Diogenes of NY

Why Most Government Antipoverty Programs Aren't Effective

In Part 1 Diogenes discussed in economic terms what it means to be poor in America and reviewed federal programs for those in need. After 50 years of effort and spending at a rate of about $600 billion/year, more Americans are poor than when the programs began. An old adage states that “insanity is repeating the same mistakes and expecting different results.” Here we will look at a policy alternative to current approaches.

The primary reason for the failure of governmental poverty programs is an “agency problem.” The antipoverty bureaucracy has itself often become an impediment to those who would try to climb out of poverty because of disincentives for working. We have agencies that try to insure that those receiving aid it use it for “correct” purposes (milk, not beer).  Such attempts always fail because nobody spends somebody else’s money as carefully as their own. And then there is the cost of the agency. For example, the food stamps program (SNAP) has program costs of about 12%.

Add in waste and poor management, and today America cumulatively spends more on poverty programs than it would cost to raise the income of every American above the poverty level. Even assuming NO income for the 46.2 million Americans in poverty, and multiplying by the $11,170 per capita that is the level below which per capita poverty is defined, would cost about $514 billion. The costs would be considerably less if we gave this aid on a household income basis.

The only enduring cure for poverty is increasing production of goods and services which result in greater demand for labor, because ultimately jobs are needed to pull people out of poverty no matter how good government antipoverty programs are. In other words, free markets are the ultimate antipoverty programs.

What We Should Do

Diogenes believes that America should implement a Guaranteed Minimum Income (GMI). Also known as a Negative Income Tax (NIT), a GMI would provide baseline support to which all would be entitled. Diogenes would define this as the federally defined household income poverty level of $23,050 for a family of four, plus $1. Adjustments up or down would be made for additional children and for each state’s cost of living.  The GMI would be implemented through the tax code utilizing IRS infrastructure.

The GMI is not a new idea. Milton Friedman advocated for a NIT in the early 1960s. Legislation was first proposed during the Nixon administration, and had support from both liberals and conservatives along with a long list of recipients of Nobel Prizes in Economics and other economists, but ultimately did not pass Congress.

Almost all other antipoverty programs should be phased out in order to pay for the GMI. The GMI would be far more efficient than welfare, food stamps, subsidized housing, unemployment benefits, and the 47 different federal job training programs. The GMI should be progressively phased out at a rate of 50% reduction of benefits per dollar of income, so as to incentivize Americans to find any sort of work at any wage.

The GMI would also necessitate a repeal of minimum wage laws, as all workers would already be guaranteed a base income just above the poverty level. Any work income would incrementally reduce government assistance even as the workers’ household income rose to median levels. Reducing the costs of unskilled labor would encourage business to hire more workers, providing crucial entry level jobs that are priced away with existing minimum wage laws.

At first blush, the move to a GMI might appear to be a radical shift away from the status quo. However, the GMI would be a dramatic expansion of perhaps the single most efficacious federal antipoverty program, the Earned Income Tax Credit (EITC). Congress first implemented the EITC in 1975 to offset the burden of social security taxes for the working poor, in order to provide greater incentive to work. When the EITC exceeds the amount of taxes owed, it results in a tax refund to those who claim and qualify for the credit. According to the IRS, the total cost of the EITC was $61 billion in 2011, and program costs were less than 1%. It helped move 6.6 million Americans, half of them children, out of poverty. In 2013, the maximum credit to a married couple filing jointly with three children is $6,044. The credit phases out as income increases to about the national median income level.

Why This Hasn’t Been Done Before

Diogenes proposes to dramatically expand the single best program we have and replace lots of programs that do not work. The incremental cost would be nothing because the change would redirect current antipoverty funding. And if the program succeeds, it’s cost would decline. So who would disagree? For starters, the entire federal antipoverty bureaucracy who would lose their jobs. Unlike the private sector, government is rarely reorganized when the results yield fewer jobs.

Historically, government antipoverty programs have seemed reluctant to give cash aid to the poor. For example, food stamps have value restricted to consumable products excluding alcohol, as if aid recipients didn’t know how to spend what funds they have. The moral legitimization of the welfare system requires that recipients use aid to support lifestyles that comport in some rough sense with the idea of a good life held by taxpayers who provide the funds. In the minds of many, it’s one thing to provide a safety net, and another to support those who just don’t want to work. The counter argument is that by keeping a GMI at a less than “comfortable” level for able bodied Americans, incentives to work would dramatically increase.

Others might argue that there are other problems with a GMI:

• The incentive to work is reduced, however marginally, by providing any level of guaranteed income.
• If government lowers the minimum guaranteed level below an absolute safety net, we don’t fulfill our societal imperative to provide for all who are unable, for whatever reason, to provide for themselves.
• By having only a gradual phaseout of support as income grows, we invariably will pay (some) benefits to those above the poverty level.
• Whatever the initial level of a GMI, politicians will continue to raise the amount until it eventually bankrupts us. Just look at Social Security, welfare and the Income Tax for examples.

The rebuttal to these arguments is that living at the no work GMI base level is pretty tough in America. No one would want that kind of life if they could reasonably easily augment it. Raising lower than median incomes to the median level (about $51,000 for a family of four), would be an excellent use of American resources. Because of income inequality, this measure is far below the mean income, and we are already spending at the cost of a GMI with far less effective programs. A limit to future spending largesse could be enshrined in the legislation by defining the base income to $1 over the poverty level and by pegging the phaseout of the GMI to an upper limit just below the median income.

A GMI would not be a perfect program, but the perfect is not to be found. It would be a significant improvement over current antipoverty programs and would not cost taxpayers a dime. Isn’t that something virtually everyone wants?

What does it mean to be poor in America?

There are many ways of defining poverty. For most of recorded history, man’s basic needs were food, clothing and shelter. In recent generations, we have included access to clean water, sanitation, health care and education. Poverty can also mean a relative lack of material goods or money, so that in every “free society” (where inequality in income to some extent reflects inequality in ability and effort)  some portion of the population will be considered poor.

We can also define poverty in overtly economic terms. The federal poverty threshold is $11,722 in annual income for an individual, and $23,497 for a family of four, which is about 44% of mean income for an individual and 30% of the mean for a family of four. The economic definition of poverty has changed over time, but real wage growth in the 1960s caused the poverty rate to fall from about 20% in the 1950s to around 15% of our citizens today.

A hundred years ago, having enough food to eat meant that you weren’t poor in most places. In most wealthy countries, death by starvation is already very rare. Poor Americans today are not likely to be starving, though malnutrition remains a scourge. Many live in households that have a refrigerator, a washing machine, a high definition TV with cable , an XBox and a cellular phone. In fact, the electronic gadgets used by our poor are not substantially different than those employed by the wealthiest Americans. Overall, the quantities and qualities of what ordinary Americans consume are closer to that of rich Americans than they were in decades past despite growing income disparities between the wealthy and the poor.

The inflation-adjusted hourly wage hasn’t changed much in 50 years. Still, it is unlikely that an average American, even one living in poverty, would trade his wages and benefits in 2013—along with access to the most affordable food, appliances, clothing and cars in history, plus today’s cornucopia of modern electronic goods—for the same real wages but with much lower benefits in the 1950s or 1970s, along with those era’s higher prices, more limited selection, and inferior products.

Is it better to be poor here than elsewhere?

Poverty tends to be defined in the relative sense. The poorest 5-10% of a population would probably be considered poor in any society, but to the extent that “fairness” in a society is defined as less disparity between rich and poor, a higher percent of US citizens would be considered poor than in most other developed countries. The OECD, a rich-country club, provides comparative figures for a poverty line of 40% of median household income after tax and transfer. On that basis America’s rate is 11%, well above the OECD average of 6%.

Another way to define poverty is in an absolute sense rather than a relative one. The World Bank estimates that “extreme absolute poverty” is living on somewhere between $1-2/day/person depending on where one lives. Few Americans are this unfortunate, but something like 20% of the world’s population are subject to these conditions, so most poor Americans could be considered “not poor” in most of the world.

Are federal anti-poverty programs working?

Federal programs to reduce poverty in America trace their origins to FDR and the New Deal in the 1930s, though what most Americans would identify as specific anti-poverty programs were begun in 1964 with LBJ’s Economic Opportunity Act which came to be known as the “war on poverty”. Today, there are more than 120 different federal anti-poverty programs. The major ones are Medicaid, unemployment insurance, food stamps and welfare, ans our government spends about as much on these programs as it does on defense. And yet, almost 50 years later, and despite about $13 trillion dollars spent, the rate of poverty and the total number of Americans living in poverty has not been significantly reduced.

“…the federal government spent more than $591 billion in 2009 on means-tested or anti-poverty programs, and will undoubtedly spend even more this year. That amounts to $14,849 for every poor man, woman and child in America. Given that the poverty line is just $10,830 (in 2009), we could have mailed every poor person in America a check big enough to lift them out of poverty – and still saved money.”  M.D.Tanner, NY Times, 9/16/2010

In general, the liberal left’s approach to social policy is to shield people from the American economy, while conservatives’ approach must be to enable them to enjoy its benefits—to enable people to move up rather than to make them more secure in poverty. Some call for a wholesale rethinking of antipoverty programs.

“The bottom 20% in America are not stuck because their welfare support is insufficient. It is because these cultural institutions are not helping them lead the lives they deserve. Volumes of research have shown that Great Society welfare policies—such as public housing and aid to families with dependent children—fueled family dissolution, community fragmentation, generational joblessness and government dependency. Many … welfare and redistribution policies are encouraging a return to these conditions.” Arthur Brooks, WSJ, 10/8/12

Some might argue that one of the causes of persistently large numbers of Americans living in poverty is that economic mobility constantly moves some of our citizens out of poverty even as others descend into poverty from the middle class. This notion of being able to move from rags to riches in a generation is a fundamental plank of the American Dream. Unfortunately, Americans’ perceptions about their likelihood of changing position in the income distribution may be exaggerated. Those within the three middle quintiles (the middle class) will, statistically, experience some economic mobility. But according to a study by the Pew Economic Mobility Project, 43 percent of children whose parents were born in the bottom quintile remained at the bottom when they became adults. In contrast, 40 percent of children born to parents at the top quintile were also at the top as adults. The study compared inter-generational mobility rates between 1984 to 1994 and 1994 to 2004. In addition, contrary to public perceptions, social mobility in the US is less than in Europe.

What to do?

As a nation, it is dangerous to our social fabric to have created a semi-permanent underclass living in poverty. Spending more on poverty programs does not appear realistic now, especially in fiscally austere times. We need to make sure the programs we do have create incentives to replace handouts with wages, even as we strive to close the opportunity gap through better education for all. The best solutions are complex and to be found through a mix of policies including education reforms and revamping the tax code.

Most Americans, regardless of their political leanings, desire a strong safety net for all citizens. Americans living in poverty do not have comfortable or easy lives, and taking advantage of available programs is incredibly time consuming, even as it is dispiriting. Permanent solutions are to be found not in more funding or more programs, but from economic growth that fuels demand for more employees at higher real wages.

What is the Fed?

The Federal Reserve Bank System is a unique hybrid public-private bank network whose 12 district members are owned by local banks and regulated by a 7-person Board of Governors, each of whom are appointed for one 14-year term by the White House. It was created in 1913 and amended in 1935 primarily to use monetary policy to deal with cyclical bank panics. Congress established three key objectives for monetary policy in the Federal Reserve Act:

• maximum employment

• price stability

• moderate long-term interest rates

The private banks give input to the government officials about their economic situation and these government officials use this input in Federal Reserve Board policy decisions.

How does the Fed employ monetary policy?

Monetary policy should ideally be used in conjunction with fiscal policy as a means to achieve desired national economic objectives. In America monetary and fiscal policies mostly are independent of each other. Congress and our President have led America to the brink of a “fiscal cliff”, and no comprehensive fiscal policy reform seems likely in the near term. This state of affairs has thrust the Federal Reserve Board, and its Chairman Ben Bernanke, to the forefront as the savior/enabler of today’s American macro economic policy.

The primary tools of the Federal Reserve Board are:

• to set bank reserve requirements

• to set the discount rate for interest paid by the Fed on bank reserves

• to conduct Open Market Operations that seek to influence the Fed Funds rate (that is paid by banks to each other for short term borrowings) via open purchases and sales of US Treasury and federal agency securities

Minutes of the regular meetings of the Fed’s Open Market Committee (FOMC) are widely published by the media in order to inform business and banking leaders about probable Fed actions. The Fed has said it doesn’t expect to touch short-term rates until it sees the unemployment rate fall to 6.5% or lower, as long as inflation forecasts remain near its 2% target. That would mean, according to the Fed’s economic projections, that it would keep short-term rates near zero into 2015.

” In case there was any doubt about its resolve, the Fed statement also issued a new implicit annual inflation target: 2.5%. The official target is still 2%. But the Open Market Committee stated that it will keep interest rates near zero, and by implication keep buying bonds, as long as the jobless rate stays above 6.5% and inflation stays no more than a half-percentage point above the Committee’s 2-percent longer-run goal…That is a 2.5% inflation target by any other name, and it’s striking to see a central bank in the post-Paul Volcker era say overtly that it wants more inflation.”  WSJ, 12/12/12 “The Fed’s Contradiction”

Many economists think we have to inflate our way out of the debt crisis. Inflation remains quiescent, but central banks that ask for more inflation likely get it. The Fed is now buying about 70% of new long-term Treasury debt, and when you add “QE3” debt purchases, it appears to be well on its way to monetizing not only the deficit, but also a large chunk of the accumulated federal debt.

Why do the Fed’s policies matter?

Fed policy continues to punish thrift and reward irresponsible debtors. A 2.5% inflation rate and interest rates on deposits near zero compounded diminishes the real value of saving by 1/2 over only 28 years even absent any income or taxes. This is a tax on our middle class. Benefits for those receiving government benefits will be indexed to a CPI. The rich can make investments in hedge funds, private equity and other vehicles that can earn better than inflation adjusted returns after taxes. It is those who have long worked and saved who will pay these penalties.

By keeping interest rates ultra low, central banks including the Federal Reserve may have likely created a ticking time-bomb for investors in the bond market. The risk is that the many retail (middle class) investors who sought safety in bonds don’t fully understand the losses they will face if there is a sustained economic recovery and yields start to rise.

The Fed’s near-zero interest rate policy will continue to disguise the real cost of government borrowing. One reason the Obama Administration can keep running trillion-dollar deficits is because it can borrow the money at bargain rates courtesy of the Fed. Each 1% increase in rates on a $16 trillion federal debt is $160 billion per year, and those increases must begin sooner or later.

For the past four years the Fed has maintained expansionary and unconventional policies and we are told there is still no end in sight. Mr. Bernanke famously failed to predict the 2008 monetary crisis, and then was slow to react (although he did so effectively). Now we are supposed to believe he will know when to pull the ripcord on growing his balance sheet. The Fed and Mr. Bernanke may well be geniuses and get it all just right this time, but Diogenes is not optimistic that this will happen.

Hostess Brands, makers of Twinkies, Wonder Bread and many other relatively “junkie” foods, filed Chapter 7 bankruptcy liquidation papers recently. The company had revenues of nearly $3 billion, and was bought and sold by private equity funds twice in the last 10 years. After loading the company up with debt, Hostess twice filed for Chapter 11 bankruptcy in order to restructure. Six different management teams in the last eight years, each presumably more highly compensated than its predecessor, failed to change the company’s product offerings to respond to the market’s demand for healthier products.

The liquidation was triggered by a nationwide strike by the 5,600 employees who were members of the Bakery, Confectionery, Tobacco Workers and Grain Millers Union (BCTWG). 92% of that union’s employees rejected a new collective-bargaining proposal in September. The company’s offer included an 8% wage cut in the first year, a 17% increase in employee health-care costs and changes to workers’ pension plans that could have reduced payouts. Hostess long had said it couldn’t survive without cutting labor costs, even as it enraged workers by increasing top executives’ pay by 60% earlier this year. In a move reminiscent of Russian Roulette, the bakers union workers essentially pulled the trigger for all of the company’s workers…and lost.

Teamsters, which with 6800 employee members was the company’s largest union, narrowly voted to accept the company’s proposed deal. Teamster President Jimmy Hoffa said his team “switched gears” from trying to preserve all 18,000 Hostess jobs, a prospect he viewed as “off the table,” and instead was trying to drum up buyers for “bits and pieces” of the business.  Average pay for union workers was $16 an hour for the bakers and $20 an hour for the Teamsters. Frank Hurt, President of the BCTWG, called the company’s proposed 8% wage cuts “draconian” even as his members received 100% wage cuts from loss of their jobs. For this inspired leadership, he is paid about $250,000/year.

Hostess Chief Executive Gregory Rayburn had a different vision of how the bankruptcy auction process would play out. “Nobody wants to have anything to do with these old plants or these unions or these contracts,” Mr. Rayburn said. The company had hunted for buyers for the last several years as it tried to avoid a second trip into bankruptcy, but no buyer came forward. Potential buyers have made clear that their interest partly is because a liquidated Hostess would be free of its collective-bargaining agreements. A buyer might yet pick up a few of Hostess’s plants. Alternatively, the union(s) can now buy the assets in bankruptcy and reconstitute the company as a workers paradise without management sucking out all the benefits.