The average Dane enjoys relatively high standards of living: GDP per capita is higher than in most other European countries, even though the gap vis-à-vis the United States remains at 15-20% where it has been for over three decades. A deep commitment to open trade and structural reforms in the markets for goods and services, combined with a cohesive approach to actively helping job seekers gain or regain employment, have contributed to a competitive business environment, low structural unemployment and sound public finances. Building on a consensus to sustain these good outcomes, a set of forward-looking reform agreements has been reached in recent years. The welfare agreement of 2006 – which was supported by an overwhelming majority in Parliament – will link retirement age to longevity. The globalisation strategy of 2006 implies a boost to R&D and higher education and, following tri-party negotiations, unions and employers are now incorporating the financing of life-long learning into the collective wage agreements. Moreover, a new local government structure was established in 2007 which, together with the recent quality reform and the action plan to reduce bureaucracy, will facilitate efforts to make public services more professional and efficient. By focusing on long-term issues the Danish economy will face, these reforms will allow for gradual adjustments rather than abrupt corrections. This approach and reform momentum should be continued as challenges remain in a number of policy areas. Employment rates are high, particularly for women, but average hours worked is low. Productivity growth halved in the late 1990s partly due to reallocation of resources across sectors and wider inclusion of marginal groups in the labour market. Progress in living standards has slowed, even when considering the parallel terms-of-trade gains.

The Danish economy has come to a pivotal point. A lot has been achieved over the past 25 years thanks to stability-oriented macroeconomic policies and gradual forward-looking reforms. Following rapid debt reduction, public finances are better prepared for population ageing than in most OECD countries. Moreover, the flexible labour market, combined with active support for those losing jobs, makes a good starting point to benefit from globalisation. Yet, economic stability could be at risk now: unsustainable wage increases could undermine the stability of inflation expectations, and thus the current boom could end in a major hike in unemployment going well above structural equilibrium levels. A strong correction could then be triggered in the housing market and could lead to a recession which might be prolonged. This chapter starts with the urgent challenge of avoiding overheating and the requirements for fiscal policy. Thereafter, it assesses the economy from a structural perspective and indentifies the key challenges in the short- and mediumterm.

The government’s new 2015 Strategy provides a valuable framework for focusing on the long run fiscal position and highlighting the impact of reforms to improve publicly funded services and the tax system. The paths envisaged for the fiscal balance and public spending are reasonable, but the strategy lacks a rigorous set of mechanisms to ensure that the targets are adhered to. The somewhat loosely formulated targets for public consumption spending could be problematic, because spending overruns, in particular in the sub-national parts of government, have often been the Achilles heel of fiscal management. The purpose of this chapter is to assess options for establishing mechanisms to ensure targets are met.

Unemployment reached a three-decade low already by mid 2006, and has fallen further since then. A number of indicators suggest that the labour market is “tight” although wages growth has been benign until recently. This may be explained by a fall in the level of structural unemployment, but also changes in the industry composition of the economy that may have helped to contain overall wage growth pressures. Even so, the actual unemployment rate is now clearly below the NAIRU and recent data suggest some reaction of wages to the very tight labour market conditions. With continued, albeit somewhat more modest, economic growth projected and the government’s new 2015 Strategy for fiscal policy relying on strong gains in labour utilisation, efforts to increase labour supply will have to be redoubled. This chapter assesses the prospect of promoting further employment growth, given the current labour market patterns.

The new medium-term fiscal strategy requires that average hours worked are kept constant in a context where demographic changes would imply a 2% decline towards 2015. Tax reform could make a significant contribution to achieving this objective, provided that the cuts focus on areas where they could reduce distortions the most and that they are appropriately financed. This chapter analyses the relative merits of the enlarged in-work tax credit introduced in 2008 and the higher threshold for the middle tax to be introduced from 2009. It also presents the results of a new OECD study on hours worked. Finally, it discusses the long-run prospects of maintaining a system where four out of ten full-time employed face a marginal tax wedge of more than 70% resulting from contributions plus income and consumption taxes combined.

Over the past few years, the Danish health system has improved. Yet when looking ahead, further pressures should be expected from new costly medical technologies expanding the range of conditions that can be treated, as well as from continued demand for shorter waiting times and care that responds to individual needs. Managing healthcare spending may well be the largest fiscal challenge over the coming decades. Sustaining universal public health insurance financed by general taxation should be feasible, but it will require continued efforts to enhance efficiency via organisational adjustments, refined economic incentives and the adoption of cost-saving treatment practices. At the same time, promoting healthy nutrition and lifestyles should have higher priority, and the system as a whole should be more engaged in helping to prevent people with health problems ending up being excluded from the labour market.

The Danish pension system is well-developed and almost unique in the OECD. It combines widespread take up of defined contribution pension schemes with high contribution rates set in collective agreements. The original targets for contribution rates have been reached and the system delivers good results, but there are a number of changes that could make it more robust and efficient. The flexibility of the institutional structure could be increased and, while leaving the key parameters of the pension taxation system as they are, other aspects of capital taxation could be improved.