Archive for the ‘Redistribution’ Category

One of the more elementary observations about economics is that a nation’s prosperity is determined in part by the quantity of quality of labor and capital. These “factors of production” are combined to generate national income.

I frequently grouse that punitive tax policies discourage capital. There’s less incentive to invest, after all, if the government imposes extra layers of tax on income that is saved and invested.

Bad tax laws also discourage labor. High marginal tax rates penalize people for being productive, and this can be especially counterproductive for entrepreneurship and innovation.

Though we shouldn’t overlook how government discourages low-income people from being productively employed. Only the problem is more on the spending side of the fiscal equation.

In today’s Wall Street Journal, John Early and Phil Gramm share some depressing numbers about growing dependency in the United States.

During the 20 years before the War on Poverty was funded, the portion of the nation living in poverty had dropped to 14.7% from 32.1%. Since 1966, the first year with a significant increase in antipoverty spending, the poverty rate reported by the Census Bureau has been virtually unchanged. …Transfers targeted to low-income families increased in real dollars from an average of $3,070 per person in 1965 to $34,093 in 2016. …Transfers now constitute 84.2% of the disposable income of the poorest quintile of American households and 57.8% of the disposable income of lower-middle-income households. These payments also make up 27.5% of America’s total disposable income.

This massive expansion of redistribution has negatively impacted incentives to work.

The stated goal of the War on Poverty is not just to raise living standards, but also to make America’s poor more self-sufficient and to bring them into the mainstream of the economy. In that effort the war has been an abject failure, increasing dependency and largely severing the bottom fifth of earners from the rewards and responsibilities of work. …The expanding availability of antipoverty transfers has devastated the work effort of poor and lower-middle income families. By 1975 the lowest-earning fifth of families had 24.8% more families with a prime-work age head and no one working than did their middle-income peers. By 2015 this differential had risen to 37.1%. …The War on Poverty has increased dependency and failed in its primary effort to bring poor people into the mainstream of America’s economy and communal life. Government programs replaced deprivation with idleness, stifling human flourishing. It happened just as President Franklin Roosevelt said it would: “The lessons of history,” he said in 1935, “show conclusively that continued dependency upon relief induces a spiritual and moral disintegration fundamentally destructive to the national fiber.”

In another WSJ column on the same topic, Peter Cove reached a similar conclusion.

America doesn’t have a worker shortage; it has a work shortage. The unemployment rate is at a 15-year low, but only 55% of Americans adults 18 to 64 have full-time jobs. Nearly 95 million people have removed themselves entirely from the job market. According to demographer Nicholas Eberstadt, the labor-force participation rate for men 25 to 54 is lower now than it was at the end of the Great Depression. The welfare state is largely to blame. …insisting on work in exchange for social benefits would succeed in reducing dependency. We have the data: Within 10 years of the 1996 reform, the number of Americans in the Temporary Assistance for Needy Families program fell 60%. But no reform is permanent. Under President Obama, federal poverty programs ballooned.

Edward Glaeser produced a similar indictment in an article for City Journal.

In 1967, 95 percent of “prime-age” men between the ages of 25 and 54 worked. During the Great Recession, though, the share of jobless prime-age males rose above 20 percent. Even today, long after the recession officially ended, more than 15 percent of such men aren’t working. …The rise of joblessness—especially among men—is the great American domestic crisis of the twenty-first century. It is a crisis of spirit more than of resources. …Proposed solutions that focus solely on providing material benefits are a false path. Well-meaning social policies—from longer unemployment insurance to more generous disability diagnoses to higher minimum wages—have only worsened the problem; the futility of joblessness won’t be solved with a welfare check. …various programs make joblessness more bearable, at least materially; they also reduce the incentives to find work. …The past decade or so has seen a resurgent progressive focus on inequality—and little concern among progressives about the downsides of discouraging work. …The decision to prioritize equality over employment is particularly puzzling, given that social scientists have repeatedly found that unemployment is the greater evil.

Why work, though, when government pays you not to work?

And that unfortunate cost-benefit analysis is being driven by ever-greater levels of dependency.

Writing for Forbes, Professor Jeffrey Dorfman echoed these findings.

…our current welfare system fails to prepare people to take care of themselves, makes poor people more financially fragile, and creates incentives to remain on welfare forever. …The first failure of government welfare programs is to favor help with current consumption while placing almost no emphasis on job training or anything else that might allow today’s poor people to become self-sufficient in the future. …It is the classic story of giving a man a fish or teaching him how to fish. Government welfare programs hand out lots of fish, but never seem to teach people how to fish for themselves. The problem is not a lack of job training programs, but rather the fact that the job training programs fail to help people. …The third flaw in the government welfare system is the way that benefits phase outs as a recipient’s income increases. …a poor family trying to escape poverty pays an effective marginal tax rate that is considerably higher than a middle class family and higher than or roughly equal to the marginal tax rate of a family in the top one percent.

I like that he also addressed problems such as implicit marginal tax rates and the failure of job-training programs.

Professor Lee Ohanian of the Hoover Institution reinforces the point that the welfare state provides lots of money in ways that stifle personal initiative.

Inequality is not an issue that policy should address. …Society, however, should care about creating economic opportunities for the lowest earners. …a family of four at the poverty level has about $22,300 per year of pre-tax income. Consumption for that same family of four on average, however, is about $44,000 per year, which means that their consumption level is about twice as high as their income. …We’re certainly providing many more resources to low-earning families today. But on the other hand, we have policies in place that either limit economic opportunities for low earners or distort the incentives for those earners to achieve prosperity.

I’ve been citing lots of articles, which might be tedious, so let’s take a break with a video about the welfare state from the American Enterprise Institute.

And if you like videos, here’s my favorite video about the adverse effects of the welfare state.

By the way, it isn’t just libertarians and conservatives who recognize the problem.

Coming from a left-of-center perspective, Catherine Rampell explains in the Washington Post how welfare programs discourage work.

…today’s social safety net discourages poor people from working, or at least from earning more money. …you might qualify for some welfare programs, such as food stamps, housing vouchers, child-care subsidies and Medicaid. But if you get a promotion, or longer hours, or a second job, or otherwise start making more, these benefits will start to evaporate — and sometimes quite abruptly. You can think about this loss of benefits as a kind of extra tax on low-income people. …Americans at or just above the poverty line typically face marginal tax rates of 34 percent. That is, for every additional dollar they earn, they keep only 66 cents. …One in 10 families with earnings close to the poverty line faces a marginal tax rate of at least 65 percent, the CBO found. …You don’t need to be a hardcore conservative to see how this system might make working longer hours, or getting a better job, less attractive than it might otherwise be.

To understand what this means, the Illinois Policy Institute calculated how poor people in the state are trapped in dependency.

The potential sum of welfare benefits can reach $47,894 annually for single-parent households and $41,237 for two-parent households. Welfare benefits will be available to some households earning as much as $74,880 annually. …A single mom has the most resources available to her family when she works full time at a wage of $8.25 to $12 an hour. Disturbingly, taking a pay increase to $18 an hour can leave her with about one-third fewer total resources (net income and government benefits). In order to make work “pay” again, she would need an hourly wage of $38 to mitigate the impact of lost benefits and higher taxes.

Agreeing that there’s a problem does not imply agreement about a solution.

Folks on the left think the solution to high implicit tax rates (i.e., the dependency trap) is to make benefits more widely available. In other words, don’t reduce handouts as income increases.

The other alternative is to make benefits less generous, which will simultaneously reduce implicit tax rates and encourage more work.

I’m sympathetic to the latter approach, but my view is that welfare programs should be designed and financed by state and local governments. We’re far more likely to see innovation as policy makers in different areas experiment with the best ways of preventing serious deprivation while also encouraging self-sufficiency.

I think we’ll find out that benefits should be lower, but maybe we’ll learn in certain cases that benefits should be expanded. But we won’t learn anything so long as there is a one-size-fits-all approach from Washington.

Let’s close with a political observation. A columnist for the New York Times is frustrated that many low-income voters are supporting Republicans because they see how their neighbors are being harmed by dependency.

Parts of the country that depend on the safety-net programs supported by Democrats are increasingly voting for Republicans who favor shredding that net. …The people in these communities who are voting Republican in larger proportions are those who are a notch or two up the economic ladder — the sheriff’s deputy, the teacher, the highway worker, the motel clerk, the gas station owner and the coal miner. And their growing allegiance to the Republicans is, in part, a reaction against what they perceive, among those below them on the economic ladder, as a growing dependency on the safety net, the most visible manifestation of downward mobility in their declining towns. …I’ve heard variations on this theme all over the country: people railing against the guy across the street who is collecting disability payments but is well enough to go fishing, the families using their food assistance to indulge in steaks.

It’s not my role to pontificate about politics, so I won’t address that part of the column. But I will say that I’ve also found that hostility to welfare is strongest among those who have first-hand knowledge of how dependency hurts people.

P.S. If you want evidence for why Washington should get out of the business of income redistribution, check out this visual depiction of the welfare state.

P.S. The Canadians can teach us some good lessons about welfare reform.

P.P.S. The Nordic nations also provide valuable lessons, at least from the don’t-do-this perspective.

P.P.P.S. Last but not least, there’s a Laffer-type relationship between welfare spending and poverty.

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I’m happy to discuss theory when debating economic policy, but I mostly focus on real-world evidence.

That’s because my friends on the left always have a hard time answering my two-question challenge, which simply asks them to name one success story for big government.

They usually point to Sweden and Denmark, but get discouraged when I point out that those nations became rich when government was relatively small.

And I’m embarrassed to admit that some of my fellow economists once thought that communist nations grew faster than capitalist nations.

But let’s not digress. I raise this topic because there are many critics of capitalism who admit that free markets generate more wealth, but they assert that society would be better off if incomes were lower so long as rich people suffered more than poor people.

This strikes me as morally poisonous. But it also gives me an opportunity to cite a new study from the International Monetary Fund that allows us to further analyze this issue.

The IMF report starts by noting that globalization (free trade, liberalization, etc) has been good for global prosperity.

Over the course of the last decades the world economy has witnessed rapid integration. Most countries have opened up their economies and experienced an unprecedented rise in the flow of goods and capital across borders. This phenomenon – now widely known as economic globalization – was coincident with rising living standards in a large number of countries. Many developing countries have experienced episodes of strong economic growth and substantial poverty reduction as they integrated their economies with the rest of the world.

Sounds like good news, right?

It is good news, but those who fixate on inequality are worried.

…while globalization might on average be good for growth, more might not always be better for all. …When we shift the analysis to how income gains from globalization are distributed within countries, we also find globalization to have different effects on different incomes…gains are, however, distributed unequally both across and within countries. …Within countries, income inequality increases as a consequence of globalization. The income gains resulting from globalization tend to go primarily to the top of the national income distributions.

In other words, rich people are getting richer at a faster pace.

This phenomenon is captured in these two charts, which show that globalization is associated with more growth and more inequality.

But what’s important is that poor people also are getting richer.

In the subsample of developing countries where the gains from globalization are generally larger, however, they also reach the bottom of the income distribution and reduce poverty. … We find…some evidence of a poverty reducing effect of globalization in developing countries.

Consider, for example, the remarkable data I shared about China. Income inequality increased at the same time that poverty dramatically declined.

And those results seem to hold for the rest of the world, especially in developing nations.

So now let’s look at the most important chart from the IMF study, which shows that all income groups enjoy more prosperity with globalization.

Yes, rich people benefit the most, so official inequality numbers will increase.

But put yourself in the shoes of a poor person. Would you be willing to forego your additional income in order to deny additional income for a rich person? I suspect the vast majority of poor people would think that’s a crazy question.

But, as Margaret Thatcher pointed out, there are plenty of folks on the left who think that’s a perfectly reasonable position. Including, incidentally, some of the people at the IMF.

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I’ve repeatedly argued that faster growth is the only effective way of helping the less fortunate.

Class warfare and redistribution, by contrast, are not effective. Such policies are based on the fallacy that the economy is a fixed pie, and proponents of this view fixate on inequality because they mistakenly believe that additional income for the rich means less income for the poor.

Today, let’s look at some numbers that prove that a fixation on inequality is misguided. The Census Bureau this week released its annual report on Income and Poverty in the United States. That publication includes data (Table A-2) showing annual inflation-adjusted earnings by income quintile between 1967-2017.

To see if my left-leaning friends are right about the rich getting richer at the expense of the poor, I calculated the annual percent change for each quintile. Lo and behold, the data actually show that there’s a very clear pattern showing how all income quintiles tend to rise and fall together.

The lesson from this data is clear. If you want policies that help the poor, those also will be policies that help the middle class and rich.

And if you hate the rich, you need to realize that policies hurting them will almost certainly hurt the less fortunate as well.

One other lesson is that all income quintiles did particularly well during the 1980s and 1990s when free-market policies prevailed.

P.S. Many people (including on the left) have pointed out that the Census Bureau’s numbers under-count compensation because fringe benefits such as healthcare are excluded. This is a very legitimate complaint, but it doesn’t change the fact that all income quintiles tend to rise and fall together. For what it’s worth, adding other forms of compensation would boost lower quintiles compared to higher quintiles.

P.P.S. Here’s an interesting video from Pew Research showing how the middle class has become more prosperous over the past few decades.

P.P.P.S. The Census Bureau’s report also has the latest data on poverty. The good news is that the poverty rate fell. The bad news is that long-run progress ground to a halt once the federal government launched the ill-fated War on Poverty.

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Last September, I shared some very encouraging data showing how extreme poverty dramatically has declined in the developing world.

And I noted that this progress happened during a time when the “Washington Consensus” was resulting in “neoliberal” policies (meaning “classical liberal“) in those nations (confirmed by data from Economic Freedom of the World).

In other words, pro-market policies were the recipe for poverty reduction, not foreign aid or big government.

Sadly, the Washington Consensus has been supplanted. Bureaucracies such as the International Monetary Fund, the United Nations, and the Organization for Economic Cooperation and Development are now pushing a statist agenda based on the bizarre theory that higher taxes and more spending somehow produce prosperity.

To add insult to injury, some people now want to rewrite history and argue that free markets don’t deserve credit for the poverty reduction that already has occurred.

Esteban Ortiz-Ospina, writing for Our World in Data, wants readers to conclude that redistribution programs deserve credit.

…the share of people living in extreme poverty around the world has fallen continuously over the last two centuries. …many often say that globalization in the form of ‘free-market capitalism’ is the main force to be thanked for such remarkable historical achievement. …this focus on ‘free-market capitalism’ alone is misguided. …Governments around the world have dramatically increased their potential to collect revenues in order to redistribute resources through social transfers… The reach of governments has grown substantially over the last century: the share of total output that governments control is much larger today than a century ago.

And for evidence, Mr. Ortiz-Ospina included this chart.

I shared a version of this data back in June, asserting that the explosion of social welfare spending made this “the western world’s most depressing chart.”

So does Ortiz-Ospina have a compelling argument? Does poverty go down as welfare spending goes up?

Nope. Johan Norberg points out that there is a gaping flaw in this argument. An enormous, gigantic hole.

Wow. This isn’t just a flaw. It’s malpractice. It’s absurd to argue that welfare spending in developed nations somehow led to poverty reduction in developing countries.

I hope Mr. Ortiz-Ospina is just an inexperienced intern, because if he really understands the data, one might be forced to conclude that he’s dishonest.

But let’s set that issue aside. Johan closes his video by explaining that poverty in rich nations declined before modern welfare states. I want to expand on that point.

Johan cited Martin Ravallion, so I tracked down his work. And here’s the chart he put together, which I’ve modified to show (outlined in red) that extreme poverty basically disappeared between 1820 and 1930.

And guess what?

That was the period when there was no welfare state. Not only is that apparent from Our World in Data, it’s also what we see in Vito Tanzi’s numbers.

Here’s Tanzi’s table, which I first shared five years ago. And I’ve circled in red the 1880-1930 data to underscore that there was virtually no redistribution during the years poverty was declining.

The bottom line is that poverty in the western world fell during the period of small government. Yet some people want to put the cart before the horse. They’re making the absurd argument that post-1950s welfare spending somehow reduced poverty before the 1930s.

That’s as absurd as Paul Krugman blaming a 2008 recession in Estonia on spending cuts that took place in 2009.

P.S. For those who want U.S.-specific data, it’s worth noting that dramatic reductions in American poverty all occurred before Washington launched the so-called “War on Poverty.”

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When I argue against tax increases, I generally rely on two compelling points.

  1. Higher taxes will undermine prosperity by penalizing productive behavior.
  2. More money for politicians will trigger more spending, so red ink will increase.

When I argue against centralization and urge Swiss-style federalism, I also rely on two very strong points.

  1. Local governments will be more responsible if they raise and spend their own funds.
  2. Competition among local jurisdictions will encourage better public policy.

Now let’s mix these issues together by looking at some academic research on what happens when politicians get a windfall of revenue from a  centralized source.

Well, according to new research from Italy’s central bank, bigger government means more corruption.

…large financial transfers from a central unit of government to lower levels of government…come with the risk of exacerbating the agency problem due to the fact that the funds are collected at a higher level and then managed locally with typically little transparency on the actual amount of resources received by each local area. This moral hazard problem may increase incentives for local administrators to extract rents from the funds received. …growing evidence suggests that illegal practices and rent seeking are still often associated with the receipt of transfers from a central government. …we investigate the relationship between financial transfers from a central level of government to local administrations and the coincident occurrence of white collar crimes at the same local level drawing from the case of EU funding to Southern Italy. …The South of Italy has been one of the largest recipients of EU funds: in the most recent programming period it received 25 billion euro out of the 35 billion total allocated to Italy and managed at the local level. The empirical analysis exploits a unique administrative dataset of criminal episodes in Italy and matches them to the records of all the transfers from the EU to each single municipality over the period 2007-2014. We find evidence of a significant positive relationship between EU funds and the occurrence of corruption and fraudulent behaviors in the recipient municipality in the same year. …the robustness analysis we performed provided evidence that the correlation between transfers and corruption that we estimate is likely not just spurious or due to confounding effects

As far as I’m concerned, these results belong in the “least surprising” category. Of course you get more corruption when government gets bigger.

Now let’s look at another study. A few years ago, academic scholars produced even more compelling research from Brazil.

The paper studies the effect of additional government revenues on political corruption and on the quality of politicians, both with theory and data. The theory is based on a version of the career concerns model of political agency with endogenous entry of political candidates. The evidence refers to municipalities in Brazil, where federal transfers to municipal governments change exogenously according to given population thresholds. We exploit a regression discontinuity design to test the implications of the theory and identify the causal effect of larger federal transfers on political corruption and the observed features of political candidates at the municipal level. In accordance with the predictions of the theory, we find that larger transfers increase political corruption and reduce the quality of candidates for mayor. …The empirical findings accord well with the implications of the theory. Specifically, an (exogenous) increase in federal transfers by 10% raises the incidence of a broad measure of corruption by 12 percentage points (about 17% with respect to the average incidence), and the incidence of a more restrictive measure—including only severe violation episodes—by 10.1 percentage points (about 24%).

By the way, this persuasive research isn’t just an argument for smaller government and fewer transfers.

It’s also why foreign aid generally has harmful effects on recipient countries. Handouts line the pockets of the political elite and enable a bigger burden of government.

It’s also one of the reasons why I’ve referred to the International Monetary Fund as a “dumpster fire.” That bureaucracy leverages its money (the U.S. is the biggest backer) to encourage higher tax burdens and more redistribution in countries that already are suffering from too much bad policy.

The two studies we’ve reviewed today are simply an exclamation point.

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Last week, I shared a graph showing that there are more guns than people in the United States, and I wrote that it was the “most enjoyable” chart of the year, mostly because it gets my leftist friends so agitated.

But I’m more likely to share gloomy visuals.

  • The “most depressing” chart about Denmark, which shows a majority of the population lives off government.
  • A “very depressing” chart about the United States, which shows how big business profits from cronyism.
  • The “most depressing” chart about Japan, which shows that the tax burden has nearly doubled since 1965.

Now it’s time to add to that list. There’s a website called “Our World in Data,” which is a great resource if you’re a policy wonk who likes numbers. But some numbers are quite depressing.

For instance,if you peruse the “public spending” page, you’ll find a chart showing the dramatic expansion of redistribution spending as a share of economic output.

These numbers are very similar to the table I shared from Vito Tanzi back in 2013, which isn’t surprising since Professor Peter Lindert is the underlying source for both sets of data.

While the above chart is depressing to a libertarian, it’s nonetheless instructive because it confirms my argument that the western world became rich when government was very small and redistribution was tiny or even nonexistent.

For instance, nations in North America and Western Europe largely made the transition from agricultural poverty to middle-class prosperity during the “golden century” between the Napoleanic wars and World War I. And that was a period when redistribution spending basically didn’t exist and most nations didn’t even have income taxes (the U.S. didn’t make that mistake until 1913).

And even as recently as 1960, welfare states were very small compared to their current size. Indeed, redistribution spending in western nations averaged only about 10 percent of economic output, about half the size of today’s supposedly miserly American welfare state.

These points are important because some folks on the left misinterpret Wagner’s Law and actually try to argue that bigger government is good for growth.

P.S. South Korea has been a great success story for the past five decades, but that redistribution trendline is very worrisome.

P.P.S. The trendline for Greece helps to explain why that nation is bankrupt.

P.P.P.S. The chart shows that Canada is better than the United States, though that may not last since Canada’s current Prime Minister is seeking to undermine his nation’s competitive advantage.

P.P.P.P.S. While fiscal trends in the western world have been unfavorable, that bad news has been offset by positive trends for trade liberalization. Whether we see a big step backwards because of Trump remains to be seen.

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I’m a big believer that some images do a great job of capturing an issue.

Speaking of socialism, let’s look at some more images that reveal the essence of that bankrupt ideology.

Here’s a cartoon from Libertarian Reddit that does a great job of showing the real difference between capitalism and socialism.

Perfectly stated. Reminds me of the insights offered by Thatcher and Churchill.

Sadly, if you provide the statists with real-world evidence, many of them still prefer the world in top-right frame rather than the bottom-right frame.

Heck, the IMF actually publishes studies supporting equal levels of poverty.

As you might suspect, there are plenty of socialists who enjoy the benefits of capitalism while urging statism for everyone else. Think, for instance, about all the leftists who use tax havens.

Or this hipster millennial.

Maybe he could have a ménage à trois with Pajama Boy and Julia? Though only if everyone is guaranteed equal levels of disappointment.

Next is a helpful reminder from Bernie Sanders about the very thin line between socialism and communism.

Though I’m not sure there’s a meaningful difference.

Last but not least, this gem from Libertarian Reddit appealed to my juvenile sense of humor.

Basically the same message you find in the last item in this collection of socialism humor.

P.S. Here’s my two-part series (here and here) on the bizarre allure of socialism.

P.P.S. For additional examples of socialism humor, click here, here, here, here, and here.

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