Embracing Capitalism: the real success of Sweden’s universal welfare state – by Andreas Bergh

September 9, 2014

Author Articles, Economics Finance

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Photo: Ola Ericson imagebank.sweden.se

How does a country successfully combine increasing prosperity with low levels of inequality? Andreas Bergh, Associate Professor of Economics at Lund University, argues that the history of Sweden demonstrates the important role capitalism can play in creating a more equal society.

These days, many look for an answer to the question of how to combine increasing prosperity with equality in Thomas Piketty’s book Capital in the Twenty-First Century, which argues that capitalism is prone to inequality and that capital should therefore be taxed highly. But one of the countries that have been most successful in combining prosperity and equality during the last 150 years – Sweden – has done so by embracing capitalism and combining it with a universal welfare state. In Sweden, the classic conflict between labour and capital is more of a symbiotic relationship.

 

Sweden’s extraordinary development

In the early 1800s Sweden was one of the poorest countries in Europe. It was also a highly unequal society, with a small rich elite and a lot of very poor farmers. Like most countries, Sweden grew richer during the industrialization. But Sweden’s development differs in some interesting ways. Swedish growth was higher than that of most other countries. As a result, Sweden ended up as the fourth richest country in the world in 1970 (after the US, Switzerland and Luxembourg, as measured by real GDP per capita).

More remarkably, Sweden combined rapid growth with increasing equality of income, ending up with what was probably the most equal distributions of disposable income in any country in the world around 1980. How was this achieved?

Given the reputation of Sweden as a country highly influenced by social democracy, many would probably guess that equality and prosperity in Sweden came about as a result of anti-capitalist policies pursued by the social democrats and the labour movements. Some might add that Sweden’s strong economy was a result of avoiding two world wars. But these explanations do not fit very well with what actually happened.

For example, it is true that Sweden implemented high levels of labour market regulation, as well as high and progressive taxes. But these policies were introduced in the 1970s and at that point in time, most of the extraordinary development towards prosperity and equality had already taken place. The key answers must be sought much further back in time.

 

It started with capitalism!

Several careful studies, often using highly detailed historical data, have examined the causes of prosperity and equality in Sweden. By putting together research in economics, economic history, sociology and political science (some of which is only available in Swedish) a coherent picture emerges: Sweden’s development towards prosperity started with institutional reforms that unleashed the prosperity generating powers of capitalism: Incentive enhancing land reforms, property rights, successful anti-corruption measures and free trade reforms (to mention a few of the arguably most important institutional changes).

Some reforms contributed to both prosperity and to equal distribution, as for example when women in 1864 were allowed to start business on equal grounds as men. Similarly, two major education reforms (in the 1840s and the 1950s) helped to create a more equal distribution of human capital, thus fostering equality of labour income. The 1850s also saw substantial public investments in railroads and canals. In the 1910, basic risk spreading social insurance schemes were introduced – by liberal and right-wing governments.

Another factor that sets Sweden apart from many other countries is the high degree of consensus in political decision making. Especially important is the fact that Swedish social democrats have typically had a pragmatic stance towards capitalism: As long as firms generate employment and tax revenue, there are strong reasons to maintain a favourable business climate.

sweden

‘Sweden and the Revival of the Capitalist State’ by Andreas Bergh

 

The fall and revival of the capitalist welfare state

The success halted around 1970 when Sweden started lagging behind other countries. Among economists, a consensus has emerged that a mix of failed macroeconomic policies, tax increases, labour market regulations and incentive distorting social policies contributed to the problems. In the 1970s, policy became more anti-capitalist. In 1983, Sweden even decided to implement a partial socialization of company profits, the so-called wage earner funds. Economic problems grew more and more severe, and when the boom of the 1980s turned into recession in the early 1990s, Sweden was hit much harder than other countries.’

In October 1993, The Economist published an article on Sweden under the headline “Worse and worse”, describing a deteriorating economy with increasing public debt and a budget deficit at 13 per cent of GDP. Many expected the Swedish welfare state to collapse. Instead, taxes remained high, public debt fell and economic growth returned. Today, The Economist describes Sweden as a ‘North star’ and a ‘Super model’, and the Washington Post described Sweden as the Rock Star of recovery after the 2008 financial crisis. Once again, it is relevant to ask: What happened?

A simple way of understanding the recent success of Sweden is to note that Sweden has now returned to the recipe that worked so well in the 1800s: well-functioning capitalism. When comparing the years 1980 and 2000, few countries match Sweden’s pace of liberalizations and reforms towards economic freedom. While taxes remain high by international standards, other areas of Sweden’s economy are now very market friendly and the country is well integrated into the global economy.

 

Lessons from Sweden for capitalists and anti-capitalists

The case of Sweden provides important lessons for both right-wingers and left-wingers in today’s debate.

Sweden shows that a well-functioning capitalism can exist and even thrive in a context with high taxes. Well defined property rights, efficient government institutions, low corruption and low taxation on internationally mobile capital contribute to a market-friendly environment – despite high levels of labour taxation and encompassing social insurance schemes.

The history of Sweden, however, also shows that the financing of a generous welfare state requires a highly competitive business sector. The best way to promote a combination of prosperity and equality is not to fight capitalism with high capital taxes, but rather to use capitalism as an engine of growth and combine it with a well-designed welfare state that provides a social safety net while preserving the incentives to work and provide for oneself. This is a lesson learned not only from the successful years experienced by Sweden, but also from the mistakes made during the problematic period from 1970 to 1995.

In Sweden, as in many other similar countries, the rise of capitalism coincided with decreasing inequality and increasing prosperity. A capitalist welfare state may sound like a paradox or an oxymoron. But as opposed to a global tax on capital, history has shown that it actually works.

 

berghAndreas Bergh is associate professor of Economics at Lund University and the Research Institute of Industrial Economics (IFN) in Stockholm. Previous affiliations include a post-doc visit at Harvard university and a research position at the Ratio Institute in Stockholm. His research concerns the welfare state, institutions, development, globalization, trust and social norms. Recent publications include European Economic Review, World Development, European Sociological Review and Public choice. His most recent book is Sweden and the Revival of the Capitalist Welfare State (Edward Elgar, 2014). Webpage: www.ifn.se/andreasb

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