Figure 7.1 A Price Distorting Subsidy

1
Chapter 7
Government Subsidies and Income Support for the
Poor
2
Poverty in 2001

• 33 million people in U.S. affected
• 12 of the population classified as poor

3
Poverty in the United StatesPoverty threshold or
poverty line in 2001
4
Poverty line

• Poverty Line originally created by the Social
  Security Administration as three times the cost
  of a nutritionally adequate diet
• Updated annually for inflation using the CPI

5
Poverty Rate 1960-2001
6
Why We Have Government Programs to Aid the Poor

• Concern about equity-efficiency trade-offs.
• Creates the positive externality of social
  stability.

7
Entitlement Programs Government programs that
guarantee recipients benefits as long as they
meet eligibility tests

• .

• Means Tests typically income and wealth criteria
  that must be met for an individual or family to
  be eligible for a program
• Status Tests typically disability, children, and
  age criteria that must be met for an individual
  or family to be eligible for a program.

8
Cash Programs

• TANF Temporary Aid to Needy Families
• Program most identified with a welfare check may
  provide for child-care expenses or job retraining
• SSI Supplemental Security Income
• Program provides cash payments to the widowed,
  orphaned and disabled.
• EITC Earned Income Tax Credit
• A program that increases the take-home pay of the
  working poor by as much as 4140 in 2002 for a
  family with two children.

9
In-Kind Programs

• Food Stamps vouchers that enable a broad class
  of poor people to purchase a wide variety of food
  products
• WIC vouchers enable poor, pregnant, and
  post-natal women to purchase a narrow variety of
  food products.
• Medicaid federal and state funded program that
  provides health care services to the poor
• The Childrens Health Insurance Program
  federal program that subsidizes health insurance
  coverage for the working poor.

10
Major Federal Government Expenditures To Aid the
Poor, 2003
11
Price Distorting Subsidies

• Price Distorting Subsidies lower the price of a
  particular (subsidized) good relative to other
  goods for eligible people.

12
Figure 7.1 A Price Distorting Subsidy
13
Dead Weight Loss or Excess Burden

• Dead Weight Loss (sometimes called Excess Burden
  ) measures the extra benefit a recipient can
  enjoy from the dollar amount of the
  price-distorting subsidy if instead the grant
  was received in a lump sum.

14
Figure 7.2 Excess Burden of a Subsidy
15
Figure 7.3 Full Subsidization of Medical Services
B
















16
Additional Effects of Subsidies The Case of
Increasing Costs

• Taxpayers face a double burden not only must
  they pay Medicaid costs through taxes,the program
  also increases the amount non-eligible patients
  pay for medical services by increasing demand for
  those services.

17
Figure 7.4 The Impact of The Medicaid Program on
Price The Case of Increasing Cost
QG
18
Subsidizing Food

• Food Stamps subsidies that allow recipients
  particular allotments of vouchers to buy food,
  but recipients may supplement the subsidy with
  their own cash. It is illegal to sell food
  stamps, though it may be in the recipients
  interests to do so.

19
Figure 7.7 The Impact of an In-Kind Transfer
Food Stamps
20
The Impact of Government Assistance Programs on
Work

• Transfers could cause people to work more or
  less, depending on whether leisure is a normal
  good.

21
Figure 7.8 The Income Effect of a Transfer
B
22
Figure 7.9 A Transfer that Declines with Earned
Income e.g. T300-.7IE
23
Empirical Evidence

• A 10 increase in welfare payments to individuals
  decreases work effort by 2.

24
Negative Income Tax

• The Negative Income Tax is a system with no
  status test, but there is an income guarantee and
  a take-back rate.
• T IG tNIE
• Where
• IG Income guarantee
• tN take back rate
• IE earned income
• T Transfer

25
Break-Even Income

• 0 IG tNIB
• IB IG/tN

26
Negative Income Tax
Earned Income IE Transfer T IG tNIE Disposable Income ID
0 5,000 5,000
1,000 5,000 (.5 1000) 4,500 5,500
2,000 5,000 (.5 2000) 4,000 6,000
3,000 5,000 (.5 3000) 3,500 6,500
4,000 5,000 (.5 4000) 3,000 7,000
5,000 5,000 (.5 5000) 2,500 7,500
6,000 5,000 (.5 6000) 2,000 8,000
7,000 5,000 (.5 7000) 1,500 8,500
8,000 5,000 (.5 8000) 1,000 9,000
9,000 5,000 (.5 9000) 500 9,500
10,000 5,000 (.5 10000) 0 10,000
27
EITC

• The Earned Income Tax Credit goes to the working
  poor and varies with the number of children.
  Typically, recipients receive the assistance with
  their tax refund, but papers can be filed to
  receive the money in their paychecks throughout
  the year.

28
EITC (2002 two-child family)
Total Earned Income EITC
0 0
2,000 810
4,000 1,610
6,000 2,410
8,000 3,210
10,000 4,140
15,000 3,823
20,000 2,770
33,200 0
29
Figure 7.11 Earned Income Tax Credit in 1999, By
Number of Children and Earnings
30
Welfare Reform of 1996

• Time Limits
• 5-year lifetime limit
• 2-years at a time
• If states meet certain goals, they can waive this
  rule for up to 20 of their caseloads.
• Work and Training
• Half a states TANF recipients must be in work
  programs
• subsidized child care 
• Teen Mothers
• no longer eligible to receive their own payments
• must live with responsible adult. 
• Refusal to work
• If recipients have children over five and the
  parents refuse to work, families can be denied
  aid and children may be placed in foster care.

31
Impact of Welfare Reform

• Welfare caseloads have declined.
• Labor force participation among less-skilled
  single mothers has increased more than expected.
• State governments have greatly increased their
  spending for work support programs, including
• child care subsidies,
• transportation subsidies,
• help with job search expenses,
• subsidized wages.

32
Percent Share of Income by Quintile
Year LowestFifth Second Fifth Third Fifth Fourth Fifth Highest Fifth
1947 5.0 11.9 17.0 23.1 43.0
1967 4.0 11.1 17.6 24.6 42.7
1976 4.3 10.4 17.0 24.7 43.6
1987 3.8 9.6 16.1 23.3 46.7
1997 3.6 8.9 15.0 22.2 49.4
2001 3.5 8.7 14.6 23.0 50.1