Wagner's Law and the Dilemma of the Welfare State

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Here in my home country Finland, the economy and thus the welfare are experiencing significant challenges. The amount of government debt is still rising and is currently over 100bn€. An enormous growth from the figures of 2008, when the government debt in Finland was "just" 53bn€. Actually you can follow the development of Finland's government debt here.

The productivity of the economy, the lack of investments in industries, rising level of unemployment and the lack of international competitiveness are other issues threatening Finland's economy and the state of the welfare state.  In addition to this, the government is carrying out major cuts from social security,  from student and unemployment benefits for instance to cut the government expenditure in a desperate hope to stop the growth of the indebtedness.

Interesting though, Finland isn't the only country suffering from growing indebtedness. The United States and other super nations as well are experiencing the same phenomena. The amount of debt in the world is rising significantly and it is rising fast. We currently live in a world where the amount of debt rises more than the economic output. As you might guess, this can make matters very difficult in the world in a few years or so. Higher government debt implies more state interference in the economy and higher taxes in the future and this is exactly what is happening in Finland at the moment.

But why is the amount of debt rising constantly? One possible explanation comes from one of my favorite economic theories, the Wagner's law. It states that the development of an industrial economy will be accompanied by an increased share of public expenditure in gross national product. In non-economist gibberish, it means that when the economy grows and develops, the government's expenditure will grow in order to maintain the current common state of welfare in an economy. For example, if there exists more and more advanced public services which could help the people, the people will demand those advanced services and will no more be satisfied to the former standards of their services.

In order to provide these advanced and developed public services for the economy, it is clear that the government needs to grow its expenditure to invest in the supply of these services and public goods. This is the case especially in the welfare states such as the Nordic countries, where the state plays a crucial role in protecting the social well-being of its citizens. When the amount of economic output is low, the government must take more debt to satisfy the needs of its citizens.

To what extent does Wagner's law exist in a modern world? Numerous of studies have illustrated the existence of the correlation of the rising public expenditure and economic development. As we can see below, the Wagner's law indeed applies in the long run for the nations illustrated in the graph. The government expenditure as a percentage of GDP has grown in the time-period of 1870-1960. During the 1960's however, the expansion of the welfare states has decreased this growth a bit.

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So one explanation to the basic dilemma of the growing indebtedness is that the citizens of a state demand more advanced services. We can argue that are these more advanced services the kind of that the economy would actually need. The citizens have done pretty alright in the past also, so would there actually exist the need for these more advanced services? I'm not saying that we should turn back the clock and return our society to the Medieval, but I'd like to question the need of modern developed and costly services. Health care and education are of course vital for the welfare and the development of the human capital and thus the economy, but there might exist other services that demand more public expenditure from the state than before. For example, market-based economists argue on the effect of high unemployment benefits to the economical output and the government expenditure and the effect of the tax-rate (discussed more in Troubles of the Taxman). These are yet again the issues the government of Finland is going through at the moment.


To find out what these particular public goods and services are, we should all ask ourselves; what services and goods will we actually need and what services and goods we would be willing to give up. By answering these questions, we are a step closer in approaching the dilemmas of scarcity and the development of the welfare state. The cuts should be allocated on these goods and services instead of education and health care. With a bit of personal reflection, we all might possess possible solutions in order to make the welfare state great again.


Text SW
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