We're Not Iceland

by Reihan

Will Wilkinson parries with Matt Yglesias over Iceland, and I think Wilkinson comes out ahead. First, Matt writes,

Iceland features somewhat lower levels of social spending than do the other Scandinavian countries, but it's still a really high level especially when you consider that pretty much none of that tax revenue is going to the country's non-existent military. I would love to see the US become more like Iceland -- flexible labor market, high taxes, and generous public services sounds good to me. But I'm pretty sure Cato would freak out if I proposed a 50 percent increase in the tax share of the American economy.

To which Will responds,

Can’t they both be right? Iceland, much like Denmark, is more or less Hong Kong with a huge welfare state. High personal tax rates and redistributive policies certainly do affect incentives to work, save, etc. And certain state-provided services do tend to crowd out private alternatives. That said, it is possible to have high tax rates, lots of redistribution, and no other policies regulating the operation of the market. Neither Iceland nor Denmark leave their markets that unfettered, but it is simply undeniable that they are extremely wealthy, free-market capitalist countries. Indeed, the relative success of countries like Denmark and Iceland is outstanding evidence that the best way to ensure high levels of welfare spending (in tiny, ethnically homogeneous countries) is to let the capitalism rip.

And there lies the rub. Two thoughts. First, as Peter Lindert has argued, relying heavily on a VAT means that the people who are consuming public services are also paying for them. Our tax system is, suffice to say, not designed with this goal in mind. So Will's Rawlsekian vision, with which I'm very sympathetic, is closely tied to broad-based consumption taxes.

Many of our most egregious labor-market interventions reflect the egalitarian aspirations of a deeply divided society. We don't like the idea of handouts or special favors, so we choose radically less efficient and effective institutions that reflect our values yet fail to achieve our desired outcomes. Consider the Americans with Disabilities Act. It is designed to eliminate discrimination against disabled workers and, presumably, to increase the employment of disabled workers. In Japan, in contrast, the government subsidizes firms for hiring a certain number of disabled workers. The guiding premise isn't that corporations are bad guys that discriminate, but rather that it can be expensive to accommodate workers with special needs, and the state should foot the bill for advancing the goal of social inclusion. Guess what? The Japanese approach has done a much, much better job of increasing employment among the disabled. Our approach has been a tremendous boon for trial lawyers.

We often use a strangely legalistic framework for achieving social ends. Racial preferences also come to mind. Consider the following, from a Newsweek profile of Michelle Obama.

At Harvard, she felt the same racial divide. Verna Williams and Michelle became friends in their first year of law school. She remembers many of their fellow black students worrying that white classmates viewed them as charity cases. But she suggests Michelle was not among them. "She recognized that she had been privileged by affirmative action and she was very comfortable with that," Williams recalls.

Michelle recalls things differently. A campaign spokeswoman says she had an edge getting into Princeton not because of affirmative action, but because her older brother was there as a scholar athlete. She was a "legacy," just like any other applicant with family ties to Princeton. Her aides say Michelle earned her way into Harvard on merit by distinguishing herself at Princeton.

How odd. This almost suggests that there is something to be ashamed of, which seems like exactly the wrong attitude. But of course people are sheepish about being the beneficiaries of a racial preference. And imagine how uncomfortable people would be if we said, "Okay, we live in a racist society, so black and Bengali children will be given a larger school voucher to account for that fact." This approach would make a lot of sense. It is the approach that undergirded the University of Michigan's undergraduate affirmative action program, in which underrepresented groups were given a numerical bonus in determining admissions decisions. This had the virtue of simplicity and transparency. Sure enough, the Supreme Court struck that program down in favor of the Law School's "holistic," opaque approach to preferences.

My sense is that many of the pathologies of our labor market derive from the effort to navigate this tricky terrain of respect. Iceland and Denmark and Japan don't worry about this quite as much. Class consciousness, for example, takes a very different form, in which the less affluent feel entitled to certain benefits. They don't really give a damn about what the bosses think.

But the thing is the United States will never be Iceland or Denmark or Japan, which is why our labor market interventions will have to take a very different form. Would-be reformers need to understand this.