Income Stagnation and the Politics of Welfare State Retrenchment in Advanced Economies

What are the political effects of income stagnation on the welfare state? To answer this question, we develop a simple political economy model linking stagnation to greater political support for welfare state retrenchment via three distinct mechanisms: (1) an altruistic mechanism where stagnation reduces altruistic motives for welfare state redistribution; (2) an insurance as ‘luxury good‘ mechanism where stagnation decreases the relative perceived gains from insurance; and (3) a subjective cost of taxation mechanism where stagnation heightens the relative costs of taxation. To test our argument, we combine novel data on the evolution of income stagnation to three existing datasets on individual preferences for the welfare state, on electoral behaviour of individuals, and on welfare state retrenchment. Our micro-level empirical analyses are consistent with our expectations. First, individuals facing stagnant or lower incomes support spending cuts to a greater extent. Second, individuals penalise the incumbent at the ballot box for retrenchment policies when their incomes are growing, but reward them if their income are stagnating. Thus, governments have electoral incentives to implement spending cuts when incomes stagnate. In turn, at the macro level, retrenchment is more pronounced in times when countries experience lower income growth. Taken together, our findings link the literature on income stagnation to comparative political economy studies of changing welfare states. In contrast to accounts focusing on the level of income and risk, this article helps us make sense of why governments find it politically attractive to retrench their welfare states, not despite but because of difficult economic times. Income stagnation does not only undermine the fiscal sustainability of welfare states, it also saps its political foundation.