On Welfare Traps
A welfare trap is a situation in which the income (wages plus government benefits) of an individual on welfare remains the same or actually decreases if that individual starts to earn higher wages but loses some or all of his government benefits. For example, if a particular government program provides $5k in benefits for individuals earning $30k or less, an individual who earns $29k in wages has a higher income ($34k) than another individual who earns, say, $32k in wages. Obviously, this creates a perverse incentive for individuals on welfare to avoid work or higher-paying work (which, to first order, is more productive and generates more wealth) since they have the same or even higher income by not working and/or being less productive. This perverse incentive exists even for otherwise well-motivated individuals on welfare (i.e. people who are not simply lazy “moochers”). Moreover, for all the talk that the “rich” should “pay their fair share” there is no rational definition of “fair” whereby a person on welfare doing little or no work has more income than a more productive person earning higher wages.
Unfortunately, all the focus on “fairness” in the U.S. tax code has nonetheless ignored the fact that there do exist significant welfare traps in America. Zero Hedge found a presentation by Pennsylvania Secretary of Public Welfare Gary Alexander with some clear (and disturbing) graphics that highlight these welfare traps. One such graphic is:
The plot is of income (welfare benefits + wages) as a function of wages. The dark blue bars indicate contribution to the net (after-tax) income of an individual due to earned income alone. The bars of other colors indicate the contribution to a person’s net income of various welfare programs.
There are two ways to look at this plot. The first is to follow the net income (vertical axis) as wages (horizontal axis) increase slightly. For the most part a small increase in wages results in a small increase in net income, but in several places and in a variety of situations net income decreases significantly as wages increase slightly. For example, a person who earns $29k and qualifies for all benefits has net income of about $57.3k, but if that person increases his or her wages to $31k then net income falls below $50k. Consequently, a person who earns $29k and qualifies for all benefits is discouraged from earning higher wages by a loss of over $7k in net income — even if that person is a hard-working and motivated individual trying to earn a better life for his or her children. Every case in the plot in which net income suddenly decreases like this is a welfare trap, and every such welfare trap hurts the economy since it discourages people from being more productive and earning more.
The second way to look at the plot is to compare points where net income is the same for different earned incomes. The one highlighted in the plot shows that a person earning $29k and who qualifies for all benefits has the same net income as someone who qualifies for no benefits but earns $69k. There is also a case where someone earning only $9k and who qualifies for all benefits has the same net income (about $54k) as someone who qualifies for no benefits but earns about $64k, although at least in this case the person earning only $9k has somewhat of an incentive to earn more since he or she only needs to earn $15k to increase his or her net income. This situation is not “fair” under any reasonable definition of “fair”, which reveals that the left’s complaint that the “rich” don’t pay their “fair share” of taxes* is either a red herring (i.e. they aren’t concerned about fairness and just want to soak the “rich”) or (naively?) selective. Leftists would undoubtedly seek to flatten the net income curve by raising the means test thresholds and thereby increase the net income of those earning between $30k and $69k, but if $42k (the minimum net income on the plot) is sufficient for people earning $44k then $42k is sufficient for everyone earning less than $44k and benefits can be reduced. The savings from such a benefit reduction could be used to slightly increase the net income of the poor slobs earning too much to qualify for benefits but not enough that their net income is higher than those who do, or — even better — reduce our deficits and debts (the federal government alone has been running deficits greater than $1 trillion in recent years, and has a total debt greater than $16 trillion and greater than the U.S. GDP).
Welfare traps such as the ones in the above plot help explain why the poor in America are often seen as lazy and/or “moochers” by conservatives: those with low wages earn less, yet through a variety of welfare programs can actually have a higher income than middle wage earners who do not qualify for such welfare programs. While it is justifiable for middle income earners to be angry and frustrated that lower income earners can have a higher total income, the problem is with the government and its policies rather than the low wage earners themselves. To re-iterate the point: welfare traps give low wage earners perverse incentives against seeking an increase in their wages, so even a hard-working and well-motivated individual finds it personally beneficial to avoid higher wages and productivity. There is no need to demonize the poor (or the rich, for that matter). Perhaps if politicians spent less time demonizing people and more time considering the unintended consequences of their actions they could agree to eliminate obvious obstacles to economic growth such as welfare traps.
* This complaint uses the left’s preferred but subjective definition of “fair”, and the left’s incorrect definition of “rich” as high income earners.