Why is the West bankrupt?

August 8, 2011

By Laurence Copeland. The opinions expressed are his own.

The UK, USA, the PIIGS (Ireland and Italy are together in the same stye), France is in poor fiscal shape  – OK, Germany is ostensibly living within its means, but it looks a lot less solvent when you remember that it has underwritten the rest of the euro zone (in large part, to protect its own irresponsible banks). In any case, as I have argued in previous blogs, this or a future German Government is likely to cave in to the pressure from its own electorate and from inflationist economists at home and abroad to join the party and spend, spend, spend. Only Australia and Canada, riding high on the commodities price boom, and a handful of small countries, look stable.

Where will it all end?

With inflation, almost certainly, but beyond that, it is hard to say. However, there is one prediction I would offer for the medium to long term outcome, and it applies not only to the euro zone, but to Britain and America too – in fact to the whole of the comfortable, complacent industrialised world – and it is this.

We are living through the death throes of an ideal, a dream which has turned into a nightmare – it is the end of the social democratic welfare model.

I am referring to the whole panoply of benefits (entitlements, as they are called in America), labour market regulations (employment protection, minimum wage legislation, limits on the length of the working week etc. etc.) and other social democratic devices intended to inflate like airbags to protect us all from shocks from any possible direction. The whole edifice built up in Western countries to shelter us from the need to earn a living is now clearly unsustainable. We can no longer afford a regime which allowed, indeed encouraged us to live permanently beyond our means both as individuals and as a society.

Two aspects of the current crisis make this apparent. First, and most obviously, we are all more or less like Greece – our debts may be proportionately smaller, but they are still crippling. Our pensions regime may be less egregiously wasteful than Greece’s, but they are still more generous than we can afford. As for healthcare and care for the aged, they are a crippling burden and demographic pressures will make them impossible for any country to sustain at anything like present levels.

Of course, in principle, we can choose any level of welfare we want, provided we are willing to pay for it. In Southern Europe, the prosperous middle class are honestly dishonest about contributing  – in other words, they simply evade the tax, voting with their wallets against the regime. In respectable North European countries, people cannot evade tax, so they avoid it instead.

Now what is often forgotten is that, for economic purposes, tax avoidance is not restricted to complex schemes involving tax havens and obscure loopholes in the tax code. The simplest, most popular and most damaging tax avoidance scheme is simply to drop out of the labour force, pleading sickness, taking early retirement or straightforwardly going on the dole. Failing that, there are plenty of jobs for people with the right skills in sunny Australia. In most of the rich countries, more than one in three of the working-age population is already outside the labour force i.e. neither in employment nor currently looking for a job, a percentage which tends to rise at times like the present, where there are fewer and fewer jobs which can compete with the benefits on offer to those who don’t work. In particular, recessions magnify the discouraged worker phenomenon which results when high marginal taxes – sky-high when they take the form of means-tested benefit withdrawal, as they do for those caught in the poverty trap – meet decreasing demand for labour.

On unchanged policies, the number of workers left to carry the burden of the welfare state will decrease even further, just at the time when they are most needed. We might just about have been able to stretch matters for another decade or two before the system collapsed, if globalisation had not brought us suddenly into head-on competition with two billion Asian workers who may be less productive, but are willing to sell their labour for a fraction of our wages, without the promise of a month’s paid holiday, nor social security of any kind, nor limits on their working week, with minimal intervention from local health and safety officials (if there are any) and so little employment protection that their bosses enjoy more or less complete freedom to hire-and-fire at will.

Of course, nobody is suggesting that we should reduce our standards to those of the Third World. But the future is almost certainly going to involve a gradual raising of welfare standards in the emerging economies and a gradual reduction in ours, thereby preserving some sort of competitive equilibrium. By far the most efficient way to achieve this outcome is for Government to shrink its role drastically, leaving employers and workers to strike their own deals on pensions, healthcare, paid holidays, hours in the working week, and so on and so forth.

In other words, instead of holding a political auction to decide on the level of benefits people should get – and then finding they are unwilling to pay for it – we need to let individuals in the labour market decide how much they are willing to pay (in reduced wages) for each additional benefit – something which only happens to a small extent today.

Of course, as every politician knows, benefits are always popular and the beneficiaries are as unlikely to vote for limits on them as are turkeys to vote for Christmas. On the contrary, their votes are for sale – as long as any change brings more benefit than it adds to your tax bill, it is irrational to vote against, so the welfare state creates its own ever-growing electoral clientele.

Reversing this process will be painful because the expansion of state responsibility over so many aspects of our lives in recent decades has gone hand-in-hand with a diminution in personal responsibility – after all, responsibility is a zero-sum game. When people have got used to the idea that they are no longer held responsible for their health, their financial solvency, their housing, their own or their children’s education, they start to disown responsibility for everything – they look for someone else to carry the can even when the state is either unwilling or unable.

No wonder we see the same phenomenon even in areas where money is not directly involved. Thieves and murderers take to crime because the System (presumably, the Government) has failed them. Football hooligans run amok because they are provoked by the players (who must be punished accordingly). If I am overweight, it is because wicked TV advertisers tempted me with junk food (but if I am anorexic, it’s because they persuaded me to starve myself). And addiction is a very helpful excuse too. If I drink too much, or gamble, or take narcotics, or spend all day playing video games, it’s the addiction to blame – not me.  The history books need to be rewritten: Don Juan was actually a sex-addict and poor Genghis Khan was a helpless rape-and-pillage addict!

It will be a long difficult painful process back to the default position of our Victorian ancestors, which was that our fate is (or should be) in our own hands. To get back to sanity will require political courage in the coming years, because the economic and social stress will test democracies to the absolute limit and we know from ‘Yes, Minister’ that in the politicians’ dictionary courageous is a synonym for foolhardy.

Image — The DAX Index board is pictured at Frankfurt’s stock exchange August 5, 2011. Picture was taken with a fisheye. REUTERS/Ralph Orlowski

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