Monday, January 11, 2010

comparing welfare state institutions

Today's New York Times column by Paul Krugman argues against conservatives who say that our health care reform is leading us to a dead end of economic stagnation similar to what social democratic Europe has experienced. He notes that according to a variety of metrics, Europe is doing just as well (or just as bad) as the U.S. Greg Mankiw wants to play the numbers game and responds with a list of the U.S. + developed European countries' PPP-adjusted per capita GDP levels to show how much better off America really is. This is not helpful to Mankiw because it doesn't show what precisely Americans are spending this money on. In fact according to the OECD, the rate of social spending has outpaced GDP growth, so that the ratio of social spending to GDP has risen from 11% in 1990 to over 18% in 2003 (I apologize for the lack of more recent data, but it's clear the trend is still rising given healthcare costs). By the way, The OECD defines social expenditures as:
The provision by public and private institutions of benefits to, and financial contributions targeted at, households and individuals in order to provide support during circumstances which adversely affect their welfare, provided that the provision of the benefits and financial contributions constitutes neither a direct payment for a particular good or service nor an individual contract or transfer.
In addition, private social spending composes over 10% of social expenditures in the U.S., whereas the OECD average is 3%. Private social spending would be things such as employer-provided health plans (market-based health) and pensions (market-based finance). Here is the source for these data. Thus the U.S. may have higher average income (not much of a metric to begin with, since it ignores inequality and other measures of welfare), Americans individually spend more on their own social provisions (and arguably, receive less due to the high market costs of care).

As noted in a previous post, welfare policies in the U.S. have historically been market-reinforcing rather than introducing extra-market solutions to social problems. The difference is essential. Markets have a system of allocation and distribution that is governed by all the standard laws of supply and demand. Extra-market solutions, such as poor relief, have a system of allocation and distribution too but the system here is governed by democratic institutions. (By the way, the U.S. has the one of the lowest poverty relief rates of any developed country.) The fact that public spending in the U.S. is largely private in nature is remarkable.

Various explanations have been made to explain the difference. The most convincing to me is the one which realizes that in the end you can't play these small numbers games like Krugman and Mankiw (and to which, admittedly, I've fallen into) because these developed countries are essentially the same. Statistics don't lie, but it is true that both Krugman and Mankiw have specific theoretical models of welfare in their head that they are relying on when presenting their evidence. These models aren't always explicitly stated for a variety of reasons, one of which is that they involve much bigger and more fundamental battles. In the end, all systems in a developed country are the product of interactions among three separate agents: labor, capital, and the state. The autonomy of the third is debatable but the important point is that it does have an underlying interest in promoting a sustainable economic order which protects the interests of the wealthy (who need a stable climate for investment purposes).

At any rate, this little exchange between Mankiw and Krugman will most likely turn into a debate among various economists in the blogosphere over the next few days. I will keep this post updated with the latest exchanges and some historical perspective on this issue.

UPDATE: Krugman responds to some points here and here

UPDATE 2: Still addressing the debate, Krugman recalls a column from 2005 making, in a similar way, some of the arguments made here.

UPDATE 3: Mankiw responds by quoting his favorite textbook and Edward Prescott here

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