Last Tuesday (April 8), Susannah Tahk of the University of Wisconsin Law School presented the above-named paper. As noted in an earlier post, I was forced by external circumstances to fall short of my usual practice of promptly posting here a discussion of the issues that the paper raises. But better late than never.
The paper documents and evaluates the rising use of tax provisions to do heavy lifting with respect to programs that are aimed at aiding the poor. The most important example is the rise of the EITC, including its refundable element, and the relative decline of direct cash grants under TANF today as compared to AFDC twenty years ago. There is also the fact that, say, the child tax credit, while aimed in large part at the “middle class,” is partly refundable, to the benefit of poor households with children.
It’s clear that use of the income tax system in lieu of direct transfers to pay money to poor people has potential optical advantages, compared to overtly using the transfer system – although it’s less clear to what extent these optical advantages are weakened, once one makes the payments refundable. And of course 2012’s “47 percent” meme reflected a related part of the optical downside of formally netting transfers against income tax payments.
A broader issue – especially if refundability is inevitably limited and if there is some optical lean in the "income tax system" towards using exclusions and deductions rather than fixed-percentage, refundable credits – is that it may be hard to use this means when directing significant transfers to people on the very bottom. Plus there is the vexed question – central to the anti-poverty debate – of what role work should play in the design of the programs, not to mention household structure such as number of kids. These issues arise no matter what formal system one uses.
Suppose we had a uniform demogrant for all U.S. individuals, financed through explicit tax rate increases that were very limited at the bottom of the income scale. In the typical language of public economics, this would not reduce “incentives to work,” which depend purely on marginal rates. But in the typical language of anti-poverty discussion, the income effect of the demogrant would indeed reduce “incentives to work.” That is, recipients would no longer face as dire a threat of privation (including starvation, assuming no other transfers) if they decided not to work.
This is not a case where one side or the other in this language mismatch is logically in error – it’s a question of how you want to use the term “incentive to work,” which depends on what one cares about. This in turn can depend not only on one's underlying normative views but also on empirical assumptions. For example, a pure utilitarian would not care about "rewarding work" or 'helping the most deserving" as an end in itself, but might believe, depending on the empirical evidence, that in practice inducing work was either very important or not important at all (or anything in between).
The EITC is a sufficiently interesting and important provision to need substantial consideration all on its own. In one sense, it’s “anti-insurance.” Suppose that A and B, both poor, are both seeking scarce jobs. A succeeds and B fails. A is therefore better-off than B - not only does he have more income, but they both wanted the job. With an EITC, A is then the one to reap further rewards from government transfer policy. Purely from a static insurance standpoint, this makes no sense.
But on the other hand, suppose there are important reasons for encouraging work and “making it pay.” Then the EITC’s anti-insurance structure can indeed be defended.
Making the picture more complicated still, one really wants to figure out (among other things) the overall marginal tax rates that actual or potential EITC recipients face. At the same time that the EITC offers a large work subsidy, they may also be facing substantial positive implicit tax rates from the phase-out of various income-conditioned benefits. Then later on, when the EITC begins to be phased out, the affected taxpayers either may or may not still be facing high implicit marginal rates from other phaseouts. (These things vary with the taxpayer and by state or locality.)
Anyway, these are interesting and important issues that merit a lot more time and attention than I can offer here while catching up on my blog posts in the late stages of a busy semester. But it was nice to have a session devoted to it - we hadn't done much distribution so far this year.