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Welfare Offers Short-term Help And Long-term Poverty

The government provides at least one means-tested, welfare-type program to roughly one out of every five Americans (unless you count Social Security, in which case the number goes up considerably). In one sense, the governments approximatel

The government provides at least one means-tested, welfare-type program to roughly one out of every five Americans (unless you count Social Security, in which case the number goes up considerably). In one sense, the government’s approximately 100 different welfare programs (including Social Security) do an excellent job, lifting about 48 million people out of poverty. However, there are other ways that 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.

Consumption over Investment

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. Many states have been securing waivers from the Obama Administration so that people on various welfare programs (such as SNAP, what used to be called food stamps), are not required to either work or go to job training classes in order to continue to receive benefits. This is short-sighted because it keeps people dependent on government benefits.

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. In a study for ProPublica, Amy Goldstein documents that people who lost their jobs and participated in a federal job training program were less likely to be employed afterward than those who lost their jobs and did not receive any job training. That is, the job training made people worse off instead of better. If we want to wean people off of welfare, we must figure out how to do a better job of enhancing their job skills, employability, and earnings potential. Right now, the government cannot teach anyone how to find a fish, let alone catch one.

 

Causing Financial Fragility

The second failure of government welfare programs is the common requirement to have minimal assets to be eligible for aid. While many states have eliminated their asset tests, they still remain in about one dozen states and can be as low as $1500. While it seems reasonable to deny welfare benefits to, say, a retired couple with low income but two million dollars in assets, it does not make sense to force people to go through virtually all their assets before giving them benefits. By making welfare recipients so financially fragile, we ensure that any little unforeseen financial setback will be very damaging. By diminishing their ability to surmount events such as a car repair or the need to buy a new home appliance, government makes it more likely that people end up homeless, hungry, or unable to pay their regular bills on time.

Penalizing Success through Sky-high Effective Marginal Tax Rates

The third flaw in the government welfare system is the way that benefits phase outs as a recipient’s income increases. As a household’s income approaches the poverty line and rises above it, families on various welfare programs can actually face effective marginal tax rates of 50 or 60 percent (see this CBO report for the details). That means that the combination of taxes owed on new income and benefits lost because of the rising income causes the family to lose 50 to 60 percent of its initial income gain to the federal government.

In simple terms, 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. Given that our federal income tax system is supposed to progressive, meaning higher income families pay a higher percentage of that income in taxes, it is nonsensical to impose such high tax rates on families in poverty.

Clearly, welfare benefits must phase out as incomes rise, but they do not have to phase out this rapidly. An effective marginal tax rate that high can (and by numerous accounts from the real world does) cause families in and near poverty to turn down opportunities for promotions, raises, or more hours of work because the higher earned income is hardly worth it given the losses they face from taxes and lost benefits.

Thus, the way that welfare benefits phase out can serve to trap people in poverty. To obtain a job that provides a middle class living you typically work your way up through several entry-level and intermediate jobs with increasing incomes. Yet, if a person never accepts one of those intermediate jobs, because it pays more than the poverty line but less than the combination of a lower income plus welfare benefits, they will likely never get a job high-paying enough to be self-supporting. This is not laziness or gaming the system, but optimal behavior in face of a poorly designed welfare system. Unless a person is willing suffer in the short-run in order to be better off at some uncertain time several years in the future, they can be trapped in poverty.

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