The Nordic model is good for both employment and poverty alleviation. Meanwhile, the Anglo-Saxon model is good on employment and bad on poverty alleviation, while the Rhineland model is the reverse

By Martin Wolf

Martin Wolf is associate editor
and chief economics commentator at the Financial Times.

Published: January 26 2006 18:10

There are two things on which the majority of western Europeans agree. The first is that recent economic performance in the European Union has been disappointing, particularly in the three large continental economies, Germany, France and Italy. The second is that whatever they do, they do not wish to imitate the US, which they condemn as the home of savage Anglo-Saxon liberalism.

When one is confronted with a choice between unpleasant alternatives – in this case, between economic stagnation and civil strife – it is natural to seek a loophole. Here, happily, there seem to exist not merely one, but more than one. For some European economies have performed better than others. It is natural, therefore, to seek rescue in imitation of the more successful European models.

Andre Sapir, the influential Belgian economist, notes there are at least four distinct models available.*

The “Nordic model” (Denmark, Finland, Sweden, plus the Netherlands) has the highest public spending on social protection and universal welfare provision. Labour markets are relatively unregulated but there are “active” labour market policies, while strong unions deliver a high degree of wage equality.

The “Anglo-Saxon” model (Ireland and the UK) provides quite generous social assistance of last resort, with cash transfers going mainly to people of working age. Unions are weak and the labour market relatively unregulated.

The “Rhineland model” (Austria, Belgium, France, Germany and Luxembourg) relies on social insurance for those out of work, as well as for provision of pensions.

Employment protection is stronger than in the Nordic countries. Unions are also powerful or enjoy legal support for extension of the results of collective bargaining.

Finally, the “Mediterranean” model (Greece, Italy, Portugal and Spain) concentrates public spending on old-age pensions.

Heavy regulation protects (and lowers) employment, while generous support for early retirement seeks to reduce the number of job-seekers.

These distinctions are not watertight, since all member states are different from one another. Nevertheless, the typology is revealing. In particular, European countries tend to trade off high levels of employment protection (in the Mediterranean model) against high coverage of unemployment benefits (in the Anglo-Saxon and Nordic models), with the Rhineland model in between.

The US is in another place altogether, as one might expect, with very limited benefits for unemployed people (just like the Mediterraneans) and very limited employment protection (just like the other Anglo-Saxons). The continental belief that the US attitude to the role of the state in helping workers is entirely different from that of all western Europeans is correct.

How well then do these different approaches work in terms of two fundamental European objectives: high levels of employment and elimination of relative poverty?

On the former goal, both the Nordic and Anglo-Saxon models perform well and the Rhineland and Mediterranean models relatively poorly. On the latter objective, the Rhineland and Nordic models do well and the Mediterranean and Anglo-Saxon models poorly. Prof Sapir also argues, intriguingly, that the main reason for the underperformance of the Anglo-Saxon model on poverty alleviation is not the lack of fiscal redistribution but poor educational standards at the bottom.

The Nordic model is good for both employment and poverty alleviation and the Mediterranean model bad. Meanwhile, the Anglo-Saxon model is good on employment and bad on poverty alleviation, while the Rhineland model is the reverse.

As Prof Sapir puts it, the Anglo-Saxon and Nordic models are “efficient” (at least for the labour market), while the Rhineland and Nordic models are “equitable”. He adds that the inefficient models may also be unsustainable. One indication of this is that the Rhineland and Mediterranean countries have higher ratios of public debt to GDP, at 73 per cent and 81 per cent, respectively, against 36 per cent in the Anglo-Saxon group and 49 per cent among the Nordics.

The Rhineland and Mediterranean countries are very important, since they generate two-thirds of the GDP of the entire enlarged European Union and 90 per cent of that of the eurozone. The conclusion is that they should become either more Nordic or more Anglo-Saxon.

The most important – and most controversial – aspect of the change would be the removal of explicit employment protection. Strict employment protection is particularly inappropriate at a time of rapid economic change, when old jobs and traditional practices become outmoded. It is better to promote employability than protect employment, while insuring against the short-term impact of unemployment.

The question, however, is how far such advice can be taken. In particular, how far could other countries go in the apparently successful Nordic direction? How far could those countries that are unable to manage the Nordic route be capable of the Anglo-Saxon alternative? Finally, what role, if any, can the EU play in these changes?

First, there is no doubt about the success of the Nordic countries in the dimensions addressed by Mr Sapir. But all these (relatively small) countries have highly educated populations with a strongly shared commitment to exceptionally high levels of state-financed welfare. In Denmark, Finland and Sweden, the ratio of public spending in GDP is above 50 per cent. The model may conceivably be relevant for Germany or France. But its applicability to the Mediterranean countries is questionable.

Second, if the Nordic route is difficult to follow, the Anglo-Saxon one is no easier. The (implicit) goal of Rhineland and Mediterranean welfare models is to protect the jobs and earnings of the male heads of household. This they have historically done. The Anglo-Saxon model does not achieve this, because of the far greater earnings inequality it tends to accept.

The conclusion is that Europe has models of economic policy that seem to work quite well and also offer something very different from “savage capitalism”. This is dramatically true of the Nordic model.

The question is how far other European countries can adopt either of the apparently superior alternatives or whether they would work as well if they tried. An equally big question is what role the EU itself can play in helping its member states perform.

The answer is: not that much. The challenges to the welfare state and labour market regulation are also challenges to national policy-making. But one thing the EU can – and must – provide: the sustained competitive pressure that an integrated and liberal market place ensures. With that, the EU is part of the solution. Without it, it becomes part of the problem.

* “Globalisation and the Reform of European Social Models”, September 2005, www.bruegel.org

Parts of this article appeared in Martin Wolf’s column in the FT on September 14 2005