Monday, April 26, 2010

Europe Lackluster Perspective: It is the Tax Cost of Labor and the Bureaucracy, Stupid!

For a very good analysis of the prospect for Europe after the partial Greek default that is to come, read Irwin Stelzer’s article in today’s Wall Street Journal Europe.


“It is now fashionable to say that the southern euro zone consists of profligate, laggard economies such as Greece, Spain and Italy, while the northern euro zone is home to sound, efficient economies.

There is some truth to that, but only some. The northern tier is indeed efficient by comparison with the southern tier. But, the current recovery in France and Germany notwithstanding, no one expects euroland as a whole to grow at a long-term annual rate close to that of the U.S. and China. Europe’s failure to reform its labor markets and welfare states will inevitably become an irresistible drag on growth.

Doubt that and consider a new study by James Heckman and Bas Jacobs, professor of economics at the University of Chicago and professor at the Erasmus School of Economics in the Netherlands, respectively. In their careful and equation-laden study (“Policies To Create And Destroy Human Capital In Europe”), prepared for the nonpartisan National Bureau of Economic Research, they find, “High marginal tax rates and generous benefit systems reduce labor force participation rates and hours worked and thereby lower the utilization rate of human capital.”

A better description of conditions in most European countries would be difficult to find. So it seems likely Europe will be an economic laggard long after the Greek problem is solved, if the injection of new layers of bureaucracy and the imposition of deflationary policies can be classified as a solution.”

Note that the Heckman-Jacobs study vindicates the diagnosis of Edward Prescott on the effect of labor tax on European labor supply and demand that I used in my paper (in French) “Comment gagner plus” (downloadable on my homepage here .

There are two, and only two, decisive policies for stimulating durably European growth: get rid of the euro, or at least depreciate it relative to the US dollar by some 30 or 35% , and second, reduce the tax on labor by limiting it to the amount necessary for maintaining the current vertical transfers between high wages and low wages, but in the form of a health insurance voucher scheme instead of imbedding it in a compulsory monopoly, and tax financed, state insurance. This would preserve the generosity of the present social policy while reducing the current tax on labor for health care by 2/3.

See also my post of June 19, 2009, “U.S. Beware: Don’t Go European on Health Care Costs”.

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