We now have the tools necessary for an assessment of the future revenues and expenditures of the public sector. Public expenditures consist of three basic components: collective public consumption, individual public consumption, and income transfers. These components are modeled separately in DREAM.
Individual public consumption is divided into four categories, equivalent to the division in the national accounts: health care, social care, education, and leisure, culture etc. These four variables are projected based on demographic developments. Based on register data, the cost of a person of a given gender, age and origin is calculated. For social care, education, and leisure, culture etc., it is assumed that the average cost per person increases with the underlying growth rate of the economy. In this lies an assumption that the level of service will rise with the general increase of wealth in the economy. The projection of the costs of health care and care for the elderly is adjusted to follow the development in life expectancy. This is due to the fact that the cost of health care increases substantially in the terminal phase as most expenditures fall in the last years before death. Moreover, it is assumed that the cost of health care services and the part of social care services that is related to care for the elderly, will grow by an additional 0.3 percent the next 25 years. This reflects the observed additional growth of these costs since 1995. In other words, it is assumed that the historical trend in the cost of health care will continue but that the cost will be controlled in the long run.
Collective public consumption is assumed to follow GDP in DREAM’s base scenario. In alternative scenarios, collective public consumption is typically assumed to be given by its level in the base scenario.
The last component of public expenditure is income transfers. There are 13 types of income transfers in DREAM: unemployment benefits, student aid benefits, leave benefits, maternity benefits, sickness benefits, activation benefits, cash benefits (kontanthjælp), transitional benefits (overgangsydelse), early retirement pay (efterløn), early retirement pensions (førtidspension), public pensions, civil servants earned pensions, and introductory benefits (introduktionsydelse). The number of people outside the workforce receiving the different income transfers is determined by the socioeconomic projection. Within the workforce, the ratio between employed and unemployed is determined by the macro model. As previously mentioned, the socioeconomic projection incorporates the 2006 welfare reform. This is of crucial importance to the projection of income transfers.
Public revenues derive from various taxes and duties. They are calculated on a relatively detailed level in the macro model. Firms pay corporate tax as well as numerous other duties. Furthermore, public revenues from North Sea oil and gas extraction are included as the macro model contains sectors for extraction of oil and gas. The development in the production of these sectors is determined by the Danish Energy Agency’s prognosis for oil and gas extraction in the North Sea.
Households pay income tax as well as numerous other duties. The long-run character of the model makes it possible to analyze the long-term consequences of e.g. a tax freeze and energy duties.
A central variable in every DREAM simulation is the so-called sustainability indicator. The sustainability indicator measures, as a share of GDP, the permanent improvement to the primary public budget that is necessary in order for the public sector to meet its long-run budget constraint. The sustainability indicator is thus a measure of the size of the changes in economic policy that are necessary in order to ensure that the public sector does not generate a deficit in the long run. It should be noted that the sustainability indicator does not specify which changes in economic policy should be made.
Read DREAM's long term forecast of the Danish economy