Estonian Human Development Report

6.3. Relationships between
economic and social policy
The three whales of economic policy
We will start this subchapter by introducing some principles
of economic policy, by describing the importance
of the institutions that link and direct participants in the
economy. We will continue with social policies, thereafter
we will present a matrix of governance correlations,
and end with some conclusions about Estonia. In this
case, we are dealing with social policy in the broader
sense, which includes the entire social sphere. In this
approach, education and health care are added to social
protection and security. Materials from the Commission
on Growth and Development, which was formed
under the auspices of the World Bank, have been used
as background for the following text, which includes a
rather broad attempt to encompass growth and development
correlations and influence factors (The Growth
Report, 2008).
The first and most important starting point for economic
policy is the fact that the economy is based on
market mechanisms that are guided by price signals,
decentralized decision-making, and the preferences of
consumers directed from the demand side to the supply
side. The functioning of markets is framed by the property
rights, which guarantee companies and entrepreneurs
asset rights that are sufficient for making investments
to increase the assets and use them in the best
way.
This is the general starting point for the shaping of
economic policy that needs to be supplemented and regulated.
The general reasoning for the latter is that economic
activity itself may not suffice for the creation of the information
necessary for realizing property rights or for the
functioning of the markets. Therefore, the need develops
for economic and other policies.
Another prerequisite is related to the fact that the
economic activities of all countries are more or less
internationally open. Besides everything else, this also
means that most knowledge and skills, including technological
ones, are usually learned from others rather
than being the result of invention. The widespread
transfer of knowledge and technology from other countries
has occurred in all countries with rapid and longterm
economic growth. Moreover, knowledge includes
both abstract formulas and practical applications, such
as skills necessary for traffic management or for the
construction of multi-level intersections. Moreover, the
social organization side is at least as important as technical
solutions.
The third general condition is macroeconomic stability,
the internal aspect of which is related to price
stability and the external aspect to the stabilization of
exchange rates, currency convertibility, balance of payments
and currency reserves. The most universal consideration
of stabilization is related to the uncertainty and
risk of the economic environment. High inflation rates,
as well as disturbances in the cash and capital flows
related to other countries reduce the reliability of market
signals, which has a critical impact on long-term investment
decisions. The stabilization aspect and its impact
on economic activity are often expressed as a restriction
on social costs. The requirements for a balanced budget,
or for a limited deficit (e.g. the 3% of GDP limitation,
which is a condition for acceding to the European Monetary
Union), are often a significant restriction on social
costs, especially in the case of costs financed from the
budget.
Rules and economic policy
During the past few years, theories on economic growth
have placed great importance on the impact of institutions
directing the functioning of markets. In economics,
Douglas North’s approach, according to which institutions
comprise formal rules (laws and other regulations),
informal rules, (standards and practices), and enforcement
mechanisms for rules (e.g. courts in the case of
laws, public condemnation and alienation in the case of
the non-fulfilment of informal rules) is widely accepted.
The immaturity of institutions, e.g. the improper observance
of good business practices, is the mark of an immature
society.
The insufficient performance of institutions manifests
a negative impact on economic growth. A weakness of
regulations, practices and their enforcement mechanisms
increases uncertainty, which is expressed, for instance,
by insufficient protection for investments or intellectual
property, uncertainty about the impartiality of economic
policy decisions, and an assumption of corruption
in order to gain access to the infrastructure, real estate,
and state procurements of the given country. The ratio of
the black market in the country’s economy and the ability
of the country’s institutions to curb this black market are
also important.
However, institutions are not absolute or definite,
but rather develop along with economic conditions. For
instance, accounting precision improves as the credit
market develops. Institutional development is related to
human and social capital, their performance assumes
an accumulation of knowledge, learning and adaptation
to economic needs. The performance of institutions is
directly impacted by social capital, the strength and operation
of connections between people.
Human capital and social capital and
the policies impacting them
To form the factors related to the social side and assess
their impact on economic activities and well-being, we
used the concepts of human and social capital. Human
capital is defined as the education, health and skills of a
country or some other body of humans. The definition of
social capital includes formal and informal networks, general
confidence, specific confidence in institutions and the
impact of standards.
These concepts expand a strictly economic treatment
of capital, by highlighting the impact of social factors on
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