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Income Distribution and Poverty (Part D)
by
Charles Lamson
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Redistribution Programs and Policies
The role of government in changing the distribution of income is hotly debated. The debate involves not only what government programs are appropriate to fight poverty but the character of the tax system as well. Unfortunately, the quality of the public debate on the subject is low. Usually it consists of a series of claims and counterclaims about what social programs due to incentives instead of a serious inquiry into what our distributional goal should be. In this section, we talk about the tools of redistribution policy in the United States. As as we do so, you will have a chance to assess for yourself some of the evidence about their effect. Financing Redistribution Programs: Taxes Redistribution always involves those who end up with less and those who end up with more. Because redistributional programs are financed by tax dollars, it is important to know who the donors and recipients are---who pays the taxes and who receives the benefits of those taxes. The issue of which households bear the burden of the taxes collected by government is actually quite complex and requires some analysis. Oftentimes households, firms, and markets react to the presence of taxes in ways that actually shift burdens off those on whom they were intended to fall and on to others. A perfect example is the corporation tax. Both at the federal level and at the state level in most states a special tax is levied on corporations in proportion to their profit or net income. While this tax is levied on certain firms, the burden ultimately falls on households in one or more of a number of ways. The tax may result in higher prices for corporate products; a tax may result in lower wages for corporate employees; or the tax may result in lower profits for owners/shareholders of corporations. The ultimate impact of a tax, or set of taxes, on the distribution of income depends on which households end up bearing the burden after shifting has taken place.  The term "incidence" refers to the ultimate burden distribution of a tax. A future post will illustrate the way in which economic analysis can be used to estimate the ultimate incidence of taxes. The mainstay of the U.S. tax system is the individual income tax, authorized in 1913 by the Sixteenth Amendment to the Constitution. The income tax is progressive---those with higher incomes pay a higher percentage of their incomes in taxes. Even though the tax is subject to many exemptions, deductions, and so forth that allows some taxpayers to reduce their tax burdens, all studies of the income tax show that its burden as a percentage of income taxes rises as income rises With the passage of the Tax Reform Act of 1986, Congress initiated a major change in income tax rates and regulations. The reforms were to simplify the tax and make it easier for people to comply with and harder to avoid. In addition, the act reduced the number of tax brackets and the overall progressivity of the rates. The largest reduction was in the top rate, cut from 50 percent to 28 percent in 1986. It also substantially reduced the tax burdens of those at the very bottom by increasing the amount of income one can earn before paying any tax at all. In 1993, President Clinton signed into law a tax bill that increased the top rate to 36 percent for families with taxable incomes over $140,000 and individuals with taxable income over $115,000. In addition, families with incomes of over $250,000 paid a surtax (a tax rate on a tax rate) of 10 percent, bringing the marginal rate for those families to 39.6 percent. Families with low incomes received grants and credits under the plan. On May 28th, 2003, President Bush signed a tax law that reduced the top rate to 35 percent and changed a number of other provisions of the tax code. (Case & Fair, 2004) Today the highest earners pay 37 percent (bankrate.com). The individual income tax is only one tax among many. More important to the individual is the overall burden of taxation, including all federal, state, and local taxes. Most studies of the effect of taxes on the distribution of income, both before and after the Tax Reform Act, have concluded that the overall burden is roughly proportional. In other words, all people pay about the same percentage of their income in total taxes.  Expenditure Programs Some programs designed to redistribute income or to aid the poor provide cash income to recipients. Others provide benefits in the form of health care, subsidized housing, or food stamps. Still others provide training or help workers find jobs. Social Security By far the largest income redistribution program in the United States is Social Security. The Social Security system is really three programs financed through separate trust funds. The Old Age and Survivors Insurance (OASI) program, the largest of the three, pays cash benefits to retired workers, their survivors, and their dependents. The Disability Insurance (DI) program pays cash benefits to disabled workers and their dependents. The third, Health Insurance (HI) , or Medicare, provides medical benefits to workers covered by OASI and DI and the railroad retirement program. The social security system has been credited with substantially reducing poverty among the elderly. Most workers in the United States must participate in the social security system. For many years, federal employees and employees belonging to certain state and municipal retirement systems were not required to participate, but federal employees are now being brought into the system. Today well over 90 percent of all workers in the United States contribute to Social Security (Case & Fair, p. 345). Participants and their employers are required to pay a payroll tax to the Federal Insurance Corporation Association (FICA) to finance the Social Security system. The current tax rate for Social Security is 6.2 percent for the employer and 6.2 percent for the employees on wages up to $200,000 (irs.gov). Self-employed people assume the entire FICA burden themselves (p. 346).  You are entitled to Social Security benefits if you participate in the system for 10 years. Benefits are paid monthly to you after you retire or, if you die, to your survivors. A complicated formula based on your average salary while you were paying into the system determines your benefit level. Those who earned more receive a higher level of benefits, but there are maximum and minimum monthly benefits. By and large, low salaried workers get more out of the system than they paid into it while they were working. High salaried workers usually get out of the system considerably less than they put in. The Social Security system is self-financing, but it is different from funded retirement systems. In a funded system, deposits (by the employer, the employee, or both) are made to an account in the employee's name. Those funds are invested and earn interest or dividends that accumulate until retirement, when they are withdrawn. Funded retirement plans operate very much like a savings plan that you might set up independently except that you cannot touch the contents until you retire. Public Assistance Next to Social Security, the biggest cash transfer program in the United States is public assistance, more commonly called welfare. Aimed specifically at the poor, welfare falls into two major categories. Most welfare is paid in the form of temporary assistance for needy families. Benefit levels are set by the states and they vary widely. To participate, a family must have very low income and virtually no assets. Those who find jobs and enter the labor force lose benefits quickly as their incomes rise. This loss of benefits acts as a tax on beneficiaries, and some argue that it discourages welfare recipients from seeking jobs.  Supplemental Security Income The Supplemental Security Income program (SSI) is a federal program that was set up under the Social Security Administration in 1974. The program is financed out of general revenues. That is, there is no trust fund, and there are no earmarked taxes from which SSI benefits are paid out. SSI is designed to take care of the elderly who end up very poor and have no, or very low, Social Security entitlement. As with welfare, qualified recipients must have very low incomes and virtually no assets. Unemployment Compensation The money to finance this benefit comes from taxes paid by employers into special funds. Companies that hire and fire frequently pay a higher tax rate, while companies with relatively stable employment levels pay a lower tax rate. Tax and benefit levels are determined by the states, within certain federal guidelines. Workers who qualify for unemployment compensation begin to receive benefit checks soon after they are laid off. These checks continue for a period specified by the state. Most unemployment benefits continue for 20 weeks. In times of recession the benefit period is often extended on a state-by-state basis. Average unemployed workers receive only about 36 percent of their normal wages, and not all workers are covered. To qualify for benefits, an unemployed person must have worked recently for a covered employer for a specified time for a given amount of wages. Recipients must also demonstrate willingness and ability to seek and accept suitable employment. Unemployment benefits are not aimed at the poor alone, although many of the unemployed are poor. Unemployment benefits are paid regardless of a person's income from other sources and regardless of assets.  Medicaid and Medicare The largest in-kind transfer (transfers to the poor given in the form of goods and services rather than cash) programs in the United States are Medicare and Medicaid. The Medicaid program provides health and hospitalization benefits to people with low incomes. Although the program is administered by the states, in 2019, the federal government paid 64 percent of total Medicaid costs with the states paying 34 percent (kff.org, Medicaid Financing: The Basics). Total Medicaid managed care spending in 2020 was $359.6 billion, up from $313.5 billion in 2019 (healthmanagement.com, Medicaid Managed Care Spending in 2020). 78,900,421 people were enrolled in Medicaid and Children's Health Insurance programs (CHIP) in November of 2020 (Medicaid.gov). Medicare, which is run by the Social Security Administration, is a health insurance program for the aged and certain disabled persons. Most U.S. citizens over age 65 receive medicare hospital insurance coverage regardless of their income. In addition, they may elect to enroll in a supplementary medical insurance program under Medicare by paying a premium. Medicare pays only a part of total hospital expenses. Currently 44 million beneficiaries are enrolled in the Medicare program (The Medicare Beneficiary Population - AARP). Benefit payments reached $799.4 billion in 2019 (cms.gov, NHE Fact Sheet). The Supplemental Nutrition Assistance Program (SNAP) (Formerly Known as Food Stamps) The food stamp program, or SNAP (as it is now called), is an antipoverty program fully funded out of general federal tax revenues, with states bearing 50 percent of the program's administrative costs (p. 347). Food stamps help low-income individuals buy food. Only low-income families and single persons are eligible to receive food stamps. SNAP is the nation's most important antihunger program, reaching 38 million people nationwide in 2019 alone (cbpp.org, A Closer Look at Who Benefits from SNAP). SNAP benefits cost a total of $85.6 billion in the 2020 fiscal year amid heightened U.S. poverty and unemployment (theconversation.com).  Housing Programs Over the years, the federal government and state governments have administered many different housing programs designed to improve the quality of housing for low income people. The biggest is the Public Housing program, financed by the federal government but administered by local housing authorities. Public housing tenants pay rents equal to no more than 30 percent of their incomes. In many cases, this means they pay 0. The largest housing program, called "Section 8," provides housing assistance payments to tenants and slightly above-market rent guarantees to participating landlords. In 2016, a total of 3,021 Public Housing Agencies (PHAs) managed 1,067,387 public housing units in 6,923 properties, housing a total of 2,311,181 low-income people (urban.org, Public Housing Fact Sheet). The Earned Income Tax Credit An important program that is not well understood by most people is the Earned Income Tax Credit (EIC). The program is quite complex but essentially allows lower-income families with children a credit equal to a percentage of all wage and salary income against their income taxes. If the credit exceeds the amount of taxes do, the credit is refundable. To see roughly how the EIC works, consider a family made up of two adults and two children with an income of $11,000 per year, all earned as wages. After the standard deduction and exemptions, such a family would owe no taxes, but it would receive (subject to a number of restrictions) a credit of up to $3,800 refundable. That means the family would actually get a check for $3,800. While not well known, the EIC program is very large. More than 25 million tax filers received almost $63 billion in federal EIC during the 2019 tax year (ncsl.org, Earned Income Tax Credit Overview). How Effective Are Antipoverty Programs? The number of persons officially classified as poor dropped sharply during the 1960s and early 1970s. Between 1978 and 1983, however, the number of poor increased nearly 45 percent. After falling back between 1983 and 1989, the figure hit 39.3 million in 1994, the highest total since 1964. The figure fell to 32.9 million in 2001 (Case & Fair, p. 348). Official U.S. Census Bureau statistics estimate that 40 million persons, 12.3 percent of the total population, were poor in the United States in 2017 (U.S. Department of Health and Human Services, Poverty Estimates, Trends, and Analysis). This increase is at the center of a great debate over the effectiveness of antipoverty programs.  Some say economic growth is the best way to cure poverty. Poverty programs are expensive and must be paid for with tax revenues. The high rates of taxation to support these programs, critics say, have eroded the incentive to work, save, and invest, slowing the rate of economic growth, and the rise in poverty is evidence that antipoverty programs do not work. The opposite view is that poverty would be much more widespread without antipoverty programs. Poverty has increased not because of increasing programs but because the "real" level of transfer payments has actually fallen significantly. In other words, transfer payments have not kept up with rising prices. Despite the antigovernment rhetoric of recent years, most of what the government did to change the distribution of income 35 years ago it still does today. The volume of redistribution is less, but most major programs have remained largely intact. Many still argue we do too little. Poverty rates remain higher today than 20 years ago, and the number of homeless people continues to increase.  *CASE & FAIR, 2004, PRINCIPLES OF ECONOMICS, 7TH ED., PP. 344-349* end |
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