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December 9, 2007

Tax and Transfer Programs Reduce Poverty

Steven Pearlstein on poverty:

On Poverty, Maybe We're All Wrong, by Steven Pearlstein, Commentary, Washington Post: ...As it happens, each spring the Census Bureau gets around to computing an alternative after-tax measure of disposable income that includes ... various tax and transfer programs... This supplemental report gets little attention, but the adjustments are ... significant. In 2005, for example, they dropped the poverty rate from 12.6 percent to 10.3 percent, with the biggest improvement coming in a four-percentage-point reduction in child poverty.

At the same time, these revisions help put the lie to the right-wing conceit that government tax and transfer policies only make poverty worse. Conservatives are left to fall back on the argument that government handouts and social insurance programs, while appearing to lift some out of poverty, have created a permanent underclass by discouraging work and thrift and fostering a culture of dependence.

Much better, conservatives say, to do away with all those patronizing and inefficient social welfare schemes that create perverse incentives and "empower" the poor to act in their own best interest using the same traditional market mechanisms as everyone else.

The best refutation of this argument that I've seen in a long time is contained in a new book, "The Persistence of Poverty," by ... Charles "Buddy" Karelis ... at George Washington University. Karelis isn't an economist or social welfare expert but a philosopher... And after doing lots of reading and giving it extensive thought, Karelis concluded that the reason ... the poor are poor is that they are more likely to not finish school, not work, not save, and get hooked on drugs and alcohol and run afoul of the law. Liberals tend to blame it on history (slavery) or lack of opportunity (poor schools, discrimination), while conservatives blame government (welfare) and personal failings (lack of discipline), but both sides agree that these behaviors are so contrary to self-interest that they must be irrational.

After all, the reason we study, work, save and generally behave ourselves is that these behaviors allow us to earn more money, and more money will improve our lives. And, by logic, that must be particularly true of the poor, for whom each extra dollar to be earned or saved for a rainy day is surely more valuable than it is for, say, Bill Gates. ...

But what if this iron law of economics is wrong? What if it doesn't apply at every point along the income scale? If you and everyone around you are desperately poor, maybe it's perfectly rational to think that an extra dollar or two won't make much of a difference in reducing your misery. Or that you won't be able to "study" your way out of the ghetto. Or that if you find a $100 bill on the street, maybe it's logical to blow it on one great night on the town rather than portion it out a dollar a day for 100 days.

On the other hand, maybe the point at which people are most willing to work hard, save and play by the rules isn't when they are very poor, or very rich, but in the neighborhoods on either side of ... a motivational sweet spot that, in statistical terms, might be defined as between 50 percent ($24,000) and 200 percent ($96,000) of median household income. And if that is so, then maybe the best way to break the cycle of poverty is to raise the hopes and expectations of the poor by putting them closer to the goal line.

Admittedly, this is only a theory, supported by logic and anecdote. But if Karelis is right, it could provide a solid economic argument to replace the old moral ones for spending more money on programs like food stamps, subsidized child care and the earned income tax credit...

Do we need new arguments? I can come up with economic arguments to justify intervention as it is (e.g. market failures), so we don't have to rely on purely normative arguments. And whether the model is true or not, I don't see how it changes the morality anyway. All it does is change the shape of a function to something resembling an inverted u-shape. That is, it doesn't say the government should intervene, it only specifies the form of the intervention should the government wish to do so.

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