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Created: 2000-05-01
Last Modified: 2000-05-02
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The EITC and the Decade of "Welfare Reform"

J. Bradford DeLong

delong@econ.berkeley.edu
http://www.j-bradford-delong.net/

May 2000

894 words

DRAFT of my May 4 New York Times "Economic Scene" column...

The 1990s were supposed to be the decade of welfare reform. By the start of the decade mainstream political opinion was that the welfare system based on Aid to Families with Dependent Children--cash payments to non-working single mothers--was not a success. Welfare recipients remained very poor, the incentives the system gave them were horrible, and the lessons implicitly taught about responsibility and opportunity were destructive. It seemed better, mainstream political opinion decided, to make a big push to shift people from welfare to work: to boost the wages of low-skilled workers, to provide training programs so that ex-long term AFDC recipients could build skills, and to provide job search assistance so that they could find employers who would pay for those skills. Such welfare reform would be more expensive for the government than simple cash grants to non-working single mothers, but it seemed worthwhile.

But the 1996 welfare reform of Newt Gingrich, Bob Dole, and Bill Clinton largely dropped the ball. Instead of making a big push on training and job search, it largely gave each state a blank check to spend as it saw fit the money the federal government had formerly spent on welfare. A few states have used their money to do remarkable and innovative things. Rather more have paid lip-service to the goal of reform, and used large chunks of the federal money for programs that the state budget used to pay for, reducing--not increasing--the total amount of money spent. The number of people on welfare has dropped significantly. In spite of a booming economy, the incomes of the poor have not risen significantly. Welfare reform has not spent serious money on building skills. It has not spent serious money on assistance in finding jobs. No one knows but everyone fears what will happen to America's single-parent poor when the boom ends and the next recession begins.

However, one piece of the original welfare reform program was put into place in 1993, as part of the Clinton deficit-reduction program. The Earned Income Tax Credit [EITC] gives a family with two children a 40-cent payment from the IRS for each of the first $9,500 of income earned. A part-time $8 an hour job thus becomes--after taxes--an $11.20 an hour job for the working poor. The Earned Income Tax Credit means that a two-child family with a full-time minimum-wage worker is lifted (barely) above the poverty line. Economic Policy Institute (www.epinet.org) economists Max Sawicky and Robert Cherry conclude that more than five out of six families eligible for the EITC actually collect it, and that the EITC manages to push more families above the poverty line than any other government program.

Is the EITC perfect? No. There are three standard criticisms of the EITC: (1) It is a subsidy to low-wage employers, and low-wage employers should be discouraged. (2) It penalizes working-class two-earner families. (3) It is overly bureaucratic and complicated.

The first criticism seems completely wide of the mark. If we want to raise the wages of the working poor, we want to see a lot of employers competing to hire them. To provide subsidies to employers of low-wage labor is to boost their numbers, and so increase the bargaining power in the market of low-wage workers.

The second criticism has a point. As the income of a two-child family increases from $12,500 to $30,850, they lose their $3,816 EITC. Combine this reduction in their tax credit with the 15.3% total Social Security tax and the $15% first bracket of the income tax and discover that American families earning $28,000 are the ones that pay the highest marginal federal tax rates of anyone. An easy way to make the EITC a better program would be to reduce the speed with which the credit is phased-out as income rises. But that takes money. High politicians are almost always more excited about their new signature initiatives than about improving effective but existing programs, and the politicians who made the EITC their signature initiative--Russell Long and Lloyd Bentsen--are long gone from Washington.

And the third criticism has a point as well. The EITC is a social insurance program administered by the Internal Revenue Service, an agency whose core mission does not involve boosting the incomes of the working poor. Moreover, the EITC's details are unnecessarily complex--the family as defined by the EITC is not necessarily the family as defined by the rest of the tax code, and the income concept that determines whether you qualify for the EITC is not necessarily the income that appears anywhere else on your tax form. (Cherry and Sawicky have proposals to fix this by simplifying the EITC and combining it with other child-centered tax provisions into a "Universal Unified Child Credit.")

But the validity of these criticism should not blot out the broad success of the program: $32 billion a year channeled to 15 million working poor and lower middle class families to boost their real wages and make work pay. I wonder whether the training-and-skill-building and job-search-assistance components of the original 1990s welfare reform program would now be regarded as equal successes, had they been undertaken.

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A few points:

(1) From what I can see the main thing the states do spend money on, under TANF, is job search. An issue is whether the agency providing the program -- possibly a for-profit contractor -- is motivated to make the best match between person and job. John Donahue discussed how incentives for rapid placement defeated the stated purpose of JTPA in an old EPI report, as well as in his book.

(2) The findings about participation and effect on poverty rates are not original to C&S, but are cited in our paper.

(3) Also in the citation category, a key paper on the well- being of low-income single mothers post-reform is by Wendell Primus (on the Center for B&PP web site) [http://www.cbpp.org/.

(4) Compared to welfare programs, a tax credit is relatively unbureaucratic. Welfare applications used to be huge, though I understand they have been slimmed down in more recent years. Even so a tax credit is much more economical with respect to administration. Free help in filing for the credit is growing all the time. State and local govt officials are increasingly advertising the EITC and offering services to help people file for it. There are also non-profits involved.

http://www.state.nj.us/governor/news/p90401b.htm

(5) Note re: the push more people above the poverty line, lest we get carried away. If it isn't obvious, moving people over the line is not the same as filling the poverty gap. A program could fill a bigger part of the gap than EITC and move nobody 'over the line.'

(6) One relevant benefit of our proposal that you downplay is that we erase the distinction between EITC recipients and other taxpayers by putting them all under the same program. If you have children and don't exceed the interest/dividend income limits, you get a bigger credit, some of which could be cash. We turn the IRS into a huge Mr. Rogers.

(7) By the way, Cherry is first author.

Contributed by Max Sawicky (sawicky@epinet.org) on May 3, 2000.

The last time I talked to the IRS people, they said that the "error" rate for EITC-including returns was significantly lower than the "error" rate for, say, returns with capital gains. And that most of the errors were not fraud but simply that people found the forms ambiguous...

But I agree that the IRS is not an agency that can focus on tightly monitoring and enforcing the EITC...

Contributed by Bradford DeLong (delong@econ.berkeley.edu) on May 4, 2000.

After reading your commentary on the welfare reform, I would like to add a few comments from a slightly different point of view.

First and foremost, I live in Newfoundland, Canada. We have at times had in the range of 25%+ unemployment, the highest in the country. With this we also have a fairly significant income and sales tax level (in most cases property tax is low or non-existent), but all in all taxes are relatively high for the individual (and family) compared to other provinces.

Secondly, I have seen the effects of "make work" projects on the population. The temporary influx of moneys is just that, temporary! Sure, I agree with government expenditure, that is if it is a well planned out investment in the community (Hoover Dam and Hibernia Oil Project) and not moving rock from point A to Point B.

Third, to reiterate what I have just said, well planned! Basically, there has been too many projects that have had great potential, but not planned out in a workable fashion. That is also in regards to the bureaucratic structure of the public (governmental) bodies. I have seen $26 million pumped into a greenhouse that supplied tomatoes and cucumbers to a market that didn't consume these, just to scratch the surface.

Also, on the topic of welfare reform, would it not be best to find out the root cause of the problem and not not the outcomes? To say, educate the people as they have done in Ireland for a low cost (or free)? To have the necessary infrastructure to have adequate health care as we do in Canada? Or to have family planning? These seem to be an expensive investment at first glance, but rather are quite cheap when you look at the net present value of the outcomes.

These are just some thoughts on the subject that you may wish to ponder. I would be only to glad to elaborate on anything here. I also have a friend, Kathy Bayliss, who is enrolled in the Phd. Economics program at Berkeley who would also be able to comment on much of the above.

Contributed by Jason white (jason_darwin_white@yahoo.com) on May 4, 2000.

Your EITC note requires me to tell you of my dandy former son-in-law. Having at long last been required to pay some child support to my daughter, he now is suing her to be able to claim a child as a tax deduction--taking back with his left hand much of what he is required to give with his right.

I enjoy your page. Is Froomkin son of Joe Froomkin, Chicago PhD ca 1952? Re the new trade, I think the problems of the pharmaceutical industry my be pertinent. They have had legalized theft of intellectual property for years. But I haven't thought of that enough.

Paul W. Cook PhD Chicago 1952 (One of Milton's boys!)

Contributed by Paul W. Cook (Paulwcook@aol.com) on May 5, 2000.

Professor DeLong,

I agree that the EITC is an example of good tax policy. (I teach a Tax Policy course in the graduate tax program of a Philadelphia area law school.) The second criticism you mention is that the EITC "penalizes working-class two-earner families." You may wish to address this criticism more directly in a follow-up piece. The heart of it is, I think, that the EITC statute requires that "in the case of an individual who is married ... [the credit is available] only if a joint return is filed ... ." See Internal Revenue Code section 32(d).

The EITC tables, together with a comprehensive explanation of the provision, are published each year in IRS Publication 596, available for reading or download at the IRS web site. The tables permit ready comparison of the credit for single parent and two-parent working families with one or two children. The incentives for marriage or divorce provided by the credit in its current, section 32(d) form then may be evaluated in comparison with some other evident alternative, such as elimination of the section 32(d) requirement.

One might evaluate the different policies and perhaps speculate on their constituencies.

Contributed by Cornelius C. Shields (cc_shields@msn.com) on May 7, 2000.

I came across your Earned Income Tax Credit article (NY Times, May 4, 2000). Great work. You may want to refer to a Children Now Earned Income Tax Credit issue brief, scheduled for release on Wednesday, May 10, 2000 (available online: http://www.childrennow.org).

I am working on an after school/school-age issue brief and was wondering if you have come across Current Population Survey 1999 annual average and/or 1998 March supplement labor force participation data for California, other states (i.e.: number of families with children (0-17) with at least one parent in labor force by family type--single, married, etc.; number of children in families with at least one parent in labor force by family type -single, married, etc.; number of families with children living in poverty with at least one parent in labor force--single, married, etc.; number of children in families in poverty with at least one parent in labor force by family type -- single, married, etc.)...

Contributed by Geovanny Fernandez (gfernandez@childrennow.org) on May 13, 2000.

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Thoughts of the Week Created: 2000-05-01 Last Modified: 2000-05-02 Go to Brad De Long's Home Page

Thoughts of the Week

The EITC and the Decade of "Welfare Reform"