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Analysis/Comment Last Updated: Nov 2, 2013 - 8:55 AM

Why should Europe expect ever rising standards of living?
By Michael Hennigan, Finfacts founder and editor
Aug 27, 2013 - 6:33 AM

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As a weak recovery takes hold in Europe, the likelihood of no real growth in incomes for working families will remain a top priority for politicians but high debt levels will limit the changes that can be made in taxations systems, to ease the pain. Why should Europe expect ever rising standards of living?

Monetary values only partially reflect the better lives lived by most Europeans in the post-1945 period. Improved healthcare and in particular the availability of what could be termed miracle drugs, improved sanitation, the disappearance of coal-burning smokestacks in cities and both improved workers' rights and social safety nets, are just some of the huge improvements.

Janan Ganesh, in today's Financial Times writes in respect of falling real earnings in Britain in particular:

Western electorates have long viewed globalisation as a menace to their livelihoods, but their leaders are barely wiser about viable solutions. In the 1990s, it was hoped that investment in 'human capital' would see off the threat of wage competition. Our workers might be costlier but they would also be better. But results have been patchy at best and it takes a very sunny disposition to believe that the ideas now in vogue – fiddling from the right, daydreaming from the left – will fare much better."

Ireland was one of the early beneficiaries of globalisation, before the end of communism in Eastern Europe and both China and India joining the global market economy. However, the dilemma now is that the indigenous sector over the past half century has not grown to a level where it could maintain a developed country standard of living while the foreign-owned sector is either capital intensive or mainly engaged in administration activities. Low corporate taxes and one of Europe's lowest employer social security burdens, coupled with State supports, are not reflected in the performance.

Richard Freeman, the Harvard economist, has calculated that:

In 1980 the global workforce consisted of workers in the advanced countries, parts of Africa and most of Latin America. Approximately 960m persons worked in these economies. Population growth — largely in poorer countries — increased the number employed in these economies to about 1.46bn workers by 2000.

But in the 1980s and 1990s, workers from China, India and the former Soviet bloc entered the global labour pool. Of course, these workers had existed before then. The difference, though, was that their economies suddenly joined the global system of production and consumption.

In 2000, those countries contributed 1.47bn workers to the global labour pool — effectively doubling the size of the world’s now-connected workforce."

Ireland's hourly labour cost in 2012 (whole economy ex public service) was  €29 compared with €30 in Germany, €34 in France and €7 in Poland.

Actual Individual Consumption (AIC) per capita is a better proxy for Ireland's wealth ranking than GDP per capita and in 2012, Ireland's AIC was close to Italy's and below the EU average. The GDP per capita was 29% higher than the average.  See detail here.

Eurostat said [pdf] last November that social protection expenditure as a percentage of GDP was above 30% in 2010 in France (33.8%), Denmark (33.3%), the Netherlands (32.1%), Germany (30.7%), Finland (30.6%), Austria and Sweden (both 30.4%), and below 20% in Romania (17.6%), Latvia (17.8%), Bulgaria and Estonia (both 18.1%), Slovakia (18.6%), Poland (18.9%), Lithuania (19.1%) and Malta (19.8%).

Ireland's was at 29.6% but using GNP (gross national product, mainly excluding the profits of the multinational sector) would put us at a similar level to France.

After Luxembourg (which is an anomaly as part of its workforce lives elsewhere), the highest spending per capita was recorded in the Netherlands and Denmark at over 40% above  the EU27 average, followed by Austria, Ireland and Sweden at around 30% above the average. The lowest  spending per capita was registered in Bulgaria and Romania at less than 30% of the EU27 average.

Only in Japan, South Korea, Mongolia and Uzbekistan out of 35 countries in the Asia-Pacific region does spending on social protection equal at least 5% of per capita gross domestic product, the Asian Development Bank (ADB) said in a report last month. Insurance and pensions dominate such expenditure, while few governments focus on labour, the report said.

South Korea’s social-protection spending, which is about 5% of per capita GDP, is a reasonable target for middle-income countries, ADB said. China's level is 3.5%, the Philippines 2%, and Indonesia 1.1%.

In South Korea, social protection comprises about 80% insurance and 20% assistance. In Singapore, nine-tenths of the government’s spending consists of contributions to the country’s Central Provident Fund, a compulsory saving scheme from which Singaporeans can draw for housing, healthcare and retirement.

I'm not suggesting that Europe emulate Asia but with increasing ageing, cost will remain a challenge.

According to the Organisation for Economic Cooperation and Development, the longest retirements for women among its mainly developed 34 member countries, are in France, where retirement stretches on for about 27½ years; France also holds the OECD record for men  24 years spent in retirement, compared with just over nine in Mexico.

French men generally retire at 59. So a male entering the workforce at 24 would have 35 years working and 48 years as a dependent of the state.

When countries cannot afford to allow all citizens benefit because of the cost, dual labour markets are allowed develop and in France's case, it hasn't had a balanced budget in any year since 1974  so public debt rises from 22% of GDP to over 90%.

Middle and low-income workers have been particularly hit by competition from for example China; migration from developing economies and outsourcing while the rewards to the owners of capital have jumped.

“We’ve got more work to do,” President Obama said last month at Knox College in Galesburg, Illinois. “Even though our businesses are creating new jobs and have broken record profits, nearly all the income gains of the past 10 years have continued to flow to the top 1%. The average CEO has gotten a raise of nearly 40% since 2009. The average American earns less than he or she did in 1999.”

Rent-seeking, where politically well-connected groups thrive, and income inequality, have grown in both the US and Europe.

SEE also: Finfacts: The end of western affluence?

Finfacts: Half of Ireland's population on welfare

Chris Giles, economics editor of the FT wrote in 2011:

For some middle-income groups, the idea of stationary or declining incomes is not new. Fork-lift truck drivers in Britain could expect to earn £19,068 in 2010, about 5% lower than in 1978, after adjusting for inflation. Median male real US earnings have not risen since 1975. Average real Japanese household incomes after taxation fell in the decade to mid-2000s. And those in Germany have been falling in the past 10 years.

Some of this pressure on the middle income households was masked – at least temporarily – by the credit boom, which allowed families to spend more than they earned. Now, three years after the end of the cheap money era – and with developed countries struggling to get their economies growing again – middle classes around the globe are feeling the squeeze."

The New York Times reported last week that although median annual household income rose to $52,100 in June, from its recent inflation-adjusted trough of $50,700 in August 2011, it remained $2,400 lower — a 4.4% decline — than in June 2009, when the recession ended. This drop, combined with the 1.8% decline that occurred during the recession, leaves median household income 6.1% — or $3,400 — below its level in December 2007, when the economic slump began.

The chart at the top of the page shows that inflation-adjusted median household income (the mid-point where half of households are below and half are above) has been almost static over 20 years and the increasing participation of women in the workforce has helped to prevent household income from falling more.

Angus Maddison
, the late renowned economics historian, wrote in 1982 that real per capita income in the US had grown by about a remarkable 2% a year for two centuries.

The chart on the right shows that the rate of growth has fallen in most advanced countries in each succeeding decade from the 1960s.

Who knows what magic mouse trap that maybe invented in coming years, which would not come up against global resources constraints?

However, what we can say with some assurance is that the notion in recent decades that Europe would have high-paying knowledge economies while developing countries remain centres of low-paid manufacturing, is dead.

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