The Reich Reich: the Clinton crew has embraced the German model - just as the Germans have realized it doesn't work.

In the 17 months since Bill Clinton took office, his Administration has demonstrated a faith in state-directed economic management that may be unprecedented in American history. From health-care reform and technology development to worker training and labor-market activism, the Clinton agenda calls for government action to address an array of purported social challenges. This may appear to be bold innovation. But there is a time-worn model for this approach: the Western European "social market."

"We Americans have a lot to learn from Europe," Clinton told a gathering in Brussels during his first presidential trip to Europe, in January. He was enthusiastic about European job-training and apprenticeship programs, and spoke glowingly of European-style health care, income protection, and industrial policies.

This affinity for the social-market model comes as the Europeans themselves are finally acknowledging the dismal results of over-generous social benefits, high and rising tax burdens, and inflexible labor markets. In fact, in early June Labor Secretary Robert Reich, the chief architect of the Europe-in-America approach, was on hand in Paris as the Organization for Economic Cooperation and Development sought to grapple with the continent's economic stagnation.

The OECD employment report could not have been music to Reich's ears. It takes dead aim at European obstacles to job creation and entrepreneurship.

This is not the first time the group has confronted the issue. In a little-noticed working paper last year, the OECD reported that the 12 countries of the European Community (now the European Union) have not experienced a net addition to private-sector employment in twenty years. The only job growth has come in government bureaucracies. High minimum wages are pricing young and unskilled workers out of the market, while generous safety-net policies are reducing incentives to seek work.

Unit labor costs have been rising faster among European economies than in other industrial countries for the past two decades. As of 1992, German unit labor costs were 20 per cent above American ones. Non-cash social-welfare benefits are the reason. Of the nearly $27 per hour in total compensation received by the average German factory worker, just less than half ($12.50) is non-wage compensation. Add in a business income tax whose top rate is nearly 60 per cent, and German enterprises pay about 37 per cent of payroll - split equally between employer and employees - to finance the country's generous safety net: health care, unemployment, sick pay, retirement pensions. Not only is this a disincentive to new hiring and business creation, it penalizes additional work effort.

Among the most controversial recommendations in the OECD's latest report are its calls for an overhaul of these benefit programs and labor-market provisions. The open-ended unemployment benefits amount to "quasi-permanent income support" and should be curbed. So should restrictions on employee layoffs. And high minimum wages "often end up damaging opportunities for unskilled labor." Establishing a lower rate for young workers would encourage hiring, the report said.

But Reich is intent on moving the opposite way. On a stopover in London en route to Paris, he rallied the Labour Party faithful with talk of his plans for a higher, indexed U.S. minimum wage. The OECD, Reich complained, was full of "a lot of loose talk about flexibility. Rarely has a term moved so rapidly from obscurity to meaninglessness without passing through an intervening period of coherence." Once ensconced in the City of Light, Reich talked of governments channeling money to such endeavors as ensuring that employees can change jobs or even careers without losing income.

"What we need in all countries is to make the labor market better by providing workers with greater job-search assistance, job counseling, information about labor markets, and training where necessary," Reich said. And as a last resort, if they can't get any other form of employment, perhaps they can be given subsidized work."

Twin Technocrats

He and the technocrat responsible for Clinton's byzantine health-care reform proposal, Ira Magaziner, built their reputations advocating adoption of European-style welfare-state capitalism. Harvard lecturer Reich and management consultant Magaziner were co-authors of Minding America's Business, an early 1980s tract proposing a full-blown U.S. industrial policy. In the late 1980s Reich penned The Power of Public Ideas, in which he argues that the government should not allow the "pre-existing selfish preferences" of individual citizens to take precedence over "what is good for society."

Clinton was so fond of Reich's 1991 opus, The Work of Nations, that before announcing his candidacy, he brought a well-thumbed copy of the book to a Reich-hosted seminar at Harvard. Bob Woodward writes in The Agenda that this work became the comerstone of the Clinton campaign's domestic platform, and echoes of Reich's themes ring throughout the Administration's economic strategy.

Reich is scathing in his contempt for the incentive-based economic policies of the 1980s. He complains that rather than increasing taxes on the top fifth of the income scale, "the [Bush] Administration ... has sought to reduce tax rates on appreciating capital assets. The apparent justification for lowering, rather than raising, federal taxes on wealthy investors (who own most of these capital assets) is that such a step would motivate them to invest their savings in new enterprise. Profit-seeking, resolutely self-interested individuals, it is assumed, will spur the American economy forward." As in the bureaucracies of Brussels, Paris, and Bonn, Reich's goal is income redistribution. Top marginal tax rates should be returned to their level under Jimmy Carter, Reich says, to allow a "significant down payment" on federal spending for education, training, infrastructure, and industrial subsidies, the heart of Reichian economics. But Reich would not stop there, and "would encourage public spending within each nation in any manner that enhanced the capacities of its citizens to lead full and productive lives [emphasis added]." He envisions an array of federal benefits to induce private enterprises to serve as handmaidens of the state. For companies doing well in international competition, he suggests "public subsidies to firms that undertook within the nation's borders high-value-added production." For companies doing poorly there would be payments, relocation assistance, extra training grants, extra unemployment insurance, regional economic aid, and funds for retooling or upgrading machinery toward high-value-added production."

This, in sum, is a comprehensive agenda for twenty-first-century welfare-state corporatism, in which the middle class and the business class both become clients of the state. As in Europe, growth and competition from below would be blocked, with state-imposed mandates raising nearly insurmountable barriers to start-up companies and government paternalism dulling the drive for individual advancement. The capital that might otherwise be put at risk in new, job-creating enterprise is taxed away ostensibly to ensure income equality, and redistributed through the apparatus of bureaucratic "investment."

Clintonic Communitarianism 

Reich does not specifically credit Europe as his model, but his prescriptions mesh nicely with the image of European "communitarian" capitalism offered by MIT professor Lester Thurow in his 1992 book, Head to Head. Thurow writes of subsidy programs "designed to help European firms compete in some major industry. If the United States were to spend what Germany spends (2.5 per cent of GNP), it would be spending more than $140 billion to help its industries in 1991. . . . Germany, the dominant European economic power, sees itself as having a |social market' economy and not just a market economy." In Germany, "Social-welfare policies are seen as a necessary part of a market economy. Unfettered capitalism is believed to generate levels of income inequality that are unacceptable."

Read from a distance of just two years, Thurow's Europhilia might seem laughable to anyone aware of the economic migraine most European nations are now enduring. It's no laughing matter, however, when senior Clinton officials continue to sing from the same hymnal. Reich and Magaziner aren't the only ones. Thurow, in fact, has a former student at the highest levels of Administration policymaking, Council of Economic Advisors Chairman Laura Tyson. The Tyson CEA's first annual report, released in February, reveals an Administration strategy founded on the same income-redistribution rationale as the European welfare state.

The CEA decried what it called a widening gap between rich and poor. It points to average incomes since 1973, with the most affluent growing by an average of 0.9 per cent annually, the poorest declining by 0.7 per cent. Instead of assessing how tax, regulatory, and monetary policies might have contributed to a decline across all income groups from the 2.5 to 3 per cent annual growth rate of the first decades after World War II, the CEA resorts to class envy: "This Administration sees the combination of stagnating average incomes and rising inequality as a threat to the social fabric that has long bound Americans together and made ours a society with minimal class distinctions." It attributes the income-growth disparity to technology-related demands for a better-trained workforce, decline of union membership, and a declining minimum wage. How convenient that these are all areas where the Administration is proposing an interventionist policy fix.

They all also happen to fall within Reich's bailiwick. A higher, inflation-adjusted minimum wage and greater union influence in the workplace are among his most cherished objectives. But his state-knows-best approach is seen most vividly in his advocacy of worker-training and apprenticeship programs, key features of the European "safety net." Reich claims that a supply of highly skilled workers - trained in keeping with government dictates and at the expense of the private sector - will create jobs because of the needs of high-tech manufacturing operations.

In congressional testimony last year, Reich contrasted the U.S. labor-market approach to that of Europe: "We treat labor much like any other commodity. We allow employers to lay people off. We let wages rise or fall above a very minimal level of decency." He acknowledged that labor-market flexibility has given the United States strong employment growth. But his comments reflect a high level of ambivalence about the choice.

Reich has urged adoption of a 1.5 per cent employer-paid payroll tax to finance a national apprenticeship and training program. Thus, he seems convinced that more workers will be employed through government action that increases the costs of employment. The OECD, however, warned that "by taxing the use of labor, [payroll taxes] may thereby reduce employment and raise unemployment." It also sternly warns about the "poverty trap," where low-wage earners lose some or all of their benefits to taxes as earnings rise, and the "wedge" effect, where high taxes drive a wedge between the cost to employers of hiring a worker and the wage actually received by the worker.

There's More

Another Administration initiative would expand federal subsidies for the commercialization of industrial technology. The Commerce Department's National Institute of Standards and Technology is the locus of the Administration's "technology development" effort. Within the warrens of the NIST is a little-known duchy called the Advanced Technology Program. Until recently, it was a sleepy backwater funding small-scale research and development projects. Under Clinton's 1995 budget, however, its funding would more than double, to $450 million, and under legislation now pending in Congress, part of the National Competitiveness Act, the ATP would break new ground for U.S. government involvement in capital market decisions (the ATP would even purchase preferred stock offerings).

No rundown of the Clinton Administration's statist ambitions would be complete without mention of health care. Suffice it to say that in developing its proposal, the Administration adopted fundamental components of the German system, including the creation of monopoly "purchasing alliances." It also bears noting that the German health-care payroll tax, now at 13.4 per cent, was 11.4 per cent in 1980, 8.4 per cent in 1960, and 6 per cent in 1950.

Why does the Clinton Administration seem intent on following a blue-print for stagnation? Senior members of the Administration cannot be unaware of the drag on economic dynamism and growth of the European welfare state. Yet they seem undeterred. The only explanation is that it's a political calculation. The creation of new entitlements and subsidies for health care, training, employment, technology development, and infrastructure means an enormous extension of government largesse to the middle class, a "trickle down" social policy for the masses. Democratic political strategists make no bones about their conviction that such a payoff is necessary to re-establish the Democratic Party's electoral dominance.

The political bet is that the party's gains among the new clients of the security state will outweigh the losses resulting from the burdens on entrepreneurs and risk-takers - groups that are not considered Democratic constituencies in any event. The economic bet is that interventionist government can at least maintain stable, moderate economic growth rates, enough to keep unemployment from rising. The political calculation may be right as far as it goes, but it suffers from a pinched economic vision. For if, as the President says, "we have a lot to learn" from Europe, it is primarily that no amount of government can restore the spirit of enterprise when the heavy hand of bureaucracy snuffs it out.

Has the U.S. economy already become Europeanized? Between 1986 and 1993, economic growth, wealth creation, capital formation, labor participation, families, and entrepreneurship have been under constant attack by policies that raised taxes, expanded social insurance, and mandated costly regulations.

This fiscal hall of shame includes: higher taxes on capital gains, personal income, corporate income, payrolls, Social Security benefits, gasoline, real estate, and trust estates; lengthening business depreciation schedules; ehmination of deductions and exemptions; ending Gramm-Rudman sequestration.

Expensive regulatory mandates were legislated through new laws on civil rights, clean air and water, disabilities, and cable TV. A regulatory reign of terror on banks and other financial lenders denied credit to all areas of the economy for nearly three years. Virtually every budget rule, timetable, deficit target, and scoring convention has been broken.

Results? For over forty years following World War II, the U.S. economy expanded at a 3 per cent average annual rate, spanning eight recessions and recoveries. Over the past five years, however, the economy has slowed to a 1.7 per cent annual rate, the longest growth pause in postwar history. Even the current recovery cycle, now three years old, has produced only a 2.9 per cent annual growth rate, compared to a normal recovery rate of 4.5 per cent. Consequently, a large "performance gap" has opened up between actual growth and the historical U. S. trendline, cumulating to a $1.3-trillion loss of potential real output, 5.4 million lost jobs, and 1.6 million fewer new business start-ups over the past five years. If the U.S. had adopted pro-growth policies, rather than root-canal austerity, the budget deficit on a 3 per cent long-run growth path would be roughly $150 billion below what it is today.