Why Do Some Rich Countries Redistribute More Than Others?

Writer: Rehaan Gulati

Editor: Krithi Kankanala

Introduction

Redistribution of income is one of the fundamentals of a modern welfare state. It helps reduce inequality, promotes political stability and helps prevent market failures through social insurance. While all countries, high or low income, do redistribute, low income countries often have structural issues such as unstable governments and a limited fiscal capacity that prevent fair redistribution. On the other hand, high income countries usually have stable institutions, effective tax systems and sufficient resources to redistribute fairly. Yet, the extent to which these countries redistribute differs greatly. Norway, for example, devotes a far larger share of their budgets to welfare than countries like the United States, despite having a higher GDP per capita PPP.  Such a difference raises an important question: Why do some rich countries redistribute more than others despite having similar economic and state capacity? 

This blog examines why some rich countries redistribute more than others by analysing three main factors: political systems, income distribution, and labour market institutions. It first looks at how electoral and state structures shape welfare policy, then discusses the role of the middle class in supporting redistribution, and finally explores how labour market institutions influence both inequality and welfare.

1) The Role of The Political System

Political institutions play an important role in determining why some countries redistribute more than others. Countries with proportional representation (PR) systems  usually redistribute more than those with a majoritarian system. A proportional representation system is an electoral system in which parties gain seats in parliament roughly in proportion to their share of the national vote, making coalition governments common. Since the coalition usually includes centre-left or social democratic parties which push for redistributive policies. In case of majoritarian governments, there is a volatile, two-party, ‘winner takes all’ structure, where one election may bring a pro-redistributive government which implements welfare policy, while the next dismantles the welfare programmes implemented. PR systems are also more conducive to universal welfare programmes because parties need support from voters across the whole country. In contrast, majoritarian systems push politicians to focus on targeted, local spending to win individual districts, which reduces how wide reaching and inclusive redistribution can be.

Another political aspect that determines redistribution is whether the country is unitary or federal in nature. In the case of federal states, there is a subdivision of powers between the centre and states, and each individual state has certain political and economic powers. This creates obstacles for redistribution, especially when the wealthy are concentrated in specific regions of the country. Having high taxes in these states to help support poorer states should be a viable solution to support redistribution, however, very often this makes the wealthy shift to areas with lower taxation to protect their income. Moreover, federal systems create competition within provincial governments to attract investment, which results in lower taxation and thus fewer welfare services. Unitary states on the other hand, operate under a single, centralised set of political and economic policies. Because regions cannot set their own tax rates or welfare rules, governments in unitary systems can implement nationwide redistribution more easily.  The graph below compares the Gini Coefficients of Sweden, a unitary state, and the USA, a federal state.

2) The Middle Class

The second determinant of this variation in redistribution is the degree of income polarisation, i.e., the gap between the poor, the middle class, and the rich. Although it is intuitive to believe  that higher overall inequality should increase the demand for redistribution in a state, this isn’t necessarily true. Countries like the United States, despite having high levels of inequality, redistribute far less than more equal Scandinavian countries. The middle class is one of the main reasons for this. When the income distribution is more skewed, the income gap between the middle class and the rich is larger than that between the middle class and the poor. As a result, the middle class is economically closer to low-income individuals, making it more vulnerable and more likely to support welfare policies. Meanwhile, in the case that the middle class is closer to the rich, they have similar political opinions as the wealthy, and tend to not support redistributive policy. Data from 15 OECD countries between 1969 and 2005, shows that countries where rich people earn much more than the middle class but the middle class earns only slightly more than the poor (like Sweden, Finland, and Denmark) tend to have stronger redistribution. In contrast, in countries where the middle class is more similar to the rich (like the U.S., UK, Switzerland) welfare states are weaker and redistribute less.

3) Labour Market Institutions

A third factor that affects redistribution in rich countries is how labour market institutions are set up. These institutions not only influence wage inequality, but also determine the political validity of redistributive policy. In countries with strong trade unions, coordinated wage bargaining, and labour protection such as Sweden, Norway, and Austria, redistribution tends to be broader. These countries have greater wage equality, but more importantly, they build cross-class coalitions (between low and middle income individuals) that help ensure that a pro-redistributive government comes into power. Meanwhile, liberal economies such as the United States and the UK, which have decentralised wage bargaining and weak union density, rely on residual, means-tested programmes i.e.. programmes that only help the poorest sections of society, not a broad protection for all sections of society. These systems, although helpful in targeting inequality, often struggle to maintain funding and public support since they benefit only a small section of society, leading to lower overall redistribution. According to OECD data, Nordic countries such as Sweden and Denmark achieve net redistribution rates of around 25–30% of GDP, while countries like the US and UK have rates closer to 15-20% of GDP, showing that Nordic countries have stronger collective bargaining and coordinated labour markets. Thus, the structure of labour market institutions not only determines inequality at the market level, but also determines how much and how effectively high-income countries redistribute.

Conclusion

High-income countries generally have the money and administrative ability to redistribute wealth. So the real issue isn’t whether they can redistribute, but whether they choose to. Political institutions decide how power works and how policies are created, income polarisation influences what kind of political system voters support, and labour market structures influence both wages and welfare programmes. Together, these factors show that redistribution is determined far more by political and social choices and institutions than by economic capacity alone.