There has been some recent discussion in the blogosphere about comparing the United States and Europe. With the pending passage of the healthcare bill and the more general expansion in the size of government, the United States of the future will in some ways start looking more like Western Europe today. So I thought my blog readers might enjoy this excerpt from my favorite intermediate macroeconomics textbook:
Higher unemployment rates in Europe are part of the larger phenomenon that Europeans typically work fewer hours than do their American counterparts. Figure 6-5 presents some data on how many hours a typical person works in the United States, France, and Germany. In the 1960s, the number of hours worked was about the same in each of these countries. But since then, the number of hours has stayed level in the United States, while it has declined substantially in Europe. Today, the typical American works many more hours than the typical resident of these two western European countries.
The difference in hours worked reflects two facts. First, the average employed person in the United States works more hours per year than the average employed person in Europe. Europeans typically enjoy shorter workweeks and more frequent holidays. Second, more potential workers are employed in the United States. That is, the employment-to-population ratio is higher in the United States than it is in Europe. Higher unemployment is one reason for the lower employment-to-population ratio in Europe. Another reason is earlier retirement in Europe and thus lower labor-force participation among older workers.
What is the underlying cause of these differences in work patterns? Economists have proposed several hypotheses.
Edward Prescott, the 2004 winner of the Nobel Prize in economics, has concluded that “virtually all of the large differences between U.S. labor supply and those of Germany and France are due to differences in tax systems.” This hypothesis is consistent with two facts: (1) Europeans face higher tax rates than Americans, and (2) European tax rates have risen significantly over the past several decades. Some economists take these facts as powerful evidence for the impact of taxes on work effort. Yet others are skeptical, arguing that to explain the difference in hours worked by tax rates alone requires an implausibly large elasticity of labor supply.
A related hypothesis is that the difference in observed work effort may be attributable to the underground economy. When tax rates are high, people have a greater incentive to work “off the books” to evade taxes. For obvious reasons, data on the underground economy are hard to come by. But economists who study the subject believe the underground economy is larger in Europe than it is in the United States. This fact suggests that the difference in actual hours worked, including work in the underground economy, may be smaller than the difference in measured hours worked.
Another hypothesis stresses the role of unions. As we have seen, collective bargaining is more important in European than in U.S. labor markets. Unions often push for shorter workweeks in contract negotiations, and they lobby the government for a variety of labor-market regulations, such as official holidays. Economists Alberto Alesina, Edward Glaeser, and Bruce Sacerdote conclude that “mandated holidays can explain 80 percent of the difference in weeks worked between the U.S. and Europe and 30 percent of the difference in total labor supply between the two regions.” They suggest that Prescott may overstate the role of taxes because, looking across countries, tax rates and unionization rates are positively correlated; as a result, the effects of high taxes and the effects of widespread unionization are hard to disentangle.
A final hypothesis emphasizes the possibility of different preferences. As technological advance and economic growth have made all advanced countries richer, people around the world must decide whether to take the greater prosperity in the form of increased consumption of goods and services or increased leisure. According to economist Olivier Blanchard, “the main difference [between the continents] is that Europe has used some of the increase in productivity to increase leisure rather than income, while the U.S. has done the opposite.” Blanchard believes that Europeans simply have more taste for leisure than do Americans. (As a French economist working in the United States, he may have special insight into this phenomenon.) If Blanchard is right, this raises the even harder question of why tastes vary by geography.
Economists continue to debate the merits of these alternative hypotheses. In the end, there may be some truth to all of them.