Globalization and a Welfare State

In D. Lamberton (ed) Managing the Global: Globalization, Employment and the Quality of LifeI.B. Tauris. (2002) Proceedings of a conference sponsored by the Toda Institute and the Centre for Peace and Conflict Studies, at the University of Sydney, 28-30 November, 1998. P.163-168.

Keywords: Globalisation & Trade; Social Policy;

Globalization challenges us with the question ‘what choice (or what control), if any, does a society open to the globalized world have over its social and cultural policy?’ A common view is that it will that international competitive pressures are so strong that it will drive every country down to the lowest common denominate of a pure market economy, with a minimum of government intervention.

For instance, suppose a society wanted to have a welfare state, providing a degree of public social security. That would involve taxing the incomes of factors and individuals. This would either raise the costs of production, so industries would move offshore to countries where they were not taxed. Or it would depress the returns on factors of production such as capital and labour, which would migrate to countries where their return was not so depressed. The logic of this account is that all countries will be pressured towards minimizing taxation, forcing them to dismantle their welfare state and shift to the private provision. There may be some taxation and government spending, but only that which promotes the efficiency of economic production, such as the provision of law and order.

I want to play down the pious argument that all government spending promotes economic efficiency. While some public spending enhances productivity, the argument misses the central problem because it leads to the conclusion that only government spending which contributes to productive efficiency can be justified. This paper’s concern is to what extent spending justified on other grounds can be pursued.

To make this issue clear, consider public provision for the elderly, which is a feature in most rich nations to a lesser or major extent. Arguments that this adds to the productive efficiency of an economy are very tenuous, since the spending is on those who have left the workforce. The implication of the international competitiveness argument is that countries where the state ignores their elderly will have lower taxation, attract more capital and labour, and so prosper. (If, as a result, the elderly die sooner, per capita income will be even higher, but the argument does not rely on this.) Moreover competitive success will force other nations to pursue similar low-tax policies, and so the theory predicts the dismantling of public provision for the elderly as globalisation intensifies. Some seize on such predictions, arguing that retirement provision should be privatised, and There are analogous arguments for other forms of welfare spending.

Suppose as the nation collectively agrees to accept higher taxation, in order to supply services or transfers by the public sector, where the private sector fails to do so adequately – say supplying recreational, cultural and environmental services. It has two problems. First, public spending requires a public ethos which values such collective actions. But this is being systematically challenged by the anti-collectivists, sometimes with silly arguments, sometimes with shrewd ones. For instance, why should the young interested in pop music contribute to the cost of the nation’s symphony orchestra? The collective-supply rebuttal is that the young do not directly contribute to the orchestra. Rather everyone contributes to a pool, which funds a lot of public services including the orchestra, sporting facilities used more by the young, and so on, and everyone benefits by getting more out of the pool than they put in, because of the efficacy of public supply in these instances over private supply (a gain which advocates of privatisation would deny as possible).

Second, however, is that some taxpayers may get little or no benefit from the spending, and can move to another jurisdiction. The group for whom this is most obvious is investors, who can shift their capital reasonably easily between countries. (Note that the investor will find it more difficult to shift their residence, and so local investors can be taxed on their income and spending, subject to the caveat in the next paragraph.) The import is that taxes to fund such collective services has to be on the beneficiaries as income recipients or spenders and not the factors of production.

The argument for the limitations from factor mobility applies to those individuals (workers or investors) – typically on high incomes – who can easily move to another country. A taxation regime which does not give them a net benefit may result in their migration. (An interesting case was that after one Australian state abandoned estate duties, others felt compelled to follow in order to prevent the rich retired moving to that state.) Thus it appears that a limitation on the tax regime is that it cannot be too progressive on individuals because it will lead to their migration.

Thus far we have identified the following opportunities and limitations in a globalized internationally competitive and mobile world.
Government spending remains viable which:
– promotes economic efficiency and growth;
– provides desired public goods and services which are poorly supplied by the private sector.
Taxation is limited upon
– highly mobile factors (such as capital) which do not benefit from the spending;
– mobile individuals, who can migrate if the burden of taxation relative to any personal benefit from the spending is high.

(Tax avoidance further complicates the story. For instance, there is a case for zero company taxation, but if the company tax rate is below the top personal tax rate, a private company can be created which reduces the liability for income tax. It may seem this can be overcome by shifting the tax balance to a higher proportion of revenue from indirect taxes, but this encourages overseas travel and global shopping via the internet.)

Thus there appears to be severe limitations to a tax system being able to raise taxes on capital, or to have a progressive structure. Both suggest more limited government spending, and a restricted welfare state, compared to that of the recent past. The bleakness of this conclusion is moderated by at least two considerations.

First, factors and individuals are not perfectly mobile. Some may be willing to accept higher taxes because they are offset by a better (including more secure) economic, social, and political environment. (Government spending may contribute to this superiority.) With more space one could argue that eliminating the welfare state can lead to a society in which life is Hobbesian: “no arts, no letters, no society; and which is worst of all, continual fear and danger of violent death; and the life of man solitary, poor brutish, and short,” offset by extraordinary private expenditures by those who can afford to maintain their person and property security. Thus mobile economic actors may be charged a fee – in the form of the taxes they pay – to be allowed to benefit from the superior social (and physical) environment. (Even so the rich will complain about any such levy, using the rhetoric of international competitiveness in a global environment to justify it being reduced for them.)

Second, insofar as there are enforced international standards, they prevent the signatory countries undercutting one another. (An example is the social chapter of the Maastricht treaty of the European Union.) Currently, however, comprehensive international standards are mainly developed for human rights, rather than economic rights (although there is some overlap). Where comprehensive international economic standards exist they tend to promote mobility of products (i.e. international trade), and investment (the aborted MAI). Even so, in these economic agreements there may be some measures which give a nation control over some aspects of its destiny. One element in the demise of the MAI was that some powerful nations wanted to be able to protect their culture against encroachment by the US one.

Is there an option of closing the economy to the outside world at least to some degree? My view is that while there is no need to be completely open (“trading naked” as it is sometimes called), the opportunities for major gains from closure are limited in a small country (such as New Zealand), which has a high demand for foreign goods and services and numerous options to effect that demand via overseas travel (and the internet). A politically open society also has the threat of migration if conditions (including access to goods and services from other economies) become too unattractive. So while some measures or interventions to reduce the openness of the economy may have some positive effect – in total they are limited.

Thus the answer to whether a nation open to the globalized world has choice or control have over its social and cultural policy, seems to be ‘some’ but ‘less than it had in the past’. (However we should not get too romantic about the past: a country with a colonial history -such as New Zealand – never had much freedom then either.) Nevertheless within these limitations there remains opportunities to design a better society rather than simply follow the lowest common denominator in the international market. Some of the initiatives (providing the tax burden or intervention is carefully designed) are evident from the above analysis;
– government spending which enhances productivity and reduces costs;
– government spending which adds to the social, cultural, and physical environment, and to community security;
– industrial relation interventions which enhance productivity.
In addition a considerable effort should be put into maximizing employment, and alleviating the burden of unemployment (especially as it will contribute to some of these objectives – productivity, a lower tax burden, community security, less poverty, a better society).

What at this stage I remain unsure about is the question of redistribution in the welfare state. Some may enhance productivity or provide cheaper supply than the private sector (e.g. sickness benefits and public health care), because collective supply is more efficient than private supply. Full employment reduces some of the social security burden. Insofar as they succeed, they will make the income distribution less unequal. But it may not be enough to reduce the inequality to past levels, while the pressures from international prices are likely to increase wage inequality, since unskilled workers are more reasonably competing with low income third world workers. Protection may raise the wages of the unskilled, but the higher costs of their produced goods will generally lower the real incomes of the more skilled and investors, so there is only a very limited opportunity from protection.

The welfare state has not necessarily been distributionally vertically progressive, transferring income from the rich to the poor. The New Zealand case suggests horizontal transfers have been more important, providing (limited minimal) protection from unemployment, sickness, and handicap. Most important has been its inter-generational transfers, from the working population to the young and old. Arguably under the pressures of globalisation the social insurance element can be maintained as a more efficient means of providing the protection than private provision. But the public inter-generational and vertically redistributional transfers are more problematic. A noble sentiment is that a society ought to provide for the young old and needy, a central notion of the New Zealand welfare state from the 1930s. But what if capital and skilled labour migrate to societies with less noble aspirations?

In summary, globalization poses substantial challenges to the public spirited and welfare state, in that capital and labour mobility (in addition to international trading relations) limit the autonomy a nation has over its economic policies. Yet, providing there is an understanding of these limitations, there remains opportunities for it to fashion a society which is not the market – nature raw in tooth and claw – but one which provides a degree of protection for its weak, and collective goods and services for all. Even so, because of the intensification of globalisation in recent decades, government involvement in the economy may be different from that of a quarter of a century ago, and it will have to take into consideration the globalisation pressures.