Download Financial crises, institutional change and small welfare states.

Financial crises, institutional change and small welfare states.
Denmark, Finland, Ireland and New Zealand compared
Pekka Kosonen
Department of Social Research, University of Helsinki, Finland
Paper to the ESPAnet Anniversary Conference, 6-8 September 2012, Edinburgh
Abstract
In my paper, four small welfare states (Denmark, Finland, Ireland and New Zealand) are
studied, in particular in the more general framework of institutional changes. The central
question is: can we detect revolutionary or evolutionary institutional changes in these
countries after the turning points, which are located in the mid-1980s and the current post2007 financial crisis? All four countries established their own national systems of regulation
in the postwar period, including the rise of different welfare arrangements. Since the mid1980s all national systems of regulation experienced a reappraisal, but the solutions
diverged. New Zealand took a route from controlled to a very market-liberal model (a rather
revolutionary institutional change), whereas Ireland developed a peculiar system of social
partnership, and with the help of foreign high-tech investments an exceptional economic
upturn and the ‘Celtic tiger’ phenomenon arose. In Denmark, a ‘gradually accumulating’
renewal was associated with social stabilization and labour-market reforms. The Finnish
financial liberalization was followed by overheating of the economy and severe banking
crisis, which however ended with the rise of new high-tech industrial development (a
process of ‘creative destruction’). After the post-2007 crisis, new challenges, problems as
well as opportunities emerged in all four countries. While Denmark, Finland and New
Zealand have carried out labour-market and welfare reforms with an emphasis on economic
imperatives and introduced savings measures during the current global recession, Ireland
has experienced destabilization of the economy in a way which to a great extent reminds
the Finnish developments in the end of the 1980s and early 1990s: overheating of the
economy, housing bubble, banking crisis and cuts in entitlements. In the case of Ireland, a
thorough re-evaluation – or reconfiguration – certainly is needed, although this is difficult
under continuous pressures to make short-term decisions. In the other countries, a ‘creative
destruction’ in micro-level industrial dynamics is going on. In welfare policy, the relation of
welfare and employment/employability is emphasized, with questionable effects on
previous goals of universalism, redistribution and equality.
Financial crises, institutional change and small welfare states.
Denmark, Finland, Ireland and New Zealand compared
1 Introduction
The central question of my paper is: can we detect revolutionary, evolutionary or other kind
of institutional changes in the welfare states of Denmark, Finland, Ireland and New Zealand.
The decisive turning points are located in the mid-1980s and the post-2007 financial and
debt crisis. Thus, the approach is comparative in two ways: two turning points are compared,
and this is combined to a comparative analysis of four different countries.
The institutional changes are related to the current process of globalization. Globalization is
interpreted as a development involving not only free trade and direct foreign investments,
but essentially also financial market liberalization, which took place in all developed (and
many developing) capitalist national economies mainly during the 1980s. The reason to
concentrate on small states, in turn, is that they are very dependent on the international
economy and thereby vulnerable to sudden changes in the world economy. The
development of welfare systems and the systems of democratic corporatism can be
understood against this background. However, there is a lively discussion whether
globalization is challenging this relationship, because with the increase of the power of the
financial markets, generous welfare policies may become questionable due to the reactions
of the markets. The challenges have strengthened during the current financial and debt
crisis. On the other hand, strong industrial relations and welfare institutions of the small
countries may create a counter-force to the global pressures.
The theoretical framework is based on institutionalist thinking, in particular on the analyses
of institutional changes. This implies that national systems of regulation are explored taking
into account macroeconomic developments, the influence of political parties and labour
market organizations, and the country-specific traditions of economic policy and welfare
policy. In my interpretation, institutions are not necessarily associated with path
dependence, but also more or less radical path breaking developments should be studied. In
particular, the turning points of financial market liberalization in the 1980s and the current
financial market crisis are taken as examples of probable sudden institutional changes. We
can find similarities in responses to these challenges but, in addition, quite big differences,
due to the institutional heritage of the four small welfare states. Moreover, it is emphasized
that these changes cannot be explained only – or mainly – by ‘external shocks’: endogenous
developments and tensions of the national systems of regulation have to be integrated to
the explanatory model.
2 The framework of institutional change
Christopher Hood (1994) explores what he calls economic policy reversals. In his
interpretation, the old ‘dinosaurs’ of economic policy appeared to die out since the early
1980s. If there lived the tyrannosaurus and other dinosaurs for nearly 140 million years,
disappearing some 64 million years ago, the corresponding species in the postwar political
economy included Keynesian full-employment policy, public enterprise, ‘classical’ styles of
business regulation, progressive income tax structures and traditional public management
styles. According to Hood, these animals dominated the economic policy landscape, and noone could predict their demise. However, this is exactly what happened. Deregulation,
privatization, monetarism, government spending cutbacks, a move to ‘flatter taxes’ and a
shift to ‘new public management’ are the species that dominate today.
The question is, then, how to explain this reversal. Since Hood cannot find any single
explanation, he gives four basic approaches to study the change. These four candidates are
as follows. First, the idea that policy reversal comes mainly from the fore of new ideas,
which succeed in upsetting the status quo in some way. Second, policy reversal may come
mainly from the pressure of interests which succeed in achieving changes that suit their
purposes. Third, policy changes may also come from changes in social ‘habitat’, which make
old policies obsolete in the face of new (postindustrial) conditions. And finally, there is the
idea that policy reversal comes from ‘inside’, with policies and institutions destroying
themselves rather than being destroyed from outside. The last approach should be taken
seriously in comparative welfare state studies.
From an actor-centred institutionalist perspective, policy reversals are naturally interesting.
However, other kind of institutional changes are also possible. Thus, one can first distinguish
between evolutionary and revolutionary institutional changes (Campbell 2004). Evolutionary
change refers to incremental, step-by-step changes of social institutions. In contrast,
revolutionary change means that there are changes of all or at least most institutional
dimensions within a certain – relatively short – time period. For instance in the production
process, monetary policy, fiscal policy and welfare policy, new doctrines are adopted, and
also the industrial relations system is rearranged.
When exploring revolutionary changes, it is important to specify those creative actors,
entrepreneurs or bricoleurs, and courses of action, which are likely to explain the sudden,
revolutionary institutional change. More revolutionary change is likely when entrepreneurs
(bricoleurs) are located at the interstices of social networks, organizational fields, and
institutions. The reason is that entrepreneurs at these locations are more likely to have a
broad repertoire with which to work and because they are more likely to receive ideas
about how to recombine elements creatively in their repertoire, or in the case of diffusion,
combine new elements with the old ones. (Campbell 2004.) Entrepreneurs include here, of
course, also some politicians or researchers.
Moreover, one possible institutional change may prove to be important. This is here called
gradually accumulating institutional change. This is connected to endogenous
contradictions of institutional arrangements, or the gradually increasing incompatibility with
the changing external environment. In this case, institutional change seems to be slow, but
gradually the changes are combined and accumulated, and in the end the outcome is a
decisively different kind of societal constellation. This is the analysis of Streeck (2009) in the
German case. In comparison with revolutionary change, we do not find sudden changes, but
gradually accumulating changes which, however, can produce fundamentally new kind of
relations and practices.
With regard to welfare state transformations, institutional stability is often emphasized. In
this interpretation, retrenchment policies have failed or succeeded only marginally, as
according to Pierson (1994) happened in Britain and the US under the Thatcher and Reagan
administrations. One reason is that when welfare programs once have been created, there
is a new environment in which various interest groups try to defend the status quo. There
are two problems in this very influential approach. First, all welfare reforms hardly can be
conceptualized in terms of retrenchment or quantitative cutbacks – there are many changes
in the relation of labour markets and welfare systems that require different kind of analyses.
As Yerkes (2011) shows in the case of Dutch welfare reforms, the main question may well be
the dichotomy welfare versus workfare/employability. Second, emphasizing strongly
stability of welfare systems can lead one to underestimate the possibilities of more
revolutionary institutional changes.
3 Postwar national systems of regulation in the four small states
In the case studies of the four states, these theoretical viewpoints form the basis of the
analysis. Before discussing the more recent institutional changes, however, it is necessary to
outline very briefly the institutional models prior to the liberalization of the financial
markets.
The notion of national systems of regulation is employed in this context. Regulation is
interpreted in a broad sense, as a system of social and political relations. Thus, system of
regulation denotes the particular way in which economic, social and political organizations
are related to each other in a given era and area, and although systems of regulation may
change, one can always find some form of regulation. National systems of regulation were
well-developed in all countries before the 1980s. This was the case with foreign trade,
international monetary movements, agriculture, industrial development as well as labour
markets and work conditions. The main actors included labour market partners (trade
unions and employers’ organization) and the state, although in country-specific ways and
combinations.
In Denmark, direct intervention into the economy was less pronounced than in many other
countries. The background can be found in the dominance of quite liberal way of thinking, in
part due to the strong position of small enterprises both in agriculture and manufacturing.
However, international capital movements were restricted. In economic and welfare policies
we can detect efforts to guarantee the incomes of all social groups, and this led to a rapid
increase of the responsibility of the state in redistribution and creating of public services
and, as a result, to a rapid increase of public expenditure and income taxation. Thus,
economic liberalism was connected to a large public sector in a peculiar way.
As in many small states, in particular the Nordics, a system of democratic corporatism
developed already quite early, and the role of the social partners has been important.
(Benner & Vad 2000.) In addition, some form of ‘flexicurity’ (flexibility connected to social
security) has in fact characterized the Danish labour markets already for a long time. It has
been relatively easy to hire and fire workers, but generous social benefits have helped to
maintain their living standards. Also in this case, the basis is the large share of small
enterprises with big changes in the demand of their products and thus a need for flexibility
in work relations.
The Finnish economy was highly regulated until the 1980s (Andersson, Kosonen &
Vartiainen 1993). In particular, financial markets were kept in national control, and the
central bank controlled also domestic monetary markets and investments. In addition, there
were strong demands to agree on prices and wages at the national level. Also, the state
played an exceptionally central role in guaranteeing investments, in part with the help of
state-owned companies. On the other hand, and in contrast to other Nordic countries, most
governments remained passive with the balancing of business cycles, and macroeconomic
policies were often rather pro-cyclical than counter-cyclical. This led now and then to
unemployment problems and devaluations of the Finnish markka. One reason behind this
policy line was an emphasis on the competitiveness of the export enterprises and thus a
weaker attention paid to employment and maintenance of wage earners’ incomes.
A certain shift in the Finnish system of regulation can be located to the latter part of the
1960s, both in industrial relations and welfare programs. Earlier, industrial relations had
been rather conflictual, and the trade union movement was divided. From the late 1960s,
the movement became more united, and the rate of unionization started to increase to one
of highest in capitalist countries. A corporatist bargaining system between the state,
employers and employees emerged, and the agreements dealt with not only salaries but
also many social issues, especially those related to pensions. Now, also Finland was
characterized by democratic corporatism, which has been important also in welfare
arrangements. In fact, welfare state expansion continued in the 1970s and 1980s as well,
when welfare systems were under heavy criticism in many other countries. One part of the
change was an emphasis on income redistribution, and as a result, income differences
diminished.
The postwar system of regulation in Ireland was first characterized by protectionism, but
from the 1960s onwards also by opening, and by tensions between the two. (Ó Gràda 1997;
Ó Riain & O’Connell 2000.) When the protectionist policies seemed to lead to economic and
social difficulties, the new goal was to attract foreign investments to the country, with the
help of low taxes on capital, public support and lending. Although one can see here some
kind of liberalism, it must be emphasized that this policy was very state-led.
Several contradictions arose, however. After the mid-1970s, the government increased
public expenditure and lowered taxes, to promote growth and employment. Economic
growth remained weak, and public debt increased dramatically. Thus, the 1980s came to be
a crisis-prone period, with high public debt and high levels of unemployment. Second, in
welfare state development Ireland remained a low-spender and a country with an odd mix
of liberal and Catholic traits. This was reflected in big income differences and poverty
problems.
The postwar system of regulation in New Zealand has been called as one of the most
comprehensive regulation systems in capitalist countries (Easton 1997; Schwartz 2000). The
protection of domestic production was based on the idea of import-substituting
industrialization, with high tariffs and licenses. This idea, however, may be problematic to
potential export industries. To be sure, full employment was maintained, but at the cost of
effectiveness. Due to structural problems of the economy, the relative position of New
Zealand started to decline, from one of the richest countries to a middle-level performer.
Economic growth started to slow down in the 1970s, and the effort of the conservative
government to tighten regulation further in the first half of the 1980s hardly provided a
proper response to the problems.
The NZ industrial relations system was connected to ‘social policy by other means’, i.e. by
other means than public transfers and services (Castles & Shirley 1996). This ‘wage earners’
welfare state’ was based on full employment and earnings guaranteed by collective
agreements.
All in all, the four systems of regulation share many common features. In particular, despite
the fact that all were internationalized in terms of foreign trade, international financial
movements remained in national control. In institutional arrangements, also clear
differences can be found. There emerged several problems and tensions in these countries,
and most severe problems in economic performance existed in New Zealand and Ireland.
Therefore, the four countries were differently prepared to face the fundamental changes in
international economy and international financial markets that waited in the 1980s.
4 Globalization, financial liberalization and institutional changes in the four
countries
How, then, are the big institutional changes in all four small states during the 1980s and
early 1990s to be explained? While there are certainly various reasons, the emphasis here is
on globalization, and financial market liberalization as an essential part of the deepening of
the globalization process. My paper deals basically with financial crises, but to understand
these, financial liberalization and the emergence of global financial markets should be
explored.
It is important, in which way and timing financial liberalization was implemented in different
countries, and therefore domestic social and political constellations have to be taken into
account as well. Since most fundamental changes can be detected in New Zealand and
Ireland, I outline these cases first, moving then to the Finnish and Danish cases. The most
severe financial crisis (banking crises) in the years after the liberalization, took place in
Finland in the early 1990s, and that’s why also this case needs special attention here.
New Zealand
There were many structural problems in New Zealand in the 1970s and early 1980s, but still
the sudden change came quite surprisingly after the 1984 election, when Labour rose to
power. The new government, even if led by social democrats, initiated a radical marketoriented program, liberalizing first financial markets and foreign trade relations, and
introducing then market-thinking to industry, banking and other sectors. Thus, the Labour
government initiated a ‘blitzkrieg’ or a ‘shock model’ of structural adjustment. It has been
noted that Labour had run on an anodyne platform that concealed conflicts between
interventionist and market-oriented wings. The former group consisted of unions and some
politicians, while the latter included another coalition of politicians, the Treasury, and
internationally exposed business. The latter group won, partly because the currency crisis
allowed it to liberalize financial markets immediately. The leading, or most influential, figure
was not prime minister Hawke, but the incoming minister of finance Roger Douglas, giving
rise to the label ‘Rogernomics’. (Kelsey 1995; Schwartz 2000.)
During the 1980s, similar solutions were made in many other countries. What is more
original in the New Zealand case is that strategies that took years to develop elsewhere,
were implemented in a matter of months. This concerned industry, trade and other fields,
but most directly the financial markets.
However, despite adherence to free market economic policies, the government kept a
commitment to social justice, equity and labour market stability. Also this changed after
1990, when the National (conservative) government launched major reforms in the area of
social programs and industrial relations. It began with severe cuts in social spending,
including also more targeting and market-orientation in health care. New industrial relations
legislation was designed to change the collective labour market negotiations. The principle
of collectivism as the basis for industrial relations was replaced with the notion of individual
employment contracts. It is evident that the former ‘wage earners’ welfare state’ could not
live in the new conditions. It was to a great extent based on protectionism and full
employment, and both elements disappeared. This was noticed also by the following Labour
government after 1999: there was no return to the pre-1984 model. (Obinger et al. 2010.)
The question now is, how to explain the radical turn since 1984. Global challenges form
certainly one background. The protectionist line had to be changed somehow. International
finance would challenge the NZ system of regulation anyway. In addition, something had to
be done to the poor economic performance as well as to the poor macroeconomic
management. However, the direction and speed of changes was not as self-evident: one
must explore forces and actors (bricoleurs) behind the turn. The influential role and position
of Roger Douglas, minister of finance from 1984 to 1988, and that of his collaborators is
often emphasized. There were various options in the mid-1980s, but the adoption of a free
market version of restructuring can be attributed largely to Douglas, who in turn was
considerably influenced by key Treasury advisors. Since this group had ties both to the
Labour party, Treasury and business circles, it seems that like in more revolutionary
institutional changes in general, the actors were located in the interstices of social networks
and organizational fields, and thus could combine various types of ideas. The magnitude of
the change can be understood as an effort to start a ‘blitzkrieg’ to make radical and
irreversible break with the previous policymaking. After 1990, the National government
could follow and deepen this approach, which already was underway.
Second, one should not underestimate the importance of the election system (Kelsey 1995).
In principle, there may be a plurality electoral formula, which tends to create a two-party
system and favour the winning party, or a proportional formula producing multipartism. The
New Zealand first-past-the-post system represented the plurality formula (this was changed
since the mid-1990s), meaning that the winning party usually had absolute power to rule.
This of course makes sudden policy turns more probable than multiparty systems with a
need for negotiations and compromises.
Ireland
Ireland, as New Zealand, faced severe structural difficulties in the 1980s. However, their
responses were very different. In both countries, economic stabilization was sought,
implying tight economic policies. In the Irish case, this was not associated with a destruction
of industrial relations system and welfare system; by contrast, the role of the labour market
partners strengthened and a more consensual policy line was adopted. Economic growth
was exceptionally fast in the 1990s, unemployment decreased, and the level of public debt
was reduced. In this optimistic atmosphere, the concept of ‘Celtic tiger’ (referring to the
Asian tigers) was introduced (Sweeney 1998).
Financial market liberalization took place also in Ireland during the 1980s, although few
restrictions to capital movements were in force since the early 1960s. With regard to foreign
investments, opening had started already in the 1960s, and mainly US-based big companies
entered the country. Later, these investments proved to be useful for the country, but
overall the economic performance remained weak still in the 1980s. The main problems
concerned labour markets and public finances. A change was thus required, and the
consultative body National Economic and Social Council put forward an overall strategy for
economic and social development (NESC 1986).
Since 1986, the Council has presented periodical mid-term reports of economic and welfare
policy. Of course, governments make their own decisions, and also other actors have an
influence on policy-making. However, the reports and in particular social partnership
agreements played an important role in the Irish recovery. The internal factors behind the
recovery have been assessed to be appropriate macroeconomic policy (i.e., fiscal
stabilization) and agreement on income developments. These internal solutions were
incorporated in the Programme for National Recovery, agreed between the government and
social partners.
A steady economic growth continued in the 1990s, and also unemployment started to
decrease. Managing growth was in the forefront, not anymore how to adjust to extreme
adversity. A new emphasis came to be on the reduction of unemployment and, moreover,
start a long-term reversal of inequality. Social exclusion was acknowledged as a societal
problem, and measures to promote social inclusion were recommended by the NESC,
alongside with other social policy and labour market measures.
In sum, a policy shift took place in Ireland from 1986/87 onwards. It was based on
predictable macroeconomic policies and, what is important, on consensual policy-making
among governments and social partners.
To explain the policy turn, the severe economic and social problems in the 1980s must first
be outlined. A Norwegian scholar, Lars Mjøset (1992) approached the issue as follows. The
Irish economic development is characterized by a vicious circle, which starts from the weak
national system of innovation, and population decline via emigration. The agrarian past, and
close industry-agriculture linkages, produced a blocking of the development of a strong
national system of innovation. The lack of industrial development, in turn, reinforced the
threat of marginalization, and to escape this threat there was exit from the country. During
the Golden Age, Ireland did not have an industrial base strong enough to develop its own
national version of mass production/mass consumption complex. Since the late 1950s,
Ireland tried to import a foreign system of innovation, but very few indigenous firms really
interacted with the foreign enterprises, and entrepreneurship was further weakened by
emigration. Thus, a vicious circle could not be broken. This still is some kind of problem,
despite high growth rates.
All of the difficulties of the early 1980s cannot, however, be traced back to structural
weaknesses of the economy. It is evident that very poor economic management since the
mid-1970s created new problems. This was in part based on the competitive logic of two
major, catch-all parties, which both wanted to keep their electorate satisfied.
All in all, there were good grounds for a re-evaluation and reorientation of economic and
welfare policy around the mid-1980s. Yet, economic difficulties and policy failures do not
necessarily result in policy turns – much depends on political and social forces that are
willing and capable to initiate policy change.
Government changes of course have some impact on policy-making, but on the turn of the
late 1980s the national agreements between the government and the labour market
partners had a more crucial influence. The role of the NESC in preparing new strategies
should neither be underestimated. The NESC is an advisory body, in which employers, trade
unions and civil servants estimate policy issues. Since 1986, these mid-term strategy reports
have formed the basis upon which governments and the social partners have negotiated the
national agreements. The scope of these strategy reports has widened to include several
economic, social and political issues.
Looking closer, two social groupings mobilized to try and reverse the disastrous situation
of the 1980s (Ó Riain & O’Connell 2000). First, state investment in education had created a
burgeoning professional class, many of whom emigrated but enough of whom stayed
behind to form a new industrial development coalition with dissident elements from the IDA
(Industrial Development Authority) and other state agencies. A second group of unionized
workers, many in the public sector, were mobilized through the union movement to enter a
series of social partnership agreements which sought to restore macroeconomic and fiscal
stability by centrally negotiating wages and other distributional issues. These two coalitions
between different groups of employees, employers and sections of the state existed in the
1980s in a complementary relationship, and their goals were achieved in industrial and
macroeconomic developments.
Finland
In the Finnish society, as well as in economic and welfare policies, it seemed that earlier
developments continued, without any radical turn since the mid-1980s. However, there are
good grounds to argue that this is not the whole truth: a turn started in the mid-1980s,
although the consequences became visible only in the early 1990s with a severe banking
crisis and deep recession. (Andersson, Kosonen & Vartiainen 1993; Kosonen 2011; Gylfason
et al. 2010.)
Especially in Finland, the crucial turn was the liberalization of financial markets. The
liberalization spurred a rapid inflow of capital to finance domestic investments and
consumption, triggering a rapid expansion of credit and resulting in a financial or speculative
bubble, characterized by rising inflation rates and inflationary expectations, especially in
capital stocks and real estate. There was weak supervision of monetary and financial
markets, since the central bank did not brake the banks’ loan expansion and control the
soundness of the lending. When the real rate of interest was low in the latter part of the
1980s, the process created positive wealth effects, which in turn led to further
strengthening of aggregate demand.
In the end of the 1980s, it became clear that the upswing was gradually turning into an
overheating of the economy. For many, it was initially hard to judge to what extent the
credit expansion was merely a result of a one-time adjustment from a previously
‘underleveraged’ situation in the household sector. As it later turned out, it was indeed a
bubble, fed by a number of factors: leverage-friendly tax rules, lax supervision, and a
complete absence of risk culture in the banks.
As a logical consequence of these developments, a deep financial crisis – or banking crisis followed. In the end of the 1980s, inflation rose quickly, and declining competitiveness
slowed exports and economic growth. House prices that had been very high, began to
decline at the same time that European interest rates rose as a result of German
reunification. In Finland, a special feature was that exports to the collapsing Soviet Union
stopped in 1991, but this was not the main explanatory factor; the recession came to be
deep and long because of high debts and decreasing asset prices. The losses of wealth
became enormous. The more households and companies tried to improve their wealth
position by selling assets, the deeper the crisis became. Finally, the government was forced
to let the currency (markka) float and depreciate in 1992, and this devaluation helped the
export sector and later the whole economy to recover again.
During the recession in the early 1990s, several savings measures were implemented in
welfare programs (Kautto 2001). Earnings-related unemployment benefits were cut, and the
qualifying conditions were tightened. In 1994, the structure of unemployment security was
renewed and work history was introduced as a precondition for obtaining the basic
unemployment allowance, and a low, flat-rate ‘labour market support’ was introduced. The
housing allowance was also the target of major cuts. These changes can also be interpreted
as bringing entirely new elements to Finnish welfare policy, and many measures did not
remain temporary.
At the same time, however, a new path to rapid growth and a new growth model was
emerging, and in this sense there was a dualistic development in the first half of the 1990s.
Finland experienced a dramatic change from a traditional industrial country to a high-tech
economy, especially with a rapid growth in the mobile phone sector. Without doubt, the
impact of education as well as research and development are factors behind this new path,
but also good timing in introducing new products was decisive. From this perspective, crisis
and recession can be interpreted as a period of creative destruction, which replaced old
production methods by new ones.
The explanations to these institutional changes cannot be based on poor economic
performance before the mid-1980s like in the other countries. As long as economy
prospered, from the late 1970s to late 1980s, and political stability dominated, structural
problems were not widely discussed. This kind of discussion appeared only after the
financial liberalization period, in particular during the recession in the early 1990s.
The question to be addressed is why liberalization was introduced around the mid-1980s,
and how it was implemented as it was. The background was not a radical political turn
towards (neo)liberal ideas, since no political party supported such ideas. Changes in the
global economy, and towards the end of the 1980s also preparation for the possible EU
membership, certainly had an impact on Finnish decision-making. However, thinking in
terms of forces and actors behind the solutions, an interesting feature is that solutions were
not based on a well-articulated decision: they took place gradually and never became part
of the political agenda overtly discussed by the political parties or the government. Financial
liberalization was planned and carried out by the central bank (Bank of Finland), which at
that time had a relatively independent status, being somewhere above the day-to-day
politics.
Also the changes in welfare programs during the deep recession in the early 1990s were
mostly unplanned or planned by some civil servants, because the economy and public
finances deteriorated rapidly. True, the governing centre-right government favoured its
own constituency and directed the cuts more to wage earners’ social entitlements (Timonen
2003), but still without a precise and comprehensive plan.
Denmark
In the Danish economic and welfare policies, a reorientation rather than radical turn can be
detected since the early 1980s. There seems to be good grounds to speak about a policy
change in two phases: first, a move towards macroeconomic policies that are based on
balancing the basic economic variables, and second, in 1993 a reorientation maintaining this
fundamental line but adding new elements to it, especially in labour market policies. These
phases are partly based on a change from social democratic dominated to centre-to-right
coalition in 1982 and back to social democratic led government in 1993.
Negative outcomes of the economic and labour market policies after the first oil crisis
weakened the position of social democratic led government in the early 1980s. It turned out
that the new centre-to-right (‘bourgeois’) government, led by conservative Poul Schlüter,
was willing to start an encompassing policy turn in order to ‘reconstruct the economy’. This
included liberalization of financial markets and the adoption of a fixed currency policy (hard
krone option) which also institutionalized tight macroeconomic policies. Combating inflation
as well as reducing the interest rate and deficit of public budgets obtained a priority. In
terms of welfare policies, the government declared a principle of zero growth in public
expenditures and adopted a new budgetary system to attain this goal.
The welfare policy of the governments included efforts to reduce labour supply as a means
to cope with mass unemployment (for instance, efterløn or early retirement benefit helped
in this), cost-containment in health policy, and solving somehow the problem of the lack of
an earnings-related pension supplement. While the last effort failed, at the level of
collective agreements corresponding pension solutions emerged, although without a legal
basis. (Obinger et al. 2010.)
Towards the end of the 1980s, it became clear that Denmark faced again deep economic
and social problems. In 1993, a centre-left government headed by social democratic Poul
Nyrup Rasmussen took power. Combating unemployment was set as the highest priority,
and the main reform was the labour market reform with the purpose to increase activation
of the unemployed. Unemployment rates started to decline rapidly after the mid-1990s, and
the new labour market policy got international attention. (Goul Andersen 2000.)
To understand these policy changes, two kinds of questions should be answered. First, how
is the early redirection in the 1980s to be explained. Second, why have these policy changes
been less conflictual than in many other countries?
The internal problems in economic policy-making, associated with new kinds of external
influences, can be seen as the background to the policy change in the early 1980s. A
contributing factor may be the relatively uncertain strategy of the social democratic party
when in power, at least compared to Swedish or Norwegian social democratic parties at that
time. On the other hand, Denmark did not face the worst possible situation. When
economic reforms and financial market liberalization happened, prospects in the
international economy were quite favourable. Due to this early timing, and also the rather
healthy condition of the financial institutions, such a financial crisis (banking crisis) that can
be found in the cases of Finland and Sweden, and to some extent Norway, did not occur in
Denmark.
Another interesting feature is that policy redirection was less conflictual than elsewhere.
This comes understandable on the basis of the characteristics of Danish economy and
political culture. In the Danish economy and labour market, adaptation capacity and
flexibility belong to basic characteristics. This can in part be explained by the survival and
success of small farmers and firms in the country, and for example unemployment benefits
are closely tailored to the features of a small-firm economy. Employment protection
measures are rather weak, but publicly funded unemployment benefits are easy to get. Due
to this ‘flexicurity’, Denmark has been able to adapt to the changes in international markets.
Moreover, compromising has been a permanent part of the Danish political life. The main
reason for this is the fact that minority governments have been the rule throughout the
postwar period. Thus, both the left and the right have needed support of the centrist parties
when in power. Labour market partners and other pressure groups have also contributed to
the consensual policy-making. The tendency towards decentralized negotiations has taken
place within centralized structures. What is important is that labour market partnes and
other pressure groups are co-opted on to the policy-formulating committees of government
and the parliament and so become in a way ‘insiders’ and they are prepared to support
compromises.
5 The post-2007 financial crises: different paths of the four small states
Since my paper concentrates on four small states, only a few words on the current financial
crisis and recession are given here. Due to the instability of the financial markets, financial
crises have repeatedly occurred (at least) since the 19th century. However, along with
current globalization, financial markets have become more complicated and risky. Recent
‘innovations’, especially in the US, include subprime loans, and in particular ‘securitization’
with promised cash inflows for home mortgage pool. Thus, housing markets are particularly
vulnerable and no wonder, 2007 in the US and mainly 2008-09 elsewhere, the financial
crises were connected to risky loans in the housing sector. (Kolb 2011.) The financial crisis is,
in fact, largely American in origin, but because economic relations are global today, the crisis
spread to other national economies as well. It is reflected in asset prices, weakening
demand and export difficulties, and in high indebtedness (including both private and public
debts) overall in the world economy. Because the crisis concerns all countries, and I would
call it as the first really global financial crisis.
Europe has succeeded to create its own euro crisis, in part connected to the global crisis. In
the Maastricht Treaty, a common European currency (later euro) was agreed upon, and
many countries introduced euro, while some other EU countries still stay outside. It has
been argued that there is a common monetary policy in the euro zone, but no common
fiscal policy. However, the most crucial problem seems to be that the national institutions,
both economic institutions but also cultural and habitual institutions, differ from each other
in a fundamental way, and therefore efforts to unify the national systems create huge
tensions, by necessity, and crisis packages are not a proper solution to these underlying
institutional contradictions.
In the following, the cases of Denmark, Finland and New Zealand are first analyzed. The
financial crisis led to some changes in the policy lines in these countries, but not to any
emergency. The Irish case is very different, and my intention is to relate global and
European challenges to endogenous Irish developments.
There were no alarming problems in the public finances in Denmark and Finland before
2008. The state budgets were more or less balanced, public debt had decreased to modest
levels, and the prospects seemed to be good. In Finland, which had experienced a banking
crisis and recession in the early 1990s, some lessons had been learned (surprisingly, this is
possible). The indebtedness of big companies was now much lower than before the previous
crisis, the banks were very careful in lending to households, and housing markets were not
as overheated than in the late 1980s (although house prices have been in the increase, in
particular in the capital region). Therefore, the Finnish economy was better prepared to face
global pressures than earlier.
However, exports diminished substantially in 2009, when all countries were hit by the global
crisis, and demand decreased. Thus, GDP dropped by 8 percent in only one year. Economic
policy reacted in a different way than in the early 1990s, and now with rescue packages (as
in many other European countries) the government decided to borrow from international
sources, thereby letting public debt increase. This ‘fiscal expansion’ in 2009-2010 was
particularly strong in Finland and Denmark. (Kosonen 2011.) This helped to avoid immediate
savings measures, but only for a while: in 2011-12 savings measures, also with regard to
social programs, have been implemented. Because public debt has clearly increased, some
new measures may be waiting. In this way, global financial crisis has influenced Finnish
economic and welfare policies, and some kind of slowdown prevails, but the situation is
much better than in the first half of the 1990s.
Danish developments show some similarities with the Finnish ones. GDP dropped especially
in 2009, exports diminished, and unemployment rate started to rise (from low levels). Also
rescue packages were used. However, even after these stimulation measures, the public
economy is not in a very weak condition: public debt is still modest in international
comparison and budget deficits are tolerable.
There are some problems in the financial system, though. The Danish banking system
features a large number of small banks and a couple of banks that are ‘too big to fail’. In
response to the global financial crisis, Denmark took numerous measures to support its
banking system, including the provision of capital injections, guarantees and extra liquidity.
Also a special resolution regime has been introduced. (OECD 2012.) These difficulties cannot,
however, be interpreted as a banking crisis.
In New Zealand, housing bubble created problems already before the financial crisis. In 2002
to 2007, house prices almost doubled in some of the biggest cities. Loans were available and
interest rates remained low. The indebtedness of households increased rapidly, to around
170 percent of available incomes. These problems were reflected in the financial sector, but
no banking crisis occurred. (Cheung 2011.)
Although global financial crisis was to some extent felt in New Zealand, the problems have
been less serious than in many other countries. In fact, GDP decreased by less than one
percent in 2008, which is a small figure compared to the other three small states, and OECD
area in general. Needless to say, New Zealand is not hit by the euro crisis and does not enjoy
the EU recommendations with regard to economic policies or welfare policies.
In contrast to the countries mentioned above, Ireland has been named as one of the crisis
countries and is currently closely supervised by international organizations. I’ll argue in the
following that initially the Irish problems were mostly endogenous by nature, but after the
international intervention to the Irish affairs, both endogenous and external reasons must
be taken into account. This seems to be the case with other crisis countries as well: global
financial crisis has not produced their problems that are mostly based on domestic decisions
and failures, but after the outbreak of the crisis, global financial markets and EU measures
may deepen the crisis further.
The Irish problems can be traced back to the turn of the century. Developments after 2000
are characterized by three basic traits: overheating and weakening competitiveness,
property and housing bubble, and an irresponsible expansion of banking (NESC 2009, Adalet
McGowan 2011). First, from 2001 onwards, a profound shift in what was driving the Irish
economy took place. Among the first signs was declining competitiveness as a consequence
of the prolonged boom. Another sign was that on the surface, ‘good times’ appeared to
continue, but beneath the surface, the construction industry took over from the traded
sector the role of driving the economy. Irish living standards were not affected by the sharp
drop in the performance of exports, because a surge in domestic construction gathered
pace, particularly in house-building. At the same time, Ireland’s price level rose significantly,
further impeding exports.
Second, and related to the first trait, was the emergence of a property bubble and housing
bubble. The rate of expansion of Ireland’s construction sector, and the scale it attained,
proved to be fatal. While fundamental factors initially drove higher levels of demand for
houses (e.g. rising incomes, falling real interest rates, immigration), houses continued to sell
despite their prices being very high. It seems that expectations of future house price
increases themselves began to drive current house prices. Money, sourced cheaply by
financial institutions on international markets, was used to build already expensive houses
because the lenders, builders and purchasers all shared the expectation that the value of
the houses would continue to rise. This type of ‘irrational exuberance’ or ‘collective hubris’
continued, although house prices evidently rose too much in relation to available incomes
and the banking institutions suffered from imbalances. Long after it was wise, Irish banks
continued to lend on a large scale for the development and purchase of already highlypriced commercial and residential property.
Third, then, an irresponsible expansion of banking occurred. With the adoption of the euro
and increased financial integration to global markets, Irish banks obtained access to greater
wholesale funding. In an environment of lax prudential supervision, fierce competition for
market share emerged amongst the banks. Banks allowed their credit standards to
deteriorate and expanded their loan portfolio at an unprecedented rate. High profits
generated by this line of business for banks led to further expansion of the banking system.
In 2007/08, the housing bubble burst and a deep banking crisis followed. House prices fell
rapidly, and this resulted in massive losses at all three major banks. Households, which were
highly indebted, got of course into troubles. It is amazing how many similarities one can find
in this Irish way to ‘home-made’ financial crisis and the corresponding development in
Finland in the late 1980s and early 1990s, analyzed above. For some reason, learning seems
not work in these kind of processes. Anyway, my argument is that the Irish financial
problems cannot be explained as a part of the post-2007 global financial crisis – endogenous
developments that began already around 2000 form the basis for the explanation.
However, later on the Irish crisis was intertwined with global financial policies. First, the Irish
government took extensive policy actions to stabilize the banking system, including
extensive guarantee of bank liabilities and recapitalization of too big banks. They also
established a state-owned bank restructuring agency (NAMA), to take over the property
development loans of banks. However, the lack of access to funding markets and the rapid
withdrawal of deposits made the Irish banking system dependent on European Central Bank
(ECB) financing facilities. In 2010, it had become clear that Ireland’s banking system was
suffering from an insolvency crisis the central bank facilities were not designed for, and that
further large capital injections would be required. This prompted the EU-IMF programme.
(Adalet McGowan 2011.) In other words, Irish economic policy and indirectly also welfare
policy is today dependent on the recommendations and supervision of European and global
organizations.
Because the previous government issued an extensive guarantee on bank liabilities,
including both solvent and insolvent banks, and public support to banks exceeded GDP by
two times (much more than in any other capitalist country), savings are required in other
items of public expenses. These include first and foremost welfare programs: all main social
welfare payments have been cut since 2008. (Considine & Dukelow 2011.) Although the Irish
welfare state was not very generous before the financial crisis, now even this level is being
lowered.
6 In conclusion: financial crises, institutional changes, reconfiguration (?) of
welfare states
Financial liberalization since the 1980s was clearly associated with quite radical institutional
changes. Also, the post-2007 global financial crisis and the subsequent recession and debt
crisis have already led to policy changes, and are likely to produce some more permanent
institutional changes, although all consequences are not yet visible.
The first issue analyzed above was the relation of financial liberalization and institutional
changes. The period of the rise of current globalization and financial liberalization was
accompanied with great institutional changes in all four countries, but in very different ways.
Both New Zealand and Ireland experienced rather revolutionary institutional changes, to
use the notions adopted in this paper. In New Zealand this was a rapid and radical turn into
market-liberal policy lines, associated somewhat later with attacks on former models of
industrial relations and welfare arrangements. In contrast, in Ireland a shift towards more
consensual model based on social partnership and predictable macroeconomic policies took
place. If these changes would be interpreted in the framework of retrenchment only, much
would remain unnoticed.
In Finland, financial liberalization led to a radical turn as well, and a deep financial crisis
(banking crisis) was experienced. However, in many issues also continuity can be found
(corporatist relations, many welfare arrangements like the pension system), and therefore
this turn hardly can be named revolutionary. Also Denmark combined old and new elements,
and although the 1980s was a period of policy shift, the change was not very rapid nor a
complete break with the past.
Second, the post-2007 global financial crisis can be condensed to two findings. On the one
hand, the crisis was very much ‘born in the USA’, but soon it affected the whole global
economy. This is reflected for example in export problems and generally falling asset values.
Also, balancing of economies and especially public budgets concerns all countries, and those
belonging to the euro zone, find euro requirements strengthening these effects. On the
other hand, there may be also national financial crises that to a great extent are
endogenous by nature. Ireland is an example of this development: overheating of the
economy, housing bubble, banking crisis and savings measures. Today, this kind of crisis
leads the country to dependence of international support and supervising.
One may ask, then, what kind of institutional changes – or reconfigurations – are resulting
from the post-2007 crisis. In the case of Ireland, the economic and social crisis (which is not
interpreted as an ‘external shock’ in my paper) clearly calls for a thorough re-evaluation of
financial regulation, welfare policies and also FDI-based industrial policies. At the same time,
however, continuous pressures to make short-term economic-policy decisions may form an
obstacle to more innovative solutions, although exactly these are now needed.
In Denmark, Finland and New Zealand, it is possible to outline two challenges which are not
only related to the financial crisis. The first challenge deals with industrial developments and
structural problems of the economy. For example, the Finnish success story from the early
1990s to late 2000s was based on new technology, especially in the ICT sector (Nokia being
the pioneer), but the products and markets are changing very rapidly especially in this
sector, so that a restructuring is unavoidable. There are some signs of new ‘creative
destruction’ in micro-level industrial dynamics, where old patterns are replaced with new
ones and smaller units, although this is no easy process in the face of global competition.
These questions are acknowledged also in the other countries.
The second challenge concerns the welfare states and in particular the relation of work and
welfare. Increasingly, so it seems, welfare is connected to employment/employability. This
does not refer only to the basic truth that work is a fundamental basis for welfare, but now
it is emphasized everywhere that employment rates should be increased, i.e. as many
people as possible who are in working age should be gainfully employed so as to finance
welfare transfers and services. At least in Denmark and Finland, employment rates already
are relatively high, but the goal is to increase these further. One important question in this
connection is, how this emphasis is reformulating the overall nature of welfare policies; it
may have questionable effects on previous goals of universalism, redistribution and equality.
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