Economic Performance and Work Activity in Sweden after the Crisis of the Early 1990s
Social Science Research Network
Following a severe contraction in the early 1990s, the Swedish economy accumulated a strong record of output growth coupled with a disappointing performance in the labor market. As of 2005, hours worked per person 20-64 years of age are 10.5 percent below the 1990 peak and a mere one percent above the 1993 trough. Employment rates tell a similar story. Our explanation for Sweden's weak performance with respect to market work activity highlights the role of high tax rates on labor income and
... abor income and consumption expenditures, wage-setting arrangements that compress relative wages, business tax policies that disfavor labor-intensive industries and technologies, and a variety of policies and institutional arrangements that disadvantage younger and smaller businesses. This last category includes tax policies that penalize wealth accumulation in the form of owneroperated businesses, a pension system that steers equity capital and loanable funds to large incumbent corporations, and legally mandated job-security provisions that weigh more heavily on smaller and younger businesses. We describe these features of the Swedish institutional setup and provide evidence of their consequences based largely on international comparisons. JEL Classification: L52; J20; H30; D13; O52. We thank Robin Douhan, Martin Flodén, Tino Sanandaji and participants in the September 2006 SNS/NBER Conference on Reforming the Welfare State for helpful comments, Erik Hurst for assistance with the American Time Use Survey, and Richard Rogerson for data on hours worked in a number of countries. Robin Douhan, Martin Olsson and Per Thulin provided excellent research assistance. We gratefully acknowledge financial support from the Jan Wallander and Tom Hedelius Foundation. Needless to say, we are responsible for any remaining errors and shortcomings. 1 The studies were published in Freeman, Topel and Swedenborg (1997). 2 The role of institutions has moved to the fore of mainstream explanations for economic performance, especially over the longer term. See, for example, North and Weingast (1989 ), Rodrik et al. (2004 ), Acemoglu et al. (2005 and Baumol (1990) , from whom we borrow the term, "social structure of payoffs." As the first SNS-NBER study made clear, the Swedish welfare state can be seen as an economic model, or system, defined by a particular mix of institutions. These institutions and the interactions among them are key determinants of economic performance. For instance, the combination of high marginal tax rates and narrow pre-tax wage dispersion discourages labor supply under the Swedish model, but this effect has been mitigated by making labor force participation a requirement for access to many highly subsidized services (Lindbeck 1982) .