Revising Social Contracts: Social Spending

This paper examines the determinants of social spending in Latin America, Eastern Europe, and East Asia during the 1980s and 1990s. We hypothesize that pronounced and enduring differences in welfare legacies and fiscal constraints affected the way countries of the three regions responded to more contemporary challenges of economic crisis, integration into global markets, and transitions from autocracy to democratic rule. Latin American countries, which inherited the most severe fiscal constraints, were least able to protect social spending during economic downturns. East Asian countries and, to a lesser extent, those of Eastern Europe, were less likely to reduce social spending in the face of downturns and somewhat more likely to increase during democratic transitions. PALABRAS CLAVE • Social Spending • Latin America • Eastern Europe • Asia * Originally prepared for presentation at the annual convention of the International Studies Association, Montreal, March 17-20, 2004. Revised for presentation at the Workshop on East European Politics, Center for European Studies, Harvard University, May 6, 2004. We would like to thank Barak Hoffman and Jing Chen for research assistance and George Avelino, David Brown, William C. Clark, Tim Frye, Wendy Hunter, Maria Victoria Murillo, Jon Rodden, Peter Rosendorff, Alex Segura-Ubiergo, Jeff Timmons, Florencia Torche and Eric Wibbels for assistance and comments on earlier drafts. This paper is part of a larger project entitled Recrafting Social Contracts: Welfare Reform in Latin America, East Asia and Central Europe. REVISING SOCIAL CONTRACTS: SOCIAL SPENDING IN LATIN AMERICA, EAST ASIA, AND THE FORMER SOCIALIST COUNTRIES, 1980-2000 3 – 37 STEPHAN HAGGARD / ROBERT KAUFMAN 4 The 1980s and 1990s were turbulent decades for the middle-income countries of Latin America, Eastern Europe and the former Soviet Union. In both regions, severe financial or “transitional” economic crises forced fundamental reforms in existing development models, including privatization, deregulation of markets and substantial external liberalization and increased economic openness. By contrast, economic growth in East Asia remained robust through the mid-1990s. But many countries in that region succumbed to a financial crisis in the late-1990s that also called into question previous approaches to economic growth, for example, with respect to corporate governance and the operation of financial markets. These economic and policy changes took place in a very different political environment, and in some cases precipitated regime change. Virtually all countries in the three regions underwent processes of political liberalization during the 1980s and 1990s, and most became fully democratic even if the quality of democracy and the extent of its “consolidation” remain in dispute. This paper examines the political economy of social policy in these three regions over the last two decades. More specifically, we examine the determinants of social spending, including the effects of increasing integration into international markets and transitions from autocracy to democratic rule. However, a central theoretical and empirical theme is the legacy of past policies, and the extent to which prior commitments affected the course of social policy reform during the current period. Changes in the delivery of social insurance and services typically involve complex institutional reforms, such as the privatization of pensions or the decentralization of the education and health sectors; in other components of this project we consider these reforms in more detail. Here, we begin our analysis by looking at the determinants of government spending. Following the literature on the advanced industrial states, we consider both aggregate government expenditures – a gauge of the size of the public economy–and three categories of social spending for which there is reasonably good data for a panel of countries: education, health, and social security. A focus on social spending has a number of shortcomings that must be acknowledged from the outset. First, understanding the social implications of broad spending categories requires more fine-grained analysis of how spending is actually directed (Esping-Anderson, 1990; Kapstein and Milanovic, 2003; Burgoon, 2003). Second, governments have other means for achieving social objectives beyond spending. A decline in social spending might reflect organizational changes that improve efficiency and reduce costs. Alternatively, such declines may reflect a shift towards instruments that encourage individuals to manage risk and acquire services on their own, such as mandated savings programs or tax incentives (Gilbert, 2002). Third, we recognize that it is also important to look beyond spending to real social outcomes, such as infant mortality, literacy, or life expectancy (see for example, Frey and Al-Roumi, 1999; Baum and Lake, 2001, and the work of McGuire on infant mortality, McGuire, 2001). This last step is particularly important because of the ongoing debate about whether spending has its intended social effect (see for example Rajkumar and Swaroop, 2002). Despite these reservations, the allocation of public resources to social security, health, and education constitutes one important measure of public effort, and it is useful to map the way spending has evolved in recent decades and the nature of the economic and political forces that have affected it. Spending is also important for our purposes because of the profound fiscal constraints faced by many developing and transitional economies during the 1980s and 1990s. A central theoretical REVISING SOCIAL CONTRACTS: SOCIAL SPENDING IN LATIN AMERICA, EAST ASIA, AND THE FORMER SOCIALIST COUNTRIES, 1980-2000 5 point that we seek to explore, and one we believe has been largely neglected (see however, Kato, 2002; Lindert, 2004), is the role that revenue plays as a determinant of spending. Governments with a weak revenue base and expansive public commitments were more likely to face fiscal and financial constraints on social spending, even in the face of pressure from beneficiaries and other stakeholders to maintain it. Our discussion proceeds in four steps. We begin in Section I with some theoretical considerations, focusing particular attention on historical legacies of prior welfare systems. We then turn to a descriptive overview of government spending in Latin America, Asia and Central Europe between 1980 and 2000, which suggests strongly the path dependent nature of social spending. In Section III we use a cross-section design to get at some of the long-run structural factors that influence government spending: per capita income, revenue, economic openness and democracy. In Section IV we report the results of pooled time series models testing similar hypotheses, but designed to capture the dynamics of social spending during the last two decades. I. THEORETICAL CONSIDERATIONS: THE POLITICAL ECONOMY OF WELFARE SPENDING IN DEVELOPING AND TRANSITIONAL ECONOMIES Our analysis of social spending during the 1980s and 1990s is framed by pronounced and persistent differences in the welfare systems of these three regions. In other parts of this project, we argue that these differences derive from two sources: distinctive critical junctures that shaped the formation of national states and their relation to organized labor; and development strategies, namely importsubstitution in Latin America, export-led growth in East Asia, and state socialism in Eastern Europe. Although our argument about the origins and evolution of regional welfare systems requires a much more extensive elaboration than we can present here, the principle components can be summarized as follows. In East Asia and Eastern Europe, contemporary states were established at the end of World War II through decolonization and Soviet occupation respectively. In both regions, the form taken by these states was shaped decisively by Cold War rivalries and great power influence, if not outright domination, of the respective regions. A common feature of both sets of countries – despite fundamental differences in other respects – was the nearly total repression of unions as independent political actors and the subordination of labor to the larger political and developmental goals of the state. This fact facilitated the pursuit of distinctive development models, one operating under the permissive umbrella of alignment with the United States, the other imposed by the Soviet Union. In East Asia, the control and repression of organized labor facilitated not only the elaboration of an export-oriented development model, but also an extremely narrow range of public social security commitments. Social insurance – pensions, health and unemployment – was minimal except for workers in the public sector and a highly restricted set of large private sector enterprises. Outside of basic public health services, health systems were dominated by private financing and provision to a much greater extent than in Latin America or Eastern Europe, creating an important space for private actors to flourish. The implicit social contract for low-income groups rested on access to education, expanding opportunities for employment, upward mobility into the middle class, and the accumulation of private savings that could provide the basis for self-insurance and inter-familial transfers. STEPHAN HAGGARD / ROBERT KAUFMAN 6 The command economy constructed by communist elites in Eastern Europe also presupposed both the destruction of independent labor organizations, as well as the replacement of labor markets by bureaucratic manpower planning. The coordination and reproduction of the labor force rested on explicit or implicit employment guarantees and the extension of many services, including health and housing, on a universal, if necessarily rationed and low-quality, basis. All service providers were, of course, employed in the state sector. Education systems were highly egalitarian at the primary and secondary level, but were closely linked to the manpower planning process and thus severely limited personal choice. In Latin America, the critical juncture associated with the reform of oligarchic states occurred at earlier periods in the twentieth century and was much less constrained by the great power rivalries of the Cold War era. In contrast to East Asia and Central Europe, the reform coalitions that displaced oligarchic states rested on a partial incorporation or cooptation of labor organizations that generally retained a degree of independence and influence as political actors. These arrangements were reinforced both by a move toward import-substitution industrialization (ISI), and by the extension of protections to the labor clientele. Social insurance systems were built around employment in government, state-owned enterprises, and in the formal private sector, where unions were strongest. Employment in these sectors provided the principal basis for entitlements in pay-as-you-go social insurance systems that included not only old-age pensions, but health coverage and family allowances as well. Comprehensive labor legislation governing hiring and dismissal was a crucial political component of the incorporation of labor, and provided a form of employment security even in the absence of formal unemployment insurance. In the absence of either ideological imperatives or a demand for skilled labor, education was not given the same priority it received in other regions; Latin America remains “undereducated” for its level of development. Figure 1 presents a stylized portrait of some important differences in policy emphasis and fiscal commitment to social spending that had evolved in these regions by the late 1970s and 1980s. Eastern European countries developed full-fledged welfare states, albeit often with low quality services and either rationing or under-the-table private provision of care. A number of the highgrowth Asian countries offered very spare public commitments to social insurance, or mandated it only through private savings in a provident fund model. However, they demonstrated early and strong commitment to the expansion of educational opportunity (albeit much less to health). Finally, many of the Latin American countries developed quite extensive forms of social insurance, particularly pensions and linked health insurance systems, but typically targeted on relatively narrow constituencies. Commitment to provision of basic health and particularly education lagged substantially behind other countries at comparable levels of development. REVISING SOCIAL CONTRACTS: SOCIAL SPENDING IN LATIN AMERICA, EAST ASIA, AND THE FORMER SOCIALIST COUNTRIES, 1980-2000 7 These different welfare models are consequential because we expect there to be a relationship between the fiscal position of the government and the political economy of welfare reform. Where there is a legacy of substantial fiscal commitments, and where governments face fiscal constraints, they face significant economic risks if they attempt to undertake new spending commitments or to engage in counter-cyclical policy. On the other hand, attempts to scale back spending pose significant political risks given a widespread sense of entitlement and strong, well-organized stakeholders. It follows that the pressures on social spending and the politics of social policy can be expected to vary by region. In Latin America, where high fiscal commitments were accompanied by a relatively limited tax capacity, the costs of ignoring fiscal constraints were high. On the other hand, benefits were distributed very unequally, and large sectors of the population, particularly in the rural and urban informal sectors, were excluded from coverage entirely. Thus, although stakeholders were powerful, cutbacks did not necessarily generate a broadly-based political backlash. In East Asia, limited coverage created political incentives for expansion of benefits to uncovered segments of the population, particularly given the transition to democratic rule. The absence of significant fiscal constraints provided the permissive conditions for doing so. In East Central Europe, despite a relatively large revenue base inherited from the command economies of the communist era, governments faced Priorities FIGURE 1: Components of Regional Welfare Systems