Slowly, but surely: The coming of Social Europe

By: Deborah Mabbett, Birkbeck, and Waltraud Schelkle, LSE

For better or worse, Social Europe is already a reality. It is the incremental result of market integration rather than the fruit of a grand project for creating post-national citizenship in the EU. The EU has significant effects on how generous, universal and, indeed, safe the safety nets for EU citizens are. It is true that ever closer political union and all the solidarity it is supposed to create among EU citizens is a long way away, but social policy is as much contained in obscure rules on financial markets as in headline measures on pensions and benefits.

 

Some commentators see EU regulations as having negative effects on social policy, for example by insisting on non-discrimination between resident and migrant workers,. Our counter-argument is that market re-regulation to enhance allocative efficiency does not have to have negative distributional consequences. At present, EU social policy is simply a side effect of the Single Market Programme and of fiscal surveillance in the monetary union. The Union may thereby miss opportunities to reconcile market integration and macroeconomic sustainability with equalising distributive outcomes. The EU’s approach to structural reforms proclaims ‘social policy as a productive factor’, but is unduly neglectful of social policy choices open to governments. This is supported by governments which often show a narrow understanding of what social policy is about.

 

 

Social policy as a productive factor

 

Textbook economics tells us that insurance markets may suffer from a range of ‘failures’, notably adverse selection and moral hazard, which lead to the incomplete provision of insurance in competitive markets. The new economic theory of the welfare state adds that social insurance may provide coverage where private markets would not, and this provision may be not only equalising (in insuring against risks that produce low incomes) but also efficient in facilitating productive risk-taking.

 

Nondiscrimination is a key guiding principle in the way that the EU integrates and reconstructs markets. Nondiscriminatory reregulation seeks to achieve a more efficient allocation of scarce resources, notably through gains from market integration, and a redistribution from beneficiaries of the status quo (say resident workers) to beneficiaries of  change (migrant workers). When beneficiaries were previously excluded from provision, or poorly served by welfare states in need of reform, the allocative and the redistributive effects of reregulation are not necessarily at odds.

 

Social policy provides insurance, implicitly or explicitly, which may facilitate productive risk-taking. For example, progressive income taxes provide partial insurance: the collectivity of tax payers thus participates in the risk of an investment, of a household in education or a firm in a new venture, by reducing the level of ‘repayment’ if the downside risk materialises and by asking for a larger part of the income stream if the project succeeds. Transfer schemes can compensate for various market failures, such as the rationing of the young or marginally employed households in credit and housing markets who may thus get stuck in a low income situation. By providing temporary and conditional income support or by producing goods that markets do not supply in sufficient quantities, welfare states may enable people to move and specialise, seek better paid jobs or more appropriate schools for their children. Social policy thus promises to pay off for society as a whole in terms of higher aggregate income that stems from more efficient job matches, rising qualifications and improved motivation.

 

 

Social Europe through the regulation of insurance markets

 

Much of the current debate about social policy in the EU assumes that there are inevitable tradeoffs between equity and efficiency, between redistributive policies and those which promote efficiency in allocation. But our analysis of insurance suggests a different picture. One key insight from the debates is that competitive market processes will not discover a unique pattern of discrimination which exhibits superior allocative efficiency to any alternative. Even under the abstract assumptions of pure market processes (where insurers cannot collect information about their customers but can only observe their choices between alternative insurance products), models demonstrate that there are multiple ‘pooling’ and ‘separating’ equilibria. In the real world of regulatory alternatives, the list of parameters relevant to choosing a risk classification regime is lengthy, and some choices promote equality more than others.

 

For example, pools may be sustained by prohibiting discrimination if ‘good risks’ have sufficiently risk averse preferences. In this case they can even offer a good deal to ‘bad risks’ which would be excluded in more discriminatory markets. If discrimination is allowed, the high risk households thus excluded may have few alternatives because they are also rationed in credit markets, have low savings, or limited family resources. Here the welfare state can provide insurance where private markets would not.

 

Economic theory tells us little about how much private insurance we should expect to find, as theoretical models do not capture the variety of practices that insurers use to combat adverse selection and moral hazard, notably by gathering information on customers’ characteristics and classifying into good and bad risks on the basis of this information.  Given the wider public interest in insurance provision, it is no surprise to find that risk classification in insurance has been highly regulated, along with other aspects of writing insurance business such as safeguarding customers against failure to honour contracts by regulating policy terms and ensuring that insurers hold adequate reserves. Furthermore, given that there are different modes of regulation, the boundary between ‘private’ and ‘social’ insurance is drawn differently in each member state, and the defining characteristics of social insurance are subject to diverse national traditions, notably variations in the role of social partnership. As a result, the extent of private insurance provision varies widely across countries.

 

Into this world the EU has come with a succession of measures to integrate insurance markets. At first the pursuit of openness and competition led to an enthusiasm for regulatory schemes which allowed insurers new freedoms in risk classification and premium structures, while protecting customers. However, the uncertain boundary between private and social insurance has created a privileged place for social partnership in insurance provision.

 

More recently, the Commission has ventured to attempt to re-regulate insurance by tackling discrimination between men and women in the classification of risks and determination of premiums. This venture (which failed) showed both the surprising range of social regulation in Europe and the limitations of the bureaucratic imagination. The Commission’s proposal to replace gender discrimination with other risk classifications that would produce largely similar premium structures was trashed by critics who pointed out both its disequalising consequences (e.g. discrimination against low income customers from the ‘wrong’ postcodes remains entirely legal) and its technical limitations. However, the failure of the proposal should not obscure the fact that Europe is now a forum for debate about discrimination in insurance, whether arising from gender classifications or from other grounds such as the use of genetic information.

 

 

Making choices in Social Europe

 

The regulatory norm of nondiscrimination is of paramount importance for the EU as a political entity. This norm legitimizes interventions from the technocrats in ‘Brussels’ exactly where national policymaking is vulnerable to the pressures of electoral politics. While democracy is, as Churchill famously said, the worst form of government except for all others that have been tried, legitimate concerns of foreigners, future generations or minorities are typically underrepresented in majoritarian decision-making.  Governments are often subject to populist demands for short-sighted protection at the cost of the outsiders of a democratic process. Here the EU could be of value added for the very reason that it is not under such electoral pressures

 

Furthermore, social policy-making in Europe is not necessarily antithetical to national policy processes. A striking feature of much writing about EU social policy is that ‘solidarity’ is invoked as a value as if national welfare states were the product of an outburst of fellow feeling among citizens, when actual welfare states contain highly differentiated and often internally exclusionary provisions. Furthermore, the reform processes which all the European welfare states have embarked on exhibit many of the same features of policy-making by expert communities, often drawn from the institutions of national welfare states, that mark the processes of the European ‘regulatory state’ in other fields such as industrial policy.

 

What, then, should we expect from these policy communities? The great weakness of expert policy-making is ‘groupthink’. In Europe we see the danger that, by the very nature and mandate of the institution they serve, EU technocrats become so elitist and fervent in their attempts to save national democracies from their flaws that European integration itself becomes deeply unpopular. The legitimately non-populist and the arrogantly unpopular are not always easy to discern.

 

An unmistakable indicator of the arrogantly unpopular is the search for ‘best practice’. This notion, originating in an apolitical management literature, pretends that there are no choices to be made, that the perfect solution exists independently of interest alignments and institutional context – the latter being only sand in the wheels of irresistible economic progress.

 

The strength of EU social policy-making should be that it pushes for gradual reform of welfare institutions that are protectionist and exclusionary or fiscally unsustainable and thus freeriding on future generations. EU technocrats, who cannot succeed without the cooperation of  technocrats in member states, can promote social policy analysis and reform while accepting that member states will make markedly different choices about, for example, the role of funded pensions or the extent of employment protection. When the Commission tries to prescribe the direction that member states should take, it can end up looking like a foolish follower of fashion. For example, we are now told that the Danish model which combines minimal employment protection legislation with high ‘compensatory’ unemployment benefits is desirable, but at the turn of the millenium Denmark was condemned in DG EcFin’s review of public finances for excessive ‘passive’ benefit expenditure.

 

The system of fiscal surveillance in EMU has all the potential to be a model for long-range technical advice, but it also shows the risks of inviting technocrats to search for ‘best practice’. The revised Stability Pact contains incentives for the introduction of mandatory funded pillars in pension systems, but it is questionable whether such gestures do more for fiscal sustainability than mundane processes of budget consolidation which have seen successive reforms to pay-as-you-go systems. The point here is not that pay-as-you-go schemes are necessarily better than funded ones, but that there is no best practice: each choice has allocative costs and benefits, winners and losers of the redistribution entailed.

 

Fortunately, the EU often abandons the search for best practice pragmatically, if not always rhetorically. Choices are inevitable. Social Europe is a laboratory rich with examples of social policy as a productive factor. But exploiting this opportunity requires Social Europe to be seen not as a concession to populism but as an integral part of market integration.

 

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