Norway, on the face of it, might seem to be a good example of a welfare state with low income inequality that is also very prosperous. Should we, therefore, conclude that moderating the income gap, by keeping top salaries constant while regulating low wages, would produce the same results? This is what a new, relatively unknown South African organisation which calls itself the Responsible Market Foundation (RMF) advocates.
With evident disdain for my so-called “free-market fundamentalism”, this group (or solitary soul) also told me in a lengthy series of tweets that Norway’s national oil company, Statoil, is a great example of how state involvement in the economy can benefit a country’s population.
But there’s a problem with using Norway as an example. It is cherry-picking of the worst sort. As the chart below shows, the correlation between a country’s Gini coefficient, which measures income inequality, and its income per capita is tenuous at best:
Richer countries do appear to have somewhat less inequality, but correlation is not causation. In fact, low income inequality is probably an effect of being prosperous with low economic growth. There is little evidence, either in the bare numbers or in economic theory, that reducing inequality is a remedy for poverty. Conversely, there is no evidence that inequality reduces prosperity.
The 20 countries with the lowest Gini coefficient are: Azerbaijan, Ukraine, Slovenia, Norway, Belarus, Slovakia, the Czech Republic, Kazakhstan, Iceland, Finland, Sweden, Romania, Kyrgyzstan, Belgium, Netherlands, Moldova, Albania, Denmark, Iraq and Pakistan. Only seven of them are particularly rich. Selecting the richest of those from that list of 20 hardly makes the case that income equality is the way to economic success. Yet that is exactly what the RMF does.
Serbia and Iraq both have low inequality, but have the roughly the same GDP per capita as South Africa, which for historical reasons has the highest inequality in the world. Moldova, Pakistan, Ukraine and Kyrgyzstan are just as equal as Norway, but are desperately poor. Azerbaijan, the most equal country on earth, is not much more prosperous than South Africa, the least equal.
What about economic growth? Again, there is no clear relationship between economic growth (using mostly 2015 numbers) and income inequality:
If anything, if you ignore the outliers, low inequality seems to coincide with low economic growth. This makes intuitive sense, of course. If you picture the income spectrum from absolute poverty to the richest person in the country as an elastic band, then stretching it will make everyone richer, but also increase inequality. Inequality is an effect of economic growth, not a cause of economic stagnation.
The economies of Brazil, Russia and Belarus have performed equally poorly, even though they have high, moderate and low inequality, respectively. With the exception of Brazil and perhaps Venezuela, none of the world’s recent economic disaster zones have particularly high inequality rates. The economic successes are all over the inequality map, too. And Norway, that supposedly stellar example of what low inequality can do, has pretty much the same aneamic growth as South Africa.
So there is clearly little evidence linking low levels of income inequality with either prosperity or economic growth.
The RMF would have you believe that Statoil, Norway’s state-owned oil company, is a model for the rest of the world to follow. It is, of course, true that sitting on a lake of oil, or any other resource, can be very beneficial to a country’s economy. But if the people’s prosperity were guaranteed by such state-owned resources, then Nigeria and Venezuela should also be models of growth and wealth. They aren’t.
Whether state control of certain resources or economic sectors actually benefit the general population depends entirely on whether that state already has well-functioning institutions. Norway happens to enjoy a mature, peaceful democracy with stable institutions and low levels of corruption. Those are the factors that matter.
After the Second World War, Norway was one of the largest per-capita recipients of Marshall Plan reconstruction funds. It established a social democracy with a large role for the state in the economy. Thanks to free trade, it enjoyed a growth rate of 3.3% per annum during the “golden age” of 1950 to 1973, although its state-led bureaucracy and welfare system caused it to lag the growth of other European countries. The rise of its petroleum economy in the 1970s made up for its sluggish productivity and rising labour costs, but could not avert an economic crisis around 1990 that forced the state to take over most of the commercial banks to avoid total financial collapse.
Like most other European countries, Norway built its wealth on post-war reconstruction and free trade. It has been using that prosperity to fund a growing welfare state for its people. It’s been living on its savings.
The RMF would have you believe that the significant role of the state in Norway’s economy ranks alongside income equality as the foundation of its prosperity. But the size of the state is only one measure of economic freedom. The tax system, property rights, the legal system, sound money, free international trade, as well as labour, credit and business regulations, all play a role in how well an economy performs.
In the Fraser Institute’s 2016 Economic Freedom of the World report, Norway scores only five out of 10 on the size of its government, and 4.5 on labour market regulations. In all other areas, however, its scores are respectable, between seven and 10. This gives it an overall score of 7.5, earning it a ranking of 32 out of 159 countries evaluated.
Norway falls in the top 25% of “most free” economies, alongside many of the rich countries of the world. By comparison, South Africa is mired in the 3rd quartile, ranking 108th. Dead last in 159th place is Venezuela, which sits on the world’s largest oil reserves, but its socialist ideology and state control of the economy have only produced despair and starvation.
The RMF describes its policy of salary gap moderation as “decoupling our labour price from the market”. But since there is no clear link between income inequality and either prosperity or growth, the notion that this policy will have any beneficial effect is spurious.
By contrast, the Fraser Institute offers a powerful series of charts, which show that various measures of economic freedom are strongly correlated with prosperity, growth, poverty rate, absolute income of the poor, life expectancy, political rights and civil liberties.
If these are the goals we would like to reach, it is clear that we should pursue economic freedom, rather than advocating for state intervention in the economy. Peace, sound governance and legal institutions, free trade, secure property rights, flexible labour policies and limited business regulations are the causes of prosperity and a good quality of life for all. Those should be our policy objectives.
A democratic country might choose to spend that prosperity on a Norwegian-style welfare state, but we cannot jump the gun and pretend that establishing a welfare state with low income inequality will produce prosperity. That would be to try to spend wealth that we have not yet earned.
I’m afraid there is nothing responsible, nor sensible, about the salary gap moderation goal of the Responsible Market Foundation. DM