From Capitalism, Alone (Branko Milanovic, 2019) p51-3
As Avner Offer and Daniel Séderberg have recently reminded us in their book The Nobel Factor (2016), social democracy and the welfare state emerged from the realization that all individuals go through periods when they are earning nothing but still have to consume. This applies to the young (hence children’s benefits), the sick (health care and sick pay), those injured at work (worker’s accident insurance), new parents (parental leave), people who lose jobs (unemployment benefits), and the elderly (pensions). The welfare state was created to provide these benefits, delivered in the form of insurance, for unavoidable or very common conditions. It was built on an assumed commonality of behavior, or, differently put, cultural and often ethnic homogeneity. It is no accident that the prototypical welfare state, born in the homogeneous world of 1930s Sweden, had many elements of national socialism (not used here in a pejorative sense).
In addition to depending on common behavior and experiences, the welfare state, in order to be sustainable, requires mass participation. Social insurance cannot be applied to only small parts of the workforce because it then naturally leads to adverse selection, a point well illustrated by the endless wrangles over health care coverage in the United States. If it is possible to opt out, anyone who thinks they may not require the insurance (for example, the rich, those unlikely to be unemployed, or healthy people) will do so, since they do not want to subsidize the “others.” A system that relies only on the “others” is unsustainable because of the huge premiums it would require. Thus, the welfare state can work only when it covers all, or almost all, of the labor force or all citizens.
Globalization erodes these requirements. Trade globalization has led, in most Western countries, to a decline in the share of the middle class and its relative income. This has produced income polarization: there are more people at the two ends of the income distribution and fewer around the median.** With income polarization, the rich come to realize that they are better off creating their own private systems because sharing a mass system with those who are substantially poorer and face different risks (such as a higher probability of unemployment or of certain diseases) would lead to sizeable income transfers from the rich. Private systems also provide better quality for the rich (per unit of expense) because they allow savings for the types of risks that the rich do not face. If very few among the rich smoke or are obese, they do not have an incentive to pay for the health care of smokers or obese people. This leads to a system of social separatism, reflected in the growing importance of private health plans, private education, and private pensions.*© Once these private systems are created, the rich are increasingly unwilling to pay high taxes because they benefit little from them. This in turn leads to erosion of the tax base. The bottom line is that a very unequal, or polarized, society cannot easily maintain an extensive welfare state.
Economic migration, another aspect of globalization, to which most rich societies have been exposed in the past fifty years — and some of them, especially in Europe, for the first time ever — also undercuts support for the welfare state. This happens through the inclusion in the social system of people with social norms, behavior, or lifecycle experiences that are, or are perceived to be, different. Natives and migrants may display different behavior and have different preferences; a similar gap may also exist among different native-born groups. In the United States, a perceived lack of “affinity” between the white majority and African Americans has rendered the US welfare state smaller than its European counterparts (Kristov, Lindert, and McClelland 1992). The same process is now taking place in Europe, where large pockets of immigrants have not been assimilated and where the native population believes that the migrants are getting an unfair share of the benefits. The face that natives feel a lack of affinity need not be construed as discrimination. Sometimes discrimination could indeed be a factor, but often this belief can also be grounded in evidence that one is unlikely to experience lifecycle events of the same nature or frequency as other people, and as a result one becomes unwilling to contribute to insurance against such events. In the United States, the fact that African Americans are more likely to be unemployed or incarcerated probably led whites to support less generous unemployment benefits and an often dysfunctional penitentiary system. Similarly, the fact that migrants are likely to have more children than natives might lead to the curtailment of children’s benefits in Europe. In any case, the difference in expected lifetime experiences undermines the homogeneity necessary for a sustainable welfare state.
In addition, in the era of globalization, more highly developed welfare stares may experience the perverse effect of attracting less skilled or less ambitious migrants. Other things being equal, a migrant’s decision about where to emigrate will depend on the expected income in one country versus another. In principle, that would favor moving to richer countries. But we also have to consider the migrants’ views about where in the income distribution of the recipient country they might expect to end up. If a migrant expected to be in the lower part of the income distribution, perhaps because of a lack of skills or ambition, then a more egalitarian country with a larger welfare state would be more attractive. A migrant who expected to reach the higher end of a recipient country’s income distribution would make the opposite calculation. Hence the adverse selection among migrants who choose more developed welfare states.
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