In 1943 Irish historian James Beddy asked a simple question: how come Denmark had grown so much more prosperous than Ireland? Based on a thorough statistical analysis, he concluded that Denmark had a national income per head that was almost 50 percent higher than in Ireland. But natural factors, such as average temperature, hours of sunshine, rainfall, and abundance of mineral resources all favored Ireland. Seven decades ago, the success of Denmark was already something of a puzzle. And the answer was not the welfare state, since the Danish welfare state was just beginning to take form during the 1940s. Social democratic policies came after Denmark grew rich. Beddy wrote:
Denmark is not only a smaller country than Eire but her climate is less equable, her soils are, in general, lighter and poorer, she has no coal and no water power to compensate for its absence, nor has she any iron ore or other metallic ores to serve as a basis for industrial activities. Yet, in comparison with Eire, she has a bigger population, a greater agricultural output, a more extensive industrial system, a larger foreign trade, a lower national debt, a higher national income and a better standard of living.3
According to the Irish economist, the main reason for Denmark’s success was that its economic system differed from that of Ireland. Ireland could learn from Denmark by focusing on “stimulating maximum profitable agricultural activity” and taking greater advantage of international trade. A key element was that the new “system shall be free from the restrictive effects of [Ireland’s] present one.”4 In other words, Denmark was richer than Ireland despite a less favorable climate and fewer natural resources, since it relied more on market forces. Half a century later, Kevin O’Rourke expanded on this analysis. The Irish professor of economic history explored the structural and social differences that had existed between Ireland and Denmark in the late nineteenth century. According to O’Rourke, the latter country’s greater prosperity has several explanations. Denmark had a homogenous culture coupled with political stability. Ireland was, on the other hand, culturally and politically divided. Danish society benefited from higher levels of trust and social capital. This can explain why cooperative businesses, such as creameries, could more easily be founded and run by milk farmers in Denmark than in Ireland. The countries also had different backgrounds when it came to how policies had developed. Denmark was an independent nation, the market-friendly policies of which had resulted from Danish decisions. Irish economic freedom was a product of British imperialism. Reforms transferring land ownership from the feudal class to the broader public had occurred much earlier in Denmark than in Ireland. O’Rourke explained that Irish farmers had limited access to the capital they needed to grow. On the other hand, small local savings banks in Denmark supplied credit even to those with little or no security for loans.5
In another publication, O’Rourke explains how the lack of market forces resulted in Ireland being slower in adapting novel technologies for dairy production than Denmark – an important business at the time for both nations. The Danish culture, with stronger social and political cohesion, also played an important role in this regard:
Separators and cooperatives spread much more quickly in Denmark than in Ireland, despite the fact that both countries were important dairy producers, located in north-west Europe, and selling to the same market … property rights and social capital played a crucial role in determining the extent to which these two innovations were adopted: a lack of social and political cohesion, uncertain property rights as well as cultural factors all help explain why Ireland lagged behind Denmark during this period.6
So, in other words, already, before social democratic policies were introduced, Denmark was surprisingly prosperous. It certainly wasn’t socialism that made Denmark rich, but rather, capitalism coupled with a culture of high trust, social cohesion, and a spirit of cooperation. Other research has shown that already during the latter half of the nineteenth century, well before the introduction of social democratic policies, Denmark was thriving, thanks to entrepreneurship.7 Denmark’s closest neighbor to the north was more of a late bloomer. However, few other nations have demonstrated as clearly as Sweden the phenomenal economic growth that comes from adopting freemarket policies. Sweden was a poor nation before the 1870s, which explains the massive immigration to the United States that was taking place at the time. As a capitalist system evolved out of the agrarian society, the country grew richer. Property rights, free markets, and the rule of law combined with large numbers of well-educated engineers and entrepreneurs. These factors created an environment in which Sweden enjoyed an unprecedented period of sustained and rapid economic development.
It is often believed that the ideas of economic liberty were first expressed by Adam Smith… In fact, Anders Chydenius, a Finnish priest and a member of Sweden’s Parliament, beat him to it.
It is often believed that the ideas of economic liberty were first expressed by Adam Smith, the father of modern economics, who in 1776 wrote his magnum opus, An Inquiry into the Nature and Causes of the Wealth of Nations. In fact, Anders Chydenius, a Finnish priest and a member of Sweden’s Parliament, beat him to it. In 1765 Chydenius published the pamphlet Den Nationnale Winsten, which translates to The National Gain. There he explored the relationship between economy and society, argued that free trade and free industry created prosperity, and laid out the principles of capitalism as well as modern democracy. It would take around a century until Sweden embraced Chydenius’s ideas. Johan August Gripenstedt, who in the late nineteenth century served as finance minister, was responsible for opening up the country for free trade, building a modern railway infrastructure and reducing government involvement in the economy. Without doubt, Sweden’s path toward prosperity was cleared by these reforms.
In the hundred years following the shift toward capitalism, Sweden experienced phenomenal economic development. Famous Swedish companies such as IKEA, Volvo, Tetra Pak, H&M, Ericsson, and Alfa Laval were all founded during this period, and were aided by business-friendly economic policies and low taxes.8 It is sometimes claimed that Sweden’s high growth rate is a result of social democratic policies. In fact, much of the development occurred between the time when free markets were introduced (circa 1870) and the start of the era dominated by Social Democrat rule (circa 1936). As shown in the following table, during this period Sweden had the fastest growth rate among European nations. The other Nordic countries followed closely after. In part, this might be explained by the region catching up to the rest of Europe. There is, however, no doubt that the Nordics benefited from their market-friendly policies.
GROWTH DURING FREE MARKET ERA (1870 TO 1936)9
COUNTRY
PERCENT GROWTH
SWEDEN
2.0
NORWAY
1.7
FINLAND
1.6
SWITZERLAND
1.6
DENMARK
1.6
GERMANY
1.3
FRANCE
1.2
ITALY
1.1
UNITED KINGDOM
1.0
NETHERLANDS
1.0
BELGIUM
0.9
AUSTRIA
0.7
When Nordic social democrats came to power, they were initially quite pragmatic. Rather than killing the capitalist goose that had been laying all the golden eggs, they nurtured it while slowly introducing welfare programs. This all changed during the late 1960s and early 1970s, when social democrats in Sweden, and to a less extent also in the other Nordic countries, radicalized and moved toward socialism. The region thus had an early social democrat era, where much of the free-market policies were kept in place, and a later social democrat era when the true shift toward socialism occurred. As shown in the following table, the Nordic nations fell behind the rest of Europe during the early social democratic era, but retained a moderate level of development.
GROWTH DURING EARLY SOCIAL DEMOCRAT ERA (MODERATELY FREE MARKETS) 1936–197010
COUNTRY
PERCENT GROWTH
AUSTRIA
3.5
ITALY
3.4
FINLAND
3.2
SWITZERLAND
3.1
FRANCE
3.0
SWEDEN
2.9
NORWAY
2.7
GERMANY
2.7
NETHERLANDS
2.5
DENMARK
2.4
BELGIUM
2.3
UNITED KINGDOM
1.7
Fans of Nordic-style democratic socialism admire the policies that were introduced in the Nordics, and particularly so in Sweden, around 1970 and onward. The only problem is that this shift in economic policy was a major failure. The Economist explains: “In the period from 1870 to 1970 the Nordic countries were among the world’s fastest-growing countries, thanks to a series of pro-business reforms such as the establishment of banks and the privatization of forests. But in the 1970s and 1980s the undisciplined growth of government caused the reforms to run into the sands.”11 Around 1968 the Left radicalized around the world, fueled by the criticism of the Vietnam War. The social democrats in Sweden and other Nordic countries grew bold, and decided to go after the goose that lay the golden eggs: entrepreneurship. It was finally time to stop being pragmatic and really start challenging the capitalist system. Time to put democratic socialism to the test.
One way of achieving this was to tax the rich, and business owners, as much as possible. Economist Magnus Henrekson has shown that taxes in Sweden rose to such an extent that successful business owners could actually lose money by making a profit. This absurd situation existed because high marginal taxes coupled with high inflation. If a Swedish business invested a million kronor to create a profit, one year later the business might have less money left after it had paid hefty taxes on the profits, while high inflation had reduced the value of the original sum invested. Henrekson concluded that the tax policies “developed according to the vision of a market economy without individual capitalists and entrepreneurs.”12 Not surprisingly, the sharp left turn in economic policy markedly affected entrepreneurship. Sten Axelsson, another Swedish economist, has shown that the period between the end of the nineteenth century and the beginning of the First World War was a golden age for the founding of successful entrepreneurial firms. After 1970, however, the establishment of new firms dropped significantly. Sweden became strongly dependent on firms that had been formed generations ago.13
How can the dramatic fall in entrepreneurship be explained? One reason might be that it takes time for firms to grow large. Another is that large firms played a more vital part in the economy in previous times. However, these factors alone cannot explain the massive reduction in the number of new entrepreneurial firms in Sweden. Clearly, one important factor is the changes in economic policy, toward the famous Third Way between socialism and free markets. These policies culminated in the introduction of employee funds at the beginning of the 1980s. The idea was to confiscate parts of companies’ profits and use them to buy shares of the same companies. The shares would in turn be part of funds controlled by labor unions. In effect, the system was designed to gradually transform the ownership of private companies to the unions – a soft evolution toward socialism. Although the system was abolished before it could turn Sweden into a socialist economy, it did manage to drive the founders of IKEA, Tetra Pak, H&M, and other highly successful firms away from the country.
Third Way socialist policies are … a failed social experiment, which resulted in stagnating growth and which with time have been abandoned.
Third Way socialist policies are often upheld as the normal state of Swedish policies. In reality, one can better understand them as a failed social experiment, which resulted in stagnating growth and which with time have been abandoned.14
Interestingly, even the leading Social Democrats at the time seem to have been aware of the damage that Third Way policies were doing. The most striking example relates to the introduction of the employee funds. Kjell-Olof Feldt, one of Sweden’s leading Social Democrats through history and at the time the finance minister, had to debate the benefits of the funds in the Swedish Parliament. But the minister was uneasy. During the debate, he was scribbling on a piece of paper. A reporter took a photograph of a poem that the minister wrote down. Remarkably, it turned out that the finance minister was anything but enthusiastic about the funds. In fact, he believed them to be very damaging for the country. Feldt went as far as describing the employee funds with profanity. A loose translation of the poem is:
The employee funds are a [profanity],
but now we have dragged them all this way.
Then they will be filled with every bigwig,
that has supported us in our struggle.
Now we don’t have to go any more rounds,
until the whole of Sweden is full of funds.
Kjell-Olof Feldt had good reasons to be critical of the radical ideas championed and introduced by his own party. In October 1983, a few months before Feldt scribbled profanity to describe the socialist policies, what is likely to have been the largest political demonstration in Swedish history was arranged. Upwards of one hundred thousand people marched against the employee funds. Although the social democratic leadership seems to have been aware that the funds were a bad idea, they had invested too much political prestige in the idea to back away from it. The funds were introduced in 1984, and later abolished following the election of a center-right government in 1991. The confiscation of profits for the funds were stopped by the new government and the money previously gathered in the funds was transferred into pension savings and research foundations. Sweden chose to return to the path of market economics over that of socialism. Foreign admirers of social democracy might be surprised by this fact, but the period between 1970 and 1991, when democratic socialism was put to the test, was a colossal failure for Sweden. As shown in the following table, Sweden had poor growth when compared to other parts of Europe. Denmark never embraced socialism as strongly as Sweden, but did swell up the welfare state. Again, the result was stagnation. Norway, on the other hand, prospered, thanks to having, literally, struck oil.
Since then, Nordic nations have implemented major market liberalizations to compensate for the growth-inhibiting effects of taxes, large welfare states, and labor market regulations. Denmark has even moved toward a flexible labor market. Clearly, the Nordic countries have learned their lessons from the failures of socialism. Today few, even among the hard left, openly point to the Swedish Third Way policies as a positive experience. The return to free markets has served the Nordics well. As shown on the following table,16 the countries are again prospering. Denmark, which has, contrary to Sweden, not reduced its very high taxes, is the only one lagging behind.
GROWTH DURING THIRD WAY SOCIALIST ERA 1970–199115
COUNTRY
PERCENT GROWTH
NORWAY
3.1
AUSTRIA
2.8
ITALY
2.6
BELGIUM
2.4
FINLAND
2.4
FRANCE
2.1
GERMANY
2.1
UNITED KINGDOM
2.0
DENMARK
1.9
NETHERLANDS
1.8
SWEDEN
1.4
SWITZERLAND
1.1
But what about jobs? The transition toward socialism didn’t only reduce growth and entrepreneurship in Sweden. The same policies also led to a significant crowding out of private job growth. Between 1950 and 2000, the Swedish population grew from seven to almost nine million. The net job creation in the private sector was astonishingly enough close to zero during the same period (see graph). This teaches us a valuable lesson: if the government is expanded rapidly, private-sector job creat
ion can indeed come to a halt. Perhaps admirers of democratic socialism would argue that this is no problem, since the public sector can grow with new jobs. During the period that private-sector job growth came to a halt, Swedish Social Democrats were fond of arguing that it was the government’s responsibility to create new employment. Let’s look at the development in the country to see how this plan turned out.
GROWTH DURING THE NEW MARKET-REFORM ERA 1991–2014
COUNTRY
PERCENT GROWTH
UNITED KINGDOM
1.8
SWEDEN
1.8
NORWAY
1.8
FINLAND
1.8
NETHERLANDS
1.6
AUSTRIA
1.5
BELGIUM
1.4
GERMANY
1.3
DENMARK
1.2
FRANCE
1.1
SWITZERLAND
1.0
ITALY
0.3
Source: OECD Stat Extract.
Jobs in the public sector did expand significantly until the end of the 1970s. After this point it became difficult to further increase the size of the already large public sector – simply because taxes had already reached such a high level that it was not plausible to raise them further. When the welfare state could grow no larger, the job market came to a complete halt, as neither the private sector nor the public one could grow larger. The stagnation ended after wide-ranging market reforms, including a lowering of the highest marginal taxes, were introduced in the early 1990s. In recent years, Sweden has become synonymous with strong job growth. But this is after a second wave of market reforms, and significant tax cuts, were introduced after a center-right government came to power in 2006.17 Again, American observers can learn much from Sweden. A lesson is that democratic socialism and an aggressive expansion of the size of government can stop job growth. Another is that market reforms and tax reductions can spur job creation.
Debunking Utopia Page 7