 196
and 197)
e. Socialists have moved to what they call “functional socialism” --- define. They also may
support private ownership, but believe that private ownership needs to be more widely
dispersed (see below)
7. Economic Planning (indicative, most strongly in France and Britain)
a. to overcome the anarchy of the market (c.f. Marx) -- originally set up to administer
Marshall Plan aid
b. The first step is information gathering
The second step is that the planners consult with leading economic actors – a process called
concertation (a question as to who is to be included)
c. The 3rd step is to adjust it to assure consistency, both among the various sectors and also
over time; also try to ensure policy coordination
d. makes information about investment possibilities available to companies and encourages
them to undertake these investments (but company behavior is voluntary)
1. need to explain investment (define) decision making as a response to adaptive
expectations
2. need to explain the herd mentality --- use housing in San Diego as the example
e. assumes the government has an advantage in information gathering and that the planners
have high credibility. When the plans became incorrect, people stopped trusting the planners.
Need to explain the high regard for bureaucrats in France!
f. set growth targets for every sector with detailed production targets for industries (not
companies), with foreign trade objectives, and with education and other social goals
g. The government is to support the plan by credit allocation, by tax policy, by its own
purchases
h. problem: the economy is subject to outside shocks that cannot be predicted – eg oil prices
This effect is greater the more open is the economy.
i. Try to use the plan as a self fulfilling prophecy --- tendency to make the plan too rosy
j. History of Indicative Planning
a. Second and Third Plans were the most successful (1953-1961). The forecast high
growth rates and were able to persuade people to believe it. Those high growth rates more or less
occurred. (see data on Page 188)
b. See the history on Page 189 and in Kennett starting on Page 148. Growth often fell
short of the target. Often had macroeconomic imbalances – especially inflation.
c. Basically abandoned in 1993.
k. It depends on the ability of the government to influence credit allocation, and on the ability
of the different interests to reach consensus and to be isolated from interest group politics. It
broke down due to internationalization, the greater role of political interests, and the
inability to reach consensus.
8. Industrial Democracy
a. countries have a high rate of unionization, c.f. the United States. The unions are usually
well connected to a political party (Labor)
b.. Corporatism --- centralized wage bargaining between LO and SAF (compare to the
USA) -- from 1938 to 1983
c. Wages to rise throughout the economy at rates equal to the rate of growth of productivity in
the tradable goods sector. Could see the “big picture”
d. Harmonious relations (my own story)
e. Conflict emerged in 1983 as international competition rose and unions lost the desire to
restrain wage demands (also the Social Democratic Party lost power). Many white collar
negotiations became decentralized to the workplace level, as in the United States. Wage
Drift as wage increases exceeded the negotiated level (U was very low). This led to
increases in labor costs greater than those of Sweden’s trading partners, just as trade was
increasing. (See data on Page 211) This led to a current account deficit.
f. Beginning in 1992, wage demands moderated greatly (see data on Page 211). This came
with the return to centralized wage bargaining.
g. Solidaristic Wage Bargaining --- equalize wages across firms and across skill and
seniority levels.
1. few wage differences so workers would shift easily from failing companies to better
ones
2. drives weak firms out of business more quickly
3. Became a disincentive when move to an information based economy --- need people to
have incentives to invest in skill development. Investment involved learning by doing
for a specific job.
h. most extensive program in the world for retraining workers to move from dying industrial
sectors to expanding ones. But more recently, the attitude has shifted to preserving jobs and
making it harder to lay off workers.
i. persistently high unemployment in many countries of Europe
1. regulations that make it difficult to lay off workers – companies are reluctant to hire
them in the first place
2. see data in Kennett Page 155
3. NAIRU is 9%
j. French workers put in fewer hours than others due to shorter workweeks, more holidays,
and longer vacations. 1,532 hours per year.
1. statutary workweek of 35 hours starting in 2002
k. High level of income support and high marginal tax rates discourages effort – low labor
force participation
l. lower retirement age – high elderly dependency ratio – See Kennett Page 159
9. Industrial Democracy --- Germany
a. Worker representation on Boards of Directors
b. an attempt to overcome worker alienation
10. Economic Democracy (Sweden) --- Never fully implemented
a. part of company profits must be put into a fund to buy shares of the company (0.2%
increase in the payroll tax plus 20% tax on profits above a certain exempted amount
b. the fund was controlled by the union
c. each fund was limited to shares representing no more than 8% of the voting rights
d. to deal with the concentrated nature of ownership of capital
e. compare to employee stock ownership in the U.S.
11. Industrial Policy (we will encounter again with Japan)
a. government aid to certain industries to improve their ability to compete. These include
export subsidies, R&D subsidies, preferential lending by state owned banks, and relaxation of
antitrust policies.
b. A huge debate as to whether this aids or hinders growth.
c. Explain the result of lack of competition in high technology as high fixed cost and low
marginal cost --- first mover advantage
d. explain the infant industry argument
1. use of tariffs which broke down with entry into the EU (later)
12. The Welfare State data on Page 215
a. Rationale
1. equality; there should be a guaranteed minimum income
2. to reduce the insecurities caused by the market
3. seen as a right of citizenship --- provide a sense of common purpose
b. many of these functions cannot be done by private insurance or charities
c. American programs include social security, Medicare, Medicaid, Unemployment
Insurance, Disability Insurance, TANF, Public Housing (Title 8) Food Stamps, etc.
d. In addition, European programs include family allowances, parental leave (18 months at
90% in Sweden), pregnancy payments, sick leave (all done in the US by employers) and
funeral costs
e. National Health – go over the page on the National Health Service – as a Handout
1. National provision, not socialized medicine (somewhat similar to an HMO)
f. highest % of GDP devoted to government spending at 60% in Sweden
13. Thatcher Reforms
1. privatization
2. create quasi markets in education and in health care
14. High Protection of Agriculture
a. Explain using American Farm programs
b. Why done --- review Public Choice
15. Taxes and Tax Reform
a. High marginal tax rates. Up to 1991, in Sweden, the top marginal tax rate was 75%
(may have reduced labor supply 6% to 10% -- explain the Laffer Curve) Tax avoidance and the
underground economy may exceed 25% of official GDP!
1. beginning in 1991, marginal tax rates were lowered (the top rate to 50%) and greater
reliance was placed on the VAT (explain). The reduction in taxes plus an increase in UI spending
caused a huge deficit in the budget (10% of GDP). By 1997, this had fallen to 1% of GDP.
b. consistent lowering of tax rates (see Kennett Page 198)
c. eliminate the distinction between earned (labor) and unearned income (interest, dividends,
and capital gains)
16. Some Evaluation Points
a. Sweden has a high degree of equality – see the table on Page 218 (explain the Gini
coefficient). However, greater inequality since 1987, as in many other countries.
b. Sweden has almost eliminated poverty --- only 1% listed as officially poor
c. Problems in the 1980s led to cutbacks in spending and tax cuts in 1991. Unemployment
rose to 9% in 1993. Unemployment has been generally high throughout Western
Europe.
d. Sweden has the highest rates of labor force participation and lowest rates of wage
discrimination by gender
17. Is the Swedish Model Dead? Lundberg gave eight reasons so --- see pages 223-224. Not
dead, but….