Many left-leaning folks look admiringly to Scandinavia as a region that has managed to make true social democracy work. The New Republic‘s Jonathan Cohn has touted Denmark as “boasting not only one of the world’s most expansive welfare states, but also one of its most robust economies.” Sweden has a 57 percent top income tax rate, and government spending amounts to 55.2 percent of GDP, but it has seen the fastest recovery from the Great Recession in the developed world. It’s enough to make you wonder if the U.S. could learn a thing or two from the area.
Not so fast, three economists say. MIT’s Daron Acemoglu — one of the world’s most notable development economists — Harvard professor James Robinson, and the Paris School of Economics’ Thierry Verdier have a new paper arguing that the region’s success comes with a big asterisk.
Their economic growth is only possible, the authors write, because Scandinavian companies can piggyback on, or copy, innovations that originate in the U.S. If the U.S. adopted a Scandinavian-style government, those innovations wouldn’t occur as fast, and both America and Scandinavia would do worse.
But this finding relies on a model that doesn’t so much compare the American economy to social democracy as a stylized version of the American economy to actual socialism.
First, let’s go through their argument. The U.S. is more conducive to entrepreneurship and innovation, the authors reason, precisely because it has such high income inequality. When the richest of the rich in a society are just obscenely wealthy, those at the bottom or middle of the ladder have a greater incentive to try to make it up there. This incentive leads to more technological innovation in the U.S., from which Scandinavia benefits in turn.
The authors look at patent data to demonstrate this innovation advantage. They note that companies with new inventions often target them for sale around the world, and thus get them patented in the U.S. But, adjusting for population, the number of patents filed in the U.S. by Scandinavian firms is far lower than the number filed by US firms. This is particularly true for influential patents, which are later cited by other patent applications, as the below chart shows:
To test this, the authors built a model (of course). They suppose that one country is a world technological leader and has a “cutthroat capitalist” economic model, while the rest lag technologically and have a “cuddly capitalist” model. These are defined, respectively, as systems with some social welfare programs but where successful entrepreneurs still earn more than unsuccessful ones, and systems where there is a big enough welfare state that every entrepreneur makes the same amount, whether or not they succeed.
They then show that in this situation, the one cutthroat capitalist country will be more innovative and, at first, grow faster, but then the cuddly capitalist countries will quickly free-ride off that innovation and achieve the same growth rate. What’s more, the average cuddly capitalist country resident will be better off than the average cutthroat capitalist country resident, due to the former’s more generous welfare state. This, they say, explains the phenomena at work with Sweden and the US.
Hold on. Look at that definition of “cuddly capitalism” — meant to stand in for the Scandinavian model — again. It requires that there be literally no difference between successful and unsuccessful entrepreneurs’ income levels. “To each according to their contribution,” in other words. This is, to a T, the Marxist definition of “socialism,” seen as the mid-stage between capitalism and communism, as given in Marx’s “Critique of the Gotha Programme” and Lenin’s The State and Revolution.
That, suffice it to say, is not how Scandinavia works. Ingvar Kamprad founded IKEA in Sweden and now he’s the fifth richest man in the world, worth $42.8 billion. H&M founder Stefan Persson is at number 14 with $26.1 billion. The median Swede has a net worth of $43,297, according to Credit Suisse. Entrepreneurship still pays. The distinction between Scandinavia and the U.S. isn’t that success doesn’t matter in the former. It’s that unsuccessful entrepreneurs have more resources to help them in Scandinavia.
To be fair to the authors, it certainly seems plausible that a more generous welfare state, by making being middle-class more comfortable, makes rising above it less enticing, hurting innovation. The effect is likely less stark than the model suggests, but it could still be real.
That said, the empirics that the paper presents don’t necessarily support that conclusion. U.S. patent law is infamously easy to exploit, and there has been a huge increase in “patent trolling,” or patenting things to discourage competitors rather than because they’re legitimate innovations, in recent years. It seems plausible that Scandinavian countries would be less well-versed in that practice than U.S. ones, which could explain why they get so many fewer U.S. patents. If that’s so, then the patent data doesn’t really tell you that the U.S. is more innovative.
If you use other, potentially more reliable measures, Scandinavia is actually beating the U.S. on innovation. Richard Florida’s team at the University of Toronto found that Sweden and Finland both spend more, as a portion of GDP, on research and development than the US. All four Scandinavian countries have more research personnel per capita than the US. There are two possible explanations here. Now, that could mean that Scandinavia is less innovative despite spending more on research and employing more researchers, which would actually support the authors’ point. But it could also indicate that patent trolling is accounting for the difference in the countries’ patent rates, not an innovation disparity.
The other reason for doubting the Acemoglu et al result is that the period in American history that saw the most innovation, the 1960s and 70s, also had much lower income inequality than today. Some, like Tyler Cowen and Peter Thiel, have argued that we’re in a “great stagnation,” that innovation has slowed to a crawl in recent decades. But if that’s so, then innovation has slowed to a crawl just as income inequality has exploded. That could mean the relationship between the two is more complicated than Acemoglu and his coauthors suggest.
Indeed, if you compare patent rates between the US and Scandinavia from 1963 to 1989, you don’t see the U.S. advantage getting bigger even as inequality is starting to rise:
You can see this even more clearly if you compare the U.S. patent advantage relative to the region to its inequality disadvantage over the same period. Economists and top income specialists Anthony Atkinson, Emmanuel Saez and Thomas Piketty have computed the “inverted Lorenz-Pareto coefficient,” which measures how big the top end of the income distribution is in a given country, for the U.S. and Sweden over the same period as above. The U.S. measure is bigger throughout, but it grows bigger relative to Sweden’s as well:
But the U.S. doesn’t start to get more patents as this happens. Indeed, there’s no relationship:
It seems fair to conclude, then, that even if Scandinavia and the U.S. have different innovation rates, it’s not because of income inequality. If that’s true, then the authors’ model doesn’t hold, and a Swedish levels of equality, and the welfare state needed to achieve them, seem entirely compatible with high levels of innovation that can drive growth.