VATT's Juhana Vartiainen: Work incentives must be sharpened

The Nordic economic model is experiencing a renaissance as the region seemingly tops every international benchmark ranging from educational results, quality of life and competitiveness. Juhana Vartiainen, new Director General of the Government Institute for Economic Research (VATT) in Finland, says gone is the cold war-era perception of Nordic economies “being half-way to socialism”.

“Economists, who tend to be market oriented, have started to realise that while the Nordic countries have large public sectors and social insurance, they are still quite market oriented,” says Vartiainen.

Today, even liberal market economists tend to focus more on how to improve the symbiosis between welfare states and market economy.

“The idea that the welfare state is an enemy to the market economy has eroded,” Vartiainen says.

Challenges

Although Denmark, Finland, Iceland, Norway and Sweden are doing well compared to other countries, present demographic trends in the Nordic region signal major challenges to the model.

Vartiainen says the rapidly ageing Nordic population makes it imperative for people to work longer and governments to trim social welfare benefits.

“Incentives to work instead of living on diverse subsidies must be sharpened,” says Vartiainen, who got appointed to the top position by Jutta Urpilainen, Finland’s Finance Minister (Social Democrat), in April.

The candid economist has since made quite a splash in Finnish public debate, and has already had to apologise to stay-at-home mothers for implying that caring for children at home is a form of slacking off.

“It is still harder to be at work, and besides, staying home with kids causes a considerable wage punishment that last for many years,” says 54-year-old Vartiainen, a long-standing member of the Social Democratic Party.

One thing he won’t apologise for, however, is advocating longer working careers, despite the finance minister’s vows to leave the old-age retirement at 63 during the current government’s term, which ends in 2014.

“I can’t be diplomatic when our models tell us we need to sharpen incentives to work if we are to increase employment,” says Vartiainen.

Sustainable gap

Demand for welfare services in the Nordic region is set to increase faster than income, and nowhere is that more evident than in Finland. The demographic dependency ratio—the number of those under the age of 15 and above 65 per 100 working age persons—stood at 53% at the end of last year, according to Statistics Finland. The ratio is expected to rise to 60% in 2016, meaning only four out of ten will pay income tax.

“This will create a mismatch between demand for social services and the ability to finance them, but so far the Finnish corporatist political system has not really delivered on reforms,” says Vartiainen.

One remedy, he says, would be to increase the amount of low productivity jobs in sectors such as laundry services, cafes and hotels, and thereby implicitly accepting a lower income and somewhat weaker job security.

“Even though our income disparity is moderate by international standards, I guess we have to increase it a little at the lower end to allow for low productivity jobs,” he says.

Swedish lessons

Prior to VATT, Vartiainen lived in Stockholm where he headed the research division at the National Institute for Economic Research, (Konjunkturinstitutet), for seven years.

“My stay in Sweden made me an admirer of their fairly pure parliamentary system and more sceptical towards the Finnish cooperative decision-making tradition,” he says.

The reason, he says, is that the dialogue between Finnish governments and labour market organisations so far has proven incapable of providing much-needed reforms, among them increasing the retirement age.

Another lesson concerns the typical Swedish decision-making process which often includes the whole organisation as a way to anchor decisions.

“Finns often laugh at it and says there is too much discussion, but my personal experience is that it really works,” Vartiainen says.

NIB’s role

Despite demographic challenges, the current European economic crisis and gloomy global outlook depressing the Baltic and Nordic region’s vital exports, the new VATT director says he has confidence for the future.

“In the long run these countries will, as long as they conduct responsible fiscal and monetary policies, do extremely well in the global economy since they benefit from a highly educated workforce,” says Vartiainen.

Because infrastructure and environment projects are prone to suffer as countries run increasingly disciplined budget policies, his gut feeling tells him the Nordic Investment Bank has a very important role to play.

“The Nordic Investment Bank could hopefully, with a careful assessment of social costs and returns, really help fill that void,” Vartiainen says.