As fiscal cliff approaches, don't be fooled by the great Nordic myth

According to the latest Gallup World Poll, Denmark is the happiest country in the world. This is not the first time a member of the prosperous Nordic countries – Denmark, Finland, Iceland, Norway and Sweden – has earned the title. And because the Nordic economies are often viewed as socialist as well as prosperous and happy, some call for the United States to increase government involvement in its economy.

As America’s fiscal cliff approaches, some of these advocates, especially Democrats, protest federal spending cuts. They resist any change to entitlements and even call on President Obama, John Boehner, and other lawmakers to increase federal spending.

A more thorough understanding of the specifics of the Nordic economies, however, actually leads one to reject policies that extend government control of markets and reduce economic freedom.

First, contrary to popular belief, in recent decades, the Nordic economies have moved away from socialism and now enjoy substantial economic freedom in the areas of property rights, regulation, monetary policies, and trade. Second, Nordic countries possess advantages in homogeneity and culture that help explain their relative prosperity during their mildly socialist past as opposed to economic policies alone.

The Nordic trend away from socialism is illustrated by the Fraser Institute’s annual Economic Freedom of the World Index. In 1980, Sweden and Denmark scored 35 percent and 23 percent lower, respectively, than the US in overall economic freedom. But, according to the 2012 report released this fall, Denmark has now surpassed the US in the rankings, and Sweden is only two points behind the US. The closing of the gap is due to the simultaneous declining economic freedom in the US as well as increasing economic freedom in the Nordic countries.

Further, US economic freedom is overstated. The Index does not include government interventions like tax credits, exemptions, and deductions because it does not have data for all countries. If these items were included, the report would show that the US actually had more of a welfare state than Denmark and only slightly less of one than Sweden.

People often tout the relatively high levels of prosperity the Nordic economies experienced from 1960 to 1980 while increasing tax burdens and government spending as validation for socialist policy. But that view lacks context. In the 1980s, economic stagnation began and culminated in a severe debt crisis in the early 1990s. In response, the Nordic democracies started to move in a strong free-market direction. This policy shift led to a long period of high growth and declining debt.

The 1960-1980 economic growth should, therefore, not be taken as evidence that big government can produce prosperity. Rather, research in economic sociology reveals that the negative effect of high income taxes, as well as redistributive and other social-democratic policies were likely offset by beneficial cultural traits found in abundance in Nordic societies. These traits translate into economic benefits that mitigate the negative effects of the welfare state.

As shown by the Corruption Perceptions Index (CPI) and World Values Survey (WVS), such traits include individual motivation, productivity, and honesty. When combined with high degrees of homogeneity in a society, they foster increased levels of trust that reduce transaction costs such as the writing and upholding of contracts. As a result, more potential trading partners emerge and the economic market enlarges, allowing for more specialization, productivity increases, and economic growth.

A high level of trust also reduces free-rider problems, helps solve community issues, and leads to happier societies. However, the traits that produce trust are the result of various long-term historical, religious, and geographical factors that cannot be easily copied and implemented, especially in less homogeneous societies like the US.

Unfortunately, the adverse incentives presented by the economic policies of the welfare state appear to have slowly eroded some of these beneficial cultural traits in Nordic countries. For instance, as a result of its very generous welfare policies, sick leave from work in Norway became the highest in the world. The high employee absence caused productivity and economic growth to be much lower than it otherwise would have been. This example and others helped lead to economic stagnation and decline in the 1980s and 1990s.

Calls for the US to imitate policies and institutions supported by Nordic countries in the past are based on a misguided understanding of Nordic economies, history, and culture. Public opinion and policymakers should keep in mind those unique cultural and economic conditions. If not, the US risks choosing policies that send our country further down the path of a government-controlled economy and into even deeper economic and social problems than we have today.

J. Haavard Maridal is a research fellow and policy analyst focusing the issues of human happiness, prosperity, and well-being. He holds a Ph.D. in Public Policy and an M.S. in Economics from Florida State University and an MBA from Baylor University. Dr. Maridal is a contributor to the Economic Freedom Project.