Why Do the Nordic Countries Have Such Low Income Inequality Compared to the U.S. and U.K.?

This article asks why Nordic countries maintain much lower income inequality than the U.S. and U.K. Using cross-country comparisons, OECD statistics, and microdata such as PIAAC surveys, the authors decompose sources of inequality in wages and work hours. They find that redistribution through taxes and transfers explains only about one-third of the gap, while predistribution through wage compression accounts for the majority. The variance of log hourly wages is three times higher in the U.S. than in the Nordics, and over 70 percent of the difference in earnings inequality arises from compressed hourly wages rather than hours worked.

Full Citation and Link to Article

Mogstad, Magne; Salvanes, Kjell G.; and Torsvik, Gaute. Income Equality in the Nordic Countries: Myths, Facts, and Lessons. NBER Working Paper No. 33444, National Bureau of Economic Research, February 2025. DOI: 10.3386/w33444 https://www.nber.org/papers/w33444

Extended Summary

Central Research Question

The central research question asks: Why do the Nordic countries (Denmark, Finland, Norway, and Sweden) maintain such low levels of income inequality compared to the U.S. and U.K., despite being wealthy open economies? Specifically, the authors investigate whether Nordic equality stems primarily from redistribution through taxes and transfers, social spending on education and family policies, or predistribution mechanisms such as coordinated wage bargaining that compress hourly wages. The study also considers the implications of this model for productivity, growth, and the feasibility of policy transfer to other nations.

Previous Literature

The article situates itself within a large body of work examining the so-called “Nordic model.” Earlier contributions by Lundberg (1985) and Lindbeck (1997) predicted that the Nordic welfare system would undermine economic performance, but later studies showed its resilience. More recent analyses by Andersen et al. (2007), Barth et al. (2014), Kleven (2014), Acemoglu et al. (2017), and Bhuller et al. (2022) highlight different aspects of the Nordic system, from macroeconomic performance to labor market functioning and political economy dynamics.

A consistent theme in prior work is that Nordic countries are viewed as combining high prosperity with low inequality. Explanations have varied: some emphasize redistribution via generous welfare states and progressive taxes, others stress public investment in human capital, while still others focus on institutional wage-setting arrangements. This article critically evaluates these competing claims by combining descriptive decomposition with empirical evidence, giving special attention to whether wage compression plays the dominant role.

Data

The study uses a combination of cross-country statistics and microdata.

1. Cross-country data: OECD statistics on income distribution, taxation, public spending, labor force participation, and GDP productivity levels provide the backdrop for comparing Nordic countries with the U.S., U.K., and OECD averages.

2. Microdata: The authors draw on the Programme for the International Assessment of Adult Competencies (PIAAC) survey, which includes roughly 4,000 individuals per country. This dataset contains measures of literacy, numeracy, and problem-solving skills, along with information on wages, hours worked, education, gender, and family background.

3. Additional sources: Historical data on welfare state expansions (daycare, parental leave, healthcare, education), union density, and collective bargaining coverage are used to contextualize institutional development.

The data span multiple decades but emphasize the state of inequality in 2019, prior to the pandemic, to allow comparability.

Methods

The analysis combines descriptive and decomposition approaches:

1. Statistical decomposition of inequality: Using Gini coefficients, variance of log earnings, and wage distributions, the authors separate inequality into components attributable to (a) hours worked, (b) hourly wages, and (c) the covariance between hours and wages.

2. Predistribution vs. redistribution: By comparing inequality in market income (before taxes and transfers) and disposable income (after redistribution), the study measures the share of overall inequality reductions explained by tax-transfer systems versus pre-market wage compression.

3. Within- and between-group analysis: The authors examine how much wage inequality arises within versus between genders, and within versus between firms. This isolates whether Nordic wage compression reflects broad egalitarian wage-setting or targeted gender and family policies.

4. Institutional analysis: The authors qualitatively assess three hypotheses about the sources of Nordic equality:

   
   

   • Public investment in family, education, and health policies

   • Subsidized services that complement labor supply (e.g., daycare)

   • Coordinated wage bargaining that compresses wages across skill and industry levels

   
   

They use empirical studies, prior evaluations, and microdata correlations to weigh the explanatory power of each hypothesis.

Findings/Size Effects

The findings strongly support the conclusion that predistribution through wage compression—rather than redistribution through taxes and transfers or public services—is the dominant factor behind Nordic income equality.

1. Overall inequality differences:

   
   

   • Gini coefficient of disposable income in the Nordics: 0.27

   • U.S.: 0.39

   • U.K.: 0.36

     Thus, inequality is roughly 30 percent lower in the Nordics.

   
   

2. Redistribution vs. predistribution:

   
   

   • Taxes and transfers reduce inequality by about 12 Gini points in the Nordics, compared to 8–10 points in the U.S. and U.K.

   • Redistribution accounts for only about one-third of the inequality gap between the Nordics and the U.S./U.K.; the remaining two-thirds comes from predistribution, i.e., a more equal distribution of market incomes.

   
   

3. Earnings inequality decomposition:

   
   

   • The variance of log hourly wages is three times higher in the U.S. than in the Nordics.

   • Over 70 percent of the gap in earnings inequality between the Nordics and the U.S. is explained by compressed hourly wages, not differences in hours worked.

   
   

4. Hours worked:

   
   

   • Americans work roughly 200 hours more per year than Nordic workers, but dispersion in hours is also greater in the U.S. and U.K.

   • Still, compressed wages explain the bulk of lower earnings inequality.

   
   

5. Gender gap vs. within-gender differences:

   
   

   • The gender wage gap is about 30 percent lower in the Nordics than in the U.S., but this explains less than 2 percent of the wage inequality difference.

   • Instead, within-gender wage compression is far more important, accounting for 98 percent of the variance difference.

   
   

6. Policy explanations tested:

   
   

   • Family and education policies (subsidized daycare, universal healthcare, free higher education) improve equality of opportunity but have modest causal effects on wage inequality. Skill distributions are not markedly more equal in the Nordics than in the U.S./U.K.

   • Subsidized services that support employment have relatively small impacts on labor force participation and earnings. For example, subsidized daycare primarily replaces other childcare options rather than significantly increasing maternal employment.

   • Coordinated wage bargaining is the key driver: unions, employer associations, and government institutions negotiate wages in ways that compress returns to education and skills. This produces much smaller wage premiums for higher education—about half as large as in the U.S. or U.K.

   
   

7. Broader implications:

   
   

   • Some argue Nordic equality depends on other countries maintaining higher inequality, which incentivizes innovation globally.

   • Others suggest that wage compression and strong social insurance can promote innovation by raising the cost of low-skill labor, lowering high-skill labor costs, and smoothing adjustment to technological change.

   • Current evidence cannot decisively distinguish between these views; most findings remain correlational.

Conclusion

The article concludes that Nordic countries achieve low income inequality primarily through predistribution mechanisms, not redistribution or welfare policies alone. Coordinated wage bargaining compresses wages across education and skill levels, producing far more equal hourly pay than in the U.S. and U.K. Redistribution through taxes and transfers plays a secondary but important role, explaining roughly one-third of the difference.

Popular narratives that attribute Nordic equality to universal daycare, generous parental leave, or high taxation overstate their direct impact. While these policies have benefits for equality of opportunity, their contribution to wage compression is modest compared to wage-setting institutions.

The findings imply that other countries cannot easily replicate Nordic equality by adopting welfare policies without also reforming wage-setting mechanisms. Yet the broader lessons remain contested: it is unclear whether wage compression enhances or dampens long-run productivity and innovation. Future progress requires deeper integration of theory and empirical work on labor markets, wage bargaining, and the political economy of redistribution.

In short, the Nordic countries combine prosperity with equality not because they redistribute more after the fact, but because they distribute more equally before the fact. Wage compression—not welfare generosity—appears to be the decisive factor, raising fundamental questions about whether such a model can or should be adopted elsewhere.