The Nordic economies – Denmark, Norway, Sweden, Finland – continue to perplex economists and inspire policymakers. These countries are among the wealthiest in the world, and their workers are as productive, in some cases more productive, as their American counterparts. Yet their societies are far more equal in income than either the United States or much of the rest of Europe.

By conventional economic analysis, this shouldn’t be possible. Standard textbooks portray inequality as an engine of prosperity. The reasoning is straightforward: when individuals see the possibility of getting ahead by working harder, innovating or investing wisely, they respond to the incentives. High rewards at the top encourage risk-taking, while the threat of falling behind disciplines workers and firms to be efficient.

Redistribution, by contrast, is supposed to inhibit ambition. Tax away too much of the upside or shield people too well from the downside and growth suffers. In this view, equality comes at the expense of dynamism and productivity growth.

Part of the answer to the Nordic puzzle may be that this standard analysis rests on a model in which equality is achieved through post-market redistribution of returns – the market generates income and the state redistributes it. But equality need not rely solely on post-market redistribution. It can also be created before the market by more equal distribution of human capital, or in the market itself by delinking wages and individual productivity. Widening the lens on equality thus raises the question: do residents of the Nordic countries end up with a more equal distribution of resources because they are born and raised in cultures that promote equality, because they are paid more equally, or because taxes generate more equality?

Setting the Stage

The Nordic countries are home to just 26 million people. Sweden, with 10 million people, is about twice the size of each of the others.

Demographically, they resemble the rest of Europe: about 65 percent are of working age and, at 1.6 expected births per woman, their fertility rate is close to the OECD average. Contrary to the stereotype of ethnic homogeneity, in 2021 both Norway and Sweden had larger shares of foreign-born residents than the United Kingdom or the United States, with about half of the foreign-born from non- Western countries.

The populations are well educated and healthy, with life expectancy above 83 years in Sweden and Norway, 82 in Finland and 81.5 in Denmark (2019) – compared with 76.4 years in the United States. The Nordics also rank consistently near the top in global quality-of-life indices.

All four Nordic countries combine small, open economies with large public sectors and a heavy reliance on exports. Each has its specialties: machinery and paper in Finland, oil and fish in Norway, manufacturing in Sweden and pharmaceuticals in Denmark.

Incomes are high across the region. Norway’s GDP per capita adjusted for purchasing power slightly exceeds that of the United States. Denmark and Sweden trail the U.S. by about 15 percent, but remain well above the OECD average. Finland, the least wealthy of the four, still outpaces the UK and the OECD as a whole.

High labor productivity is central to the Nordic economies’ success. On an hourly basis, Denmark, Norway and Sweden match or exceed the United States by this metric, and all four Nordics outperform both the UK and the OECD average. The gap in average annual income between the Nordics and the U.S. mainly reflects differences in hours worked: Americans are on the job more than 200 hours a year longer than Nordic workers. Shorter workweeks – not lower employment – explain the difference. In fact, labor force participation, especially among women, is higher in the Nordics than in the United States, the United Kingdom or the OECD average.

It’s important to note, however, that these outcomes are not explained by markets alone. They are closely tied to the institutions that underpin the Nordic welfare model.

Four Pillars of the Model

The political scientist Gøsta Esping-Andersen developed a typology that distinguishes among three kinds of welfare regimes. The United States exemplifies the “liberal” model, in which benefits are limited and often means-tested, and markets play the central role in allocating resources. Much of continental Europe follows a “conservative-corporatist” model, where benefits are more generous but are linked to occupational status and family roles.

The Nordic countries fit the “social democratic” model. In this system, the state plays a larger role in promoting equality through universal programs and policies that support high labor force participation. Basic needs such as health care, education, childcare and pensions are financed through broad-based taxation and provided as rights of citizenship rather than as goods to be purchased in the market.

Esping-Andersen’s typology captures only the welfare-state side of the economic model. In the Nordics, the design of the welfare model has been tightly interwoven with labor market policy. From the interwar rise of coordinated, tripartite wage bargaining to contemporary active labor market policies, unions and employer associations have co-governed wage formation and shaped the tax/ benefit architecture. Wage compression – narrowing the range created by productivity differences – and broad bargaining coverage made universalism fiscally and politically sustainable, while universal services and social insurance, in turn, supported high employment and a broad contribution base. In short, the Nordic welfare state and its labor market institutions developed together as a mutually reinforcing system.

The foundations of this system were laid in the period between the world wars, when social democratic parties rose to power alongside strong labor movements and early versions of social insurance and health programs were introduced. The most significant expansion, however, occurred during the post-World War II era, the so-called Golden Age of organized labor in the 1950s and 1960s, when universal social security and health care were established across the region. In the same period, centralized wage bargaining between unions and employer associations became institutionalized, anchoring the aforementioned wage compression and supporting the financing of universal benefits.

The 1970s brought further reforms, expanding into family policies such as paid maternity leave and publicly subsidized day care, with near-universal availability achieved by the 1990s and 2000s. Education also broadened in scope, as access to secondary and higher education shifted from selective, means-tested systems to universal entitlements. Taken together, these developments gradually transformed earlier, fragmented arrangements into the comprehensive welfare system that characterizes the Nordic model today.

The contemporary Nordic model can thus be refined into four key pillars of economic organization: 

• Universal services: Substantial public investment in family policies, education and health care, ensuring broad access to essentials.
• Coordinated wage-setting: Strong labor unions with bargaining that aligns wages across and within industries.
• Comprehensive social insurance: Programs that protect individuals against income losses from unemployment, disability and illness.
• Progressive taxation: High and progressive taxes on labor income, combined with subsidies for services that support employment.

Together, these pillars constitute a cradle-to-grave model of welfare provision influencing individuals’ opportunities at multiple stages of life – before, at and after market income is earned.

Economist Gary Becker described the bundle of resources and circumstances passed from parents to children as a “family endowment.” In more equal societies such as the Nordics, these endowments may be less dispersed than in countries with higher inequality. Universal access to health care and education may further reduce disparities in early-life conditions, allowing individuals to enter the labor market with narrower productivity gaps. Within the labor market, coordinated wage-setting compresses the wage distribution by raising pay at the lower end and limiting dispersion at the top. Finally, progressive taxes and transfers reshape market incomes into more equal disposable incomes.

Searching for the Source of Nordic Equality

While all of these mechanisms plausibly play a role, their relative quantitative importance remains an open question – and one that our analysis seeks to address.

In tracing the origins of Nordic equality, we begin at the end and move backward. Start with the role of redistribution: to what extent do progressive taxes and transfers reduce inequality in disposable income, and how does this compare to countries such as the United States? From there, we turn to the pre-distribution of earnings – the degree of equality already present in market incomes before taxes and transfers. We then ask how much of this greater equality in the Nordics stems from narrower dispersion in skills versus the institutional compression of wages.

This stepwise approach allows us to decompose the relative importance of redistribution, pre-distribution and wage-setting institutions in shaping overall equality. By rolling the story back from outcomes to their underlying drivers, we seek to clarify which mechanisms matter most for the distinctive egalitarianism of the Nordic model.

Lesson 1: Pre-distribution, not redistribution. A widely used yardstick for inequality is the Gini coefficient. Think of it this way: pick two people at random, look at the difference in their incomes and divide that difference by the sum of their incomes. If they earn the same amount, this number is zero; if one person has all the income, the number is one. The Gini coefficient is just the average of this calculation across all possible pairs.

According to OECD data from 2019, the Gini for disposable income is about 0.39 in the United States and 0.27 in the Nordic countries. That 12-point gap translates into about 30 percent less inequality in the Nordics. Put another way, cutting the Gini by 30 percent is roughly equivalent to imposing a 30 percent tax on all income and distributing the proceeds equally.

But how much of this difference reflects redistribution through taxes and transfers, and how much comes from a more equal distribution of incomes before taxes? Looking at market income, the gap narrows but remains substantial: 0.47 in the U.S. versus 0.39 in the Nordics. And when we focus on labor market earnings, the contrast is even starker: the Gini is about 15 percentage points lower in the Nordics.

Our evidence – especially on labor market earnings – points to a simple lesson: the Nordics are more equal than the U.S. not primarily because they redistribute more after the fact, but because market earnings are more equal to begin with. Taxes and transfers matter, and the Nordics do more of both than the U.S. But the real driver of their equality is the compressed distribution of pre-tax wages.

Lesson 2: Wage compression, not working-hour compression. To see why earnings inequality is so much lower in the Nordics than in the United States, we break the distribution into three parts: variation in hours worked, variation in hourly wages and the connection between hours and wages. The Nordic countries come out ahead on all three.

High rates of labor force participation, especially among women, mean fewer people are left out of the labor market altogether. Among those employed, hours worked vary much less than in the U.S., where part-time work is more common and schedules more uneven. And while high-wage workers in the U.S. typically put in longer hours, thereby reinforcing income gaps, the link between wages and hours is weaker in the Nordics: better-paid workers do work more hours, but not dramatically more.

Gender differences also play a role, but not nearly as much as one might think. Nordic women earn more relative to men than their U.S. counterparts, which does help reduce inequality. Yet when we decompose the gap in earnings inequality, only about 2 percent can be traced to gender pay differences. The remaining 98 percent comes from the wider spread of wages within each gender group in the U.S.

The dominant factor explaining the U.S.- Nordic equality gap is the distribution of wages themselves. In the U.S., hourly wages are spread widely: a worker at the 90th percentile earns about five times as much as one at the 10th percentile. In the Nordics, the ratio is closer to two-to-one. This narrower wage spread shows up clearly in the statistical decomposition. More than 70 percent of the difference in earnings inequality between the Nordics and the U.S. can be attributed to the lower variance of hourly wages in the Nordics. High participation, steadier hours and smaller gender gaps all contribute, but the key fact is that hourly wages are distributed much more equally.

Lesson 3: Compression of skill premiums, not skills. The wage compression observed in the Nordic countries could, in principle, have two sources: either workers there are more similar in their skills/productivity, or the labor market puts less weight on skill differences when setting pay. Data from the OECD’s PIAAC survey help distinguish between these explanations.

On average, skill levels in the Nordics are high, and inequality in skills is lower than in the United States. Measured by the coefficient of variation – a statistic that captures the spread of scores relative to their average – skill inequality is about 30 percent higher in the U.S. Although not negligible, this difference in skills is modest compared with the gap in wages: hourly wage inequality is nearly twice as high in the U.S. as in the Nordics. In other words, differences in measured skills are far too small to explain the much larger dispersion of wages.

Statistical regression analysis points to the real source. In the Nordics, moving one standard deviation up the skill distribution ladder is associated with a 10-12 percent increase in wages. In the U.S., the same skill difference translates into about a 24 percent increase – roughly twice as much. This larger “skill premium” in the U.S. means that pay rises much more steeply with ability. A formal decomposition analysis confirms the point: the much wider dispersion in hourly wages in the U.S. compared to the Nordics is largely driven by higher returns to skills in the U.S., while differences in the distribution of skills themselves play only a minor role.

It may seem surprising that the extensive pre-market support provided by the Nordic model – generous family policies and universal access to high-quality education and health services – does not account for more of the relative equality in pay. Indeed, research shows that expanding such programs can improve outcomes, often with the largest benefits for low-income families. But these effects are not large enough to explain the much greater equality of earnings in the Nordics relative to the U.S. The real difference is made in the labor market.

How Wage Bargaining Shapes Equality

There may be several factors that contribute to wage compression in the Nordic countries. Progressive taxes may reduce the payoff to capturing very high wages, and free higher education may lower the salaries needed to attract skilled workers. But the most natural explanation is institutional. We believe that the compression of wages in the Nordic countries stems primarily from their distinctive wage-setting arrangements. While practices vary somewhat across countries, they share two features: high union representation and strong coordination in wage bargaining.

Over the past 40 years, most Western economies have seen sharp declines in both union membership and collective bargaining coverage. But here, the Nordics stand out, starting from high levels of unionization and coverage, and experiencing only modest declines.

Wage-setting in the Nordic economies typically follows a two-tier system: sectoral negotiations establish wage floors, which are then supplemented by local bargaining at the firm level. This structure promotes coordination and results in compressed wages both within industries and across the broader economy. Whether unions and collective bargaining necessarily produce a more equal wage distribution is not obvious in theory since it depends on which workers are covered and how bargaining is organized. But in practice, the Nordic experience shows that coordinated wage-setting has played a central role in compressing wages.

In these countries, wages are set through a two-tier system. Base wages are negotiated at the national or industry level, and then local bargaining can add a supplement (often tied to firm performance) on top. Downward adjustments are rare, which creates stability, while the local flexibility ensures that pay can still in part reflect productivity differences across firms. The overall result is a wage structure that is both compressed and flexible – a defining feature of the Nordic model.

Can the Nordic Model Travel?

One line of thought, associated with the “varieties of capitalism” literature, sees different systems as broadly self-sustaining. Liberal market economies like the United States rely more on competitive markets and tolerate greater inequality. Coordinated market economies, like the Nordics, are anchored by social insurance and wage compression. Both systems can deliver high incomes, but their institutional complementarities make it difficult to switch from one model to the other.

Others are (even) less optimistic about transplanting the Nordic approach. In a world of globalized innovation, the argument goes, egalitarian economies can thrive only because they benefit from technologies developed in more unequal, “cutthroat” systems. By this view, the Nordics succeed as adapters and implementers of innovations that originate elsewhere. Thus if the United States tried to adopt the Nordic model, the concern is that global innovation would slow, leaving everyone worse off.

But not all theories see equality and efficiency in conflict. The Rehn-Meidner framework, developed in Sweden after World War II, argued that wage compression could actually enhance growth by channeling labor and capital away from low-productivity firms and toward more advanced ones.

Later formal models showed that narrowing wage differences can accelerate structural change, push firms to invest in new technologies and create more high-quality jobs. Others suggest that generous social insurance encourages workers to adapt more readily to globalization and technological change, reducing resistance to economic restructuring that enhances productivity.

What does the evidence say? The verdict is still out. Some studies show that periods of wage compression in Sweden coincided with strong productivity growth. But whether one caused the other – or both were shaped by outside forces – remains uncertain. Most of the evidence rests on case studies, anecdotes and cross-country comparisons, which can miss important influences and blur the line between correlation and causation.

Remaining Puzzles

Our finding that much of Nordic equality reflects compressed wages sustained by coordinated bargaining implies that high-skill workers earn less than they would under a more decentralized wage-setting, and low-skill workers earn more. This arrangement raises several questions.

First, why hasn’t compression inhibited education and skill formation? Standard theory predicts that when the wage payoff to schooling is modest, people will invest less in human capital. Yet the Nordics remain among the most highly educated societies in the world. Free higher education, reduced risks of failure and strong social norms may offset weaker financial incentives, but a more precise explanation is elusive.

Second, why haven’t highly skilled workers left for greener pastures? In open economies, one might expect top professionals to migrate to where their skills command higher returns. But Nordic countries have not seen such an exodus. Here, the quality of life and generous family policies may be key to retaining talent.

The Nordic model also has unique attractions for entrepreneurs and investors: compressed wages mean skilled labor is cheaper, which can raise the returns to capital. One indication of this effect is Nordic economies’ contrast between low labor market inequality and highly concentrated wealth and capital income – a greater contrast than in many OECD countries. This raises the possibility that by boosting profits, compressed wages may fuel wealth inequality even as they limit income inequality.

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Our understanding of how and why the Nordic model works is still limited, and many causal links remain unclear. Yet the Nordic experience shows that equality and high levels of prosperity can coexist and, in some cases, reinforce each other. As former Swedish Prime Minister Göran Persson quipped, the Nordic model is like a bumblebee: by the laws of textbook economics, it shouldn’t fly – and yet it does.

The real challenge is not simply to observe that the Nordics do fly, but to understand how wage-setting, skill formation, capital markets and migration interact to make flight possible, and whether those conditions can be replicated elsewhere.