Baumol’s Cost Disease and the Sustainability of the Welfare State

17 Pages Posted: 2 Dec 2013

See all articles by Torben M. Andersen

Torben M. Andersen

University of Aarhus - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute); Centre for Economic Policy Research (CEPR); IZA Institute of Labor Economics

Claus Thustrup Kreiner

University of Copenhagen - Department of Economics

Date Written: December 2013

Abstract

If productivity increases more slowly for services than for manufactured goods, then services suffer from Baumol’s cost disease and tend to become relatively more costly over time. Since the welfare state in all countries is an important supplier of tax financed services, this translates into a financial pressure which seems to leave policymakers with a trilemma; increase taxes (and hence tax distortions), cut spending or redistribute less. Under the assumptions underlying Baumol’s cost disease, we show that these dismal implications are not warranted. The welfare state is sustainable and Baumol growth leaves scope for Pareto improvements.

Keywords: publicly provided goods, redistribution, tax distortions, Welfare state sustainability

JEL Classification: H21, H4, H5

Suggested Citation

Andersen, Torben M. and Kreiner, Claus Thustrup, Baumol’s Cost Disease and the Sustainability of the Welfare State (December 2013). CEPR Discussion Paper No. DP9772. Available at SSRN: https://ssrn.com/abstract=2362321

Torben M. Andersen (Contact Author)

University of Aarhus - Department of Economics ( email )

University Park
Building 322
DK-8000 Aarhus C
Denmark
+45 8 942 1609 (Phone)
+45 8 613 6334 (Fax)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Centre for Economic Policy Research (CEPR)

London
United Kingdom

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

Claus Thustrup Kreiner

University of Copenhagen - Department of Economics ( email )

Øster Farimagsgade 5
Bygning 26
1353 Copenhagen K.
Denmark

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