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THE FREE-MARKET WELFARE STATE: Preserving Dynamism in a Volatile World

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THE FREE-MARKET WELFARE STATE: Preserving Dynamism in a Volatile World Policy Essay THE FREE-MARKET WELFARE STATE: Preserving Dynamism in a Volatile World Samuel Hammond1 Poverty and Welfare Policy Analyst Niskanen Center May 2018 INTRODUCTION welfare state” directly depresses the vote for reac- tionary political parties.3 Conversely, I argue that he perennial gale of creative destruc- the contemporary rise of anti-market populism in tion…” wrote the economist Joseph America should be taken as an indictment of our in- 4 Schumpeter, “…is the essential fact of adequate social-insurance system, and a refutation “T of the prevailing “small government” view that reg- capitalism.” For new industries to rise and flourish, old industries must fail. Yet creative destruction is ulation and social spending are equally corrosive to a process that is rarely—if ever—politically neu- economic freedom. The universal welfare state, far tral; even one-off economic shocks can have lasting from being at odds with innovation and economic political-economic consequences. From his vantage freedom, may end up being their ultimate guaran- point in 1942, Schumpeter believed that capitalism tor. would become the ultimate victim of its own suc- The fallout from China’s entry to the World Trade cess, inspiring reactionary and populist movements Organization (WTO) in 2001 is a clear case in against its destructive side that would inadvertently point. Cheaper imports benefited millions of Amer- strangle any potential for future creativity.2 icans through lower consumer prices. At the same This paper argues that the countries that have time, Chinese import competition destroyed nearly eluded Schumpeter’s dreary prediction have done two million jobs in manufacturing and associated 5 so by combining free-markets with robust systems services—a classic case of creative destruction. of universal social insurance. As one survey of na- Yet rather than help those workers adjust, our social tional elections across Europe found, “the universal insurance system left them to languish. In the re- gions of the United States most exposed to import NISKANEN CENTER | 820 FIRST ST. NE, SUITE 675 | WASHINGTON, D.C. 20002 www.niskanencenter.org | For inquiries, please contact [email protected] competition, Social Security Disability Insurance While the impact of the China Shock is easy to see (SSDI) was more than twice as responsive to the thanks to its discrete timing and regional concentra- economic shock as unemployment insurance and tion, creative destruction of a similar magnitude is Trade Adjustment Assistance (TAA) combined, a continuous fact in any growing economy. In fact, even though it is one of the most restrictive disabil- in the decade after 1999, nearly four times as many ity programs in the developed world. Indeed, while American manufacturing jobs were sacrificed to au- critics of the welfare state often argue the United tomation and productivity growth as to Chinese States spends a trillion dollars a year on social pro- trade—despite being a period with historically slug- grams, only about a quarter of this comes close to gish productivity growth and job destruction rates.10 anything resembling cash or quasi-cash income support—about the same annual amount spent sub- With far bigger technological disruptions on the sidizing employer-based health insurance. horizon, from robotics to revolutions in artificial in- telligence, preserving the full dynamism of the U.S. As shown in Figure 1, this has made the U.S. in- economy will require transforming the current come security system one of the stingiest in the de- patchwork of means-tested programs into a system veloped world. As a result, the “China Shock”6 premised on the fundamental complementarity of fueled a subsequent growth in anti-trade and nativ- free-markets and universal social insurance—a true ist sentiment that, researchers have since shown, di- “free-market welfare state.” This paper defends that rectly contributed to increasing political polariza- basic proposition, while leaving detailed reform tion, the election of nativists to Congress,7 and the proposals for future research. My starting point is a populist presidential candidacies of Bernie Sanders rejection of the prevailing view of social welfare, and Donald Trump .8 shared by policy makers on both the left and right, as simply a tool for addressing poverty or income Figure 1: America’s Missing Income Security System The Free-Market Welfare State | Niskanen Center | 1 inequality. While all insurance programs are redis- statute that actively precludes a particular life tributive ex post, what separates social insurance course or mutually beneficial exchange, like rent from a purely zero-sum redistribution is the ex ante control or occupational licensing, impinges on per- economic security created by risk-pooling. And sonal autonomy (and, often, economic efficiency) much like the market itself, risk-pooling arrange- in a way that a universal social insurance program, ments represent a positive-sum, cooperative institu- financed by a general system of taxation, does not. tion.11 With this in mind, I argue that well-designed This difference allows us to define two different ap- social insurance programs are ones that: proaches to addressing issues of economic insecu- rity: “the interventionist state” and “the social in- • Promote entrepreneurial risk-taking and surance state.” ease credit constraints in low-income households; The libertarian economist F.A. Hayek made a sim- ilar point in a coda to his famous book, The Road to • Address the “adjustment costs” associated Serfdom. At the time of its original publication in with globalization and rapid technological 1944, Hayek noted that change; socialism meant unambiguously • Substitute for (and justify abolishing) more the nationalization of the means of interventionist approaches to providing production, and the central eco- economic security; nomic planning which this made possible and necessary. In this • Prioritize cash transfers over in-kind bene- sense Sweden, for instance, is to- fits to preserve individual choice and flexi- day very much less socialistically bility; organized than Great Britain or Austria, though Sweden is com- • Link working-age benefits to prior employ- monly regarded as much more so- ment and social contributions; 12 cialistic. • Detach important social benefits, like re- While Hayek didn’t advocate for the adoption of tirement security and health insurance, Swedish-style welfare policies, his distinction be- from any particular employer or market tween a state engaged in central economic planning structure. and a state that provides social insurance according to general rules forced him to admit the latter was Part 1: fully consistent with a free society: THE FREEDOM THAT Where, as in the case of sickness MATTERS and accident, neither the desire to avoid such calamities nor the ef- n the classical liberal conception, liberty is forts to overcome their conse- about being the author of one’s own life, free quences are as a rule weakened by I from domination. The market advances free- the provision of assistance— dom by providing individuals with a mechanism to where, in short, we deal with gen- harmonize their values and interests with those of uinely insurable risks—the case others, and to execute their plans according to their for the state’s helping to organize a own ends. In this sense, a regulatory intervention or The Free-Market Welfare State | Niskanen Center | 2 comprehensive system of social in- state,” or call it something else. Even the most ar- surance is very strong. There are dent libertarian ought to recognize that, of the two many points of detail where those approaches, Sweden’s generous welfare state is far wishing to preserve the competi- superior from the perspective of personal and eco- tive system and those wishing to nomic liberty—high Value Added Taxes notwith- supercede it by something differ- standing. ent will disagree on the details of such schemes; and it is possible un- The economic malaise that visited Sweden in the der the name of social insurance to 1970s and ‘80s is a within-country case-study of the introduce measures which tend to same point. Following the 1973 oil crisis and the make competition more or less in- stagflation that ensued, a political tumult in Sweden effective. But there is no incompat- pushed the country in a left-populist direction. Top- ibility in principle between the down labor market regulations proliferated, mar- state’s providing greater security ginal tax rates spiked, struggling industries were in this way and the preservation of subsidized, mercantile monetary policies were em- individual freedom.13 ployed to prop up the export sector, and for a brief period corporate profits were socialized under the The contrast between contemporary Sweden and pretense of “economic democracy.” As a result, pri- Venezuela provides an updated illustration of vate investment tanked, economic growth stalled, Hayek’s point. While both are often described as and deficits ballooned.16 Sweden’s economic dys- “social democracies,” their regimes could not be function ultimately culminated in a major recession more different. Through the 19th and 20th centu- and banking crisis in the 1990s, a reckoning that ries, Sweden designed social policies based on a no- only underscored the need for major reforms. Sub- 14 tion of “the people's insurance.” Universal, flat- sequently, Sweden significantly re-liberalized its rate social insurance schemes, from child allow- economy while keeping its social insurance state ances to old age pensions, were created in the back- largely intact, helping it to once again become an drop of a highly capitalistic economy, including pri- outlier in terms of economic freedom.17 vatized natural resources and liberalized trade. As a measure of this combination’s success, in the cen- Four Design Principles for a tury between 1870 and 1970 Sweden grew 70 per- Free-Market Welfare State cent faster than the United States and went from be- ing one of the poorest countries in Europe to having It is one thing to admit that the social insurance state 15 the world’s fourth-highest GDP per capita.
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