Sat, Oct 28, 2006 - Page 9 News List

Scandinavia's accounting trick could help with globalization

By Hans-Werner Sinn

While most of the world's advanced countries face increasing difficulties in coping with the forces of globalization and competition from low-wage countries, the Scandinavian countries -- Denmark, Finland, Norway and Sweden -- seem to have managed these challenges quite well.

To be sure, Scandinavian growth is mediocre. With average yearly GDP growth of 2.2 percent from 1995 to last year it fell short of the non-Scandinavian countries of the EU-15, which grew by 2.8 percent on average.

But Scandinavia is good in terms of levels of per capita GDP and unemployment. Its average per capita GDP was 39 percent above that of the other EU countries, and on average the unemployment rate stood at 6.7 percent, compared to 8 percent elsewhere in the old EU.

What is the secret behind Scandinavia's success? One explanation of Scandinavia's strong performance is Sweden's courageous product market liberalization, the reduced generosity of Denmark's wage replacement system and the Nokia miracle in Finland.

However, while these factors may explain some of Scandinavia's success, the low rate of unemployment and the high level of GDP per capita also have a much more straightforward explanation: The high share of government employment in the labor force.

When private jobs are no longer competitive, government jobs seem an easy solution to keeping people employed.

Indeed, the share of government in employment in Scandinavia is surprising.

In Sweden, it amounts to 33.5 percent of "dependent employment" (total employment excluding the self-employed), and 32.9 percent in Denmark. On average the share of state employment in the workforce across Scandinavia is 32.7 percent, compared to only 18.5 percent on average in the non-Scandinavian countries of the EU-15.

In Germany, Europe's largest economy, the government's share of the workforce is only 12.2 percent.

So the high share of government employment contributes to the region's low unemployment rate. Moreover, it also contributes greatly to the high per-capita GDP figures, for the simple reason that the value-added created by these government jobs is part of GDP, even if it could never have been produced in the market economy.

According to the rules of national income accounting, in the absence of market prices, the contribution of the government sector to GDP is measured by the wages paid out by the government, regardless of how productive or useful the government jobs are.

Thus, the performance difference relative to Germany, say, could be caricatured as follows: while Germans collect part of the private value-added as taxes, which they then spend on unemployment benefits.

Scandinavians, in addition, give their unemployed a desk and count the unemployment benefits as value-added in the government sector and, therefore, a contribution to GDP.

Apart from the accounting trick implicit in Scandinavia's success, the high share of government in employment may also make a real contribution to solving one of the most fundamental problems Western economies now face.

Prompted by capital flows to low-wage countries, specialization, outsourcing and even immigration, the equilibrium price of unskilled labor has fallen throughout the Western countries.

Yet these countries hesitate to let actual wages fall for obvious social reasons.

If they want to defend the incomes of the unskilled (or the less motivated), they have four options. The best option is to better educate the unskilled, but this is a cumbersome, time-consuming process that offers no short-term solution. Thus, only three options remain in the short and medium term.

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