Chapter 7 Government Subsidies and Income Support for

Chapter 7 Government Subsidies and Income Support for the Poor 1

Poverty in 2001 n 33 million people in U. S. affected n 12% of the population classified as poor 2

Poverty in the United States Poverty threshold or poverty line in 2001 Family Structure Single Threshold ($ income annually) $9, 214 One Adult-Two Children $14, 269 Two Adults-Two Children $17, 960 3

Poverty line n Poverty Line: originally created by the Social Security Administration as three times the cost of a nutritionally adequate diet n Updated annually for inflation using the CPI 4

Changing the Poverty Line n New definition proposed during Clinton Administration would have included child care and other expenses and would have raised the threshold to almost $20, 000. n Such a change would have increased the poverty line in 1998 from 12. 7% to 17%. n Politics are involved in setting poverty thresholds because many government means-tested programs are tied to the definition of poverty. 5

Poverty Rate 1960 -2001 6

Why We Have Government Programs to Aid the Poor n Concern about equity-efficiency tradeoffs. n Creates the positive externality of social stability. 7

Equity-Efficiency Trade-offs n Transfers to low-income persons can: n n n decrease incentives to work. distort consumption patterns. This approach recognizes that the way the “pie ” is divided can ultimately affect its size. 8

The Positive Externality: Social Stability Charity has characteristics of a public-good. n n n It creates social stability that benefits everyone. Because of the free-rider problem, voluntary donations to the poor are likely to result in an undersupply of income redistribution to low-income groups relative to the efficient amount. Government action to redistribute income can establish uniform standards of eligibility for aid that reflect political compromise. 9

Entitlement Programs: Government programs that guarantee recipients benefits as long as they meet eligibility tests . n Means Tests: typically income and wealth criteria that must be met for an individual or family to be eligible for a program n Status Tests: typically disability, children, and age criteria that must be met for an individual or family to be eligible for a program. 10

Cash Programs TANF: Temporary Aid to Needy Families n Program most identified with a welfare check; may provide for child-care expenses or job retraining SSI: Supplemental Security Income n Program provides cash payments to the widowed, orphaned and disabled. EITC: Earned Income Tax Credit n A program that increases the take-home pay of the working poor by as much as $3888 in 2000 for a family with two children. 11

In-Kind Programs n n Food Stamps: vouchers that enable a broad class of poor people to purchase a wide variety of food products WIC vouchers: enable poor, pregnant, and post-natal women to purchase a narrow variety of food products. Medicaid: federal and state funded program that provides health care services to the poor The Children’s Health Insurance Program: federal program that subsidizes health insurance coverage for the working poor. 12

Major Federal Government Expenditures To Aid the Poor, 2003 Program Federal Spending Dollars (Billions) $32 Percentage of Federal Spending TANF $26 1. 23 EITC $35 1. 66 $93 4. 41 $155 7. 36 $24 1. 14 $4 0. 52 $11 9. 21 $287 13. 62 SSI Subtotal of Cash Programs Medicaid Food Stamps Child Protection and Social Services Child Nutrition Subtotal of In-Kind Programs 1. 52 13

Price Distorting Subsidies lower the price of a particular (subsidized) good relative to other goods for eligible people. 14

Figure 7. 1 A Price Distorting Subsidy Expenditure on Other Goods per Month (Dollars) L I E 3 N 1 N 2 E 1 Subsidy E 2 U 1 U 3 U 2 S 0 H 1 H 2 H 3 A L' Housing Services per Month B 15

Dead Weight Loss or Excess Burden Dead Weight Loss (sometimes called Excess Burden ) measures the dollar value of the distortion that exceeds the amount transferred to the recipient. 16

Rent (Dollars per Month) Figure 7. 2 Excess Burden of a Subsidy Excess Burden of Subsidy 400 200 B E C F A S = MSC E’ S’ D = MSB 0 Q 1 Q 2 Number of Apartments Rented 17

Price (Dollars per Month) Figure 7. 3 Full Subsidization of Medical Services B E 1 25 = P* A Excess Burden MBL E 2 0 Q* QG Medical Office Visits per Year 18

Additional Effects of Subsidies: The Case of Increasing Costs Taxpayers face a double burden: not only must they pay Medicaid costs through taxes, the program also increases the amount non-eligible patients pay for medical services by increasing demand for those services. 19

Figure 7. 4 The Impact of The Medicaid Program on Price: The Case of Increasing Cost Price (Dollars) S = MSC E 2 35 E 1 25 D M' DM = MSB DO DL 0 QLQO' QOQI QG Q 2 Medical Office Visits per Year 20

Medicaid and State Governments n n n Medicaid allotments make up more than 20 percent of state government budgets. State Medicaid budgets have grown at 12% per year (overall budgets have grown at 6%). In 2002: n n Medicaid payments person were about $3, 500 Medicaid costs for the 11% of aged participants were nearly $10, 000 person. 21

Subsidized Housing Providing Apartments: allocates standard apartments to eligible recipients. With this type of subsidy, recipients cannot supplement the subsidy with their own cash. It is a “take it or leave it” option. Housing Vouchers: allows recipients particular allotments of vouchers to rent housing, but recipients may supplement the subsidy with their own cash. Cash: not restricted to spending on housing. 22

Expenditure on Other Goods per Month (Dollars) Figure 7. 5 Eligibility for Public Housing and the Effect on Housing Consumption I' 800 = I 210 90 M 210 H 400= F G E 2 J E 1 U 3 U 2 A B 0 1 2 3 4 5 6 7 Housing per Month (Number of Rooms Rented) 23

Expenditure on Other Goods per Month (Dollars) Figure 7. 6 Refusing a Public-Housing Subsidy I M G J E 1 U 3 U 2 0 1 2 3 4 5 6 7 A Housing per Month (Number of Rooms Rented) 24

Subsidizing Food Stamps: subsidies that allow recipients particular allotments of vouchers to buy food, but recipients may supplement the subsidy with their own cash. It is illegal to sell food stamps, though it may be in the recipients’ interests to do so. 25

Figure 7. 7 The Impact of an In-Kind Transfer: Food Stamps Expenditure on Other Goods per Month (Dollars) A B B B F I C M 2 M 1 L I M 1 E 2 E 1 C E 1 U 3 U 2 U 1 0 QF QF 1 QF 2 E 2 QF A A' 0 QF 2 QF 3 A A' QF * Food per Month 26

The Impact of Government Assistance Programs on Work n Transfers could cause people to work more or less, depending on whether leisure is a normal good. 27

International Food Subsidies n Several nations use price-reducing subsidies to make food more affordable. n n n Programs that reduce the price of food benefit higher-income people as well. Some nations only subsidize food that is typically consumed by the poor. Some nations distribute food directly. 28

Figure 7. 8 The Income Effect of a Transfer F Income per Day U 3 C A U 1 E 3 U 2 G E 2 E 1 D Transfer Payment 0 L 1 L 2 24 Leisure Hours per Day 29

Figure 7. 9 A Transfer that Declines with Earned Income e. g. T=$300 -. 7 IE Income per Day A C E 2 U 2 E 1 U 1 D Maximum Daily Transfer B L* L 1 L 2 24 Leisure Hours per Day 30

Empirical Evidence n A 10% increase in welfare payments to individuals decreases work effort by 2%. 31

Negative Income Tax n The Negative Income Tax is a system with no status test, but there is an income guarantee and a take-back rate. n T = IG – t. NIE Where n IG = Income guarantee n t. N = take back rate n IE = earned income n T = Transfer 32

Break-Even Income 0 = IG – t. NIB IB = IG/t. N 33

Negative Income Tax Earned Income IE Transfer T = IG – t. NIE Disposable Income ID 0 5, 000 1, 000 5, 000 – (. 5 × 1000) = 4, 500 5, 500 2, 000 5, 000 – (. 5 × 2000) = 4, 000 6, 000 3, 000 5, 000 – (. 5 × 3000) = 3, 500 6, 500 4, 000 5, 000 – (. 5 × 4000) = 3, 000 7, 000 5, 000 – (. 5 × 5000) = 2, 500 7, 500 6, 000 5, 000 – (. 5 × 6000) = 2, 000 8, 000 7, 000 5, 000 – (. 5 × 7000) = 1, 500 8, 000 5, 000 – (. 5 × 8000) = 1, 000 9, 000 5, 000 – (. 5 × 9000) = 500 9, 500 10, 000 5, 000 – (. 5 × 10000) = 0 10, 000 34

Wage Rate Subsidies: government additions to wages designed to increase the pay of the working poor 35

Wage Rate Subsidies Wage Paid $2. 00 $2. 50 $3. 00 $3. 50 $4. 00 $4. 50 $5. 00 Subsidy per Hour $1. 50 $1. 25 $1. 00 $0. 75 $0. 50 $0. 25 $0. 00 Total Wage Received $3. 50 $3. 75 $4. 00 $4. 25 $4. 50 $4. 75 $5. 00 36

Wisconsin Works n Stringent Work Requirements n Child Care Subsidies n Health Insurance Coverage n Welfare dependency in WI has dropped 60% since 1987 37

EITC n The Earned Income Tax Credit goes to the working poor and varies with the number of children. Typically, recipients receive the assistance with their tax refund, but papers can be filed to receive the money in their paychecks throughout the year. 38

EITC (2002; two-child family) Total Earned Income $0 $2, 000 $4, 000 $6, 000 $8, 000 $10, 000 $15, 000 $20, 000 $33, 200 EITC $0 $810 $1, 610 $2, 410 $3, 210 $4, 140 $3, 823 $2, 770 $0 39

Figure 7. 11 Earned Income Tax Credit in 1999, By Number of Children and Earnings 40

Annual Disposable Income (ID ) Figure 7. 10 A Negative Income Tax Plan Taxes Transfers IG 45º IB Annual Earned Income 41

Welfare Reform of 1996 Time Limits: n 5 -year lifetime limit n 2 -years at a time n If states meet certain goals, they can waive this rule for up to 20% of their caseloads. Work and Training: n Half a states TANF recipients must be in work programs n subsidized child care Teen Mothers: n no longer eligible to receive their own payments n must live with responsible adult. Refusal to work: n If recipients have children over five and the parents refuse to work, families can be denied aid and children may be placed in foster care. 42

Impact of Welfare Reform n Welfare caseloads have declined. n Labor force participation among less-skilled single mothers has increased more than expected. n State governments have greatly increased their spending for work support programs, including: n n child care subsidies, transportation subsidies, help with job search expenses, subsidized wages. 43

Welfare Rolls in New York City and the 2001 Recession n TANF was introduced during a period of almost unprecedented prosperity in the United States. n In New York City, the number of people receiving aid under public assistance actually decreased by 10 percent during the recession. 44

Programs to Aid the Poor and the Distribution of Money Income in the US n Most of the “War on Poverty” began in the 1960 s. n The share of income going to each quintile (20% grouping) has remained constant during that time. 45

Percent Share of Income by Quintile Year 1947 Lowest Second Third Fourth Highest Fifth Fifth 5. 0 11. 9 17. 0 23. 1 43. 0 1967 4. 0 11. 1 17. 6 24. 6 42. 7 1976 4. 3 10. 4 17. 0 24. 7 43. 6 1987 3. 8 9. 6 16. 1 23. 3 46. 7 1997 3. 6 8. 9 15. 0 22. 2 49. 4 2001 3. 5 8. 7 14. 6 23. 0 50. 1 46