Wednesday, February 22, 2012

The Safety Net Isn't Free

Copyright, The New York Times Company

Benefit payments by government safety net programs, like unemployment insurance, help the people who receive those payments. But government officials, politicians and journalists sometimes go another step and assert that everyone benefits when the poor and unemployed receive payments from the government, because that “puts money in the hands of consumers,” and consumer spending is said to stimulate employers to hire.

I explained last week that the “hands of the consumer” theory ignores the hands of the people who pay for safety net benefits. For example, because of the extra taxes needed to help pay for the unemployment insurance program, a taxpayer may no longer be able to afford to make an addition to his house.

Thus, while jobs will be needed to serve the unemployed people as they spend their benefit payment, there will be no need for the construction workers and others who would have helped with the taxpayer’s home project.

Dean Baker of the Center for Economic Policy and Research disagreed, in a post on the center’s Beat the Press blog, saying that, for now, unemployment insurance benefits do not cost us anything because they are not financed with current taxes:

At the point in a business cycle where large numbers of people are receiving benefits (like now) the U.I. system will be running a deficit. This allows unemployed workers to receive benefits, which they will overwhelmingly spend, without an offsetting current payment from other workers.

I agree that unemployment benefits and other safety net benefit payments are many times financed with taxes in the future or taxes in the past. But that “financing channel” still does not make the payments free from the perspective of today’s economy.

Suppose the government has been borrowing the money to pay for unemployment benefits. It borrows money by selling bonds. The purchasers of those bonds have less to spend on something else.

As I explained last week, government borrowing to pay for safety net benefits may increase consumer spending and reduce investment spending, because it does put money in the hands of consumers.

But that could either increase or reduce employers’ need to hire, depending on, among other things, whether the consumer goods purchased are more or less labor-intensive than investment goods not purchased (see last week’s discussion of liquidity considerations).

Last week I noted that I was holding constant the amount that safety net beneficiaries (“the poor”) work and earn, so that more safety net income for the poor means more total income for them, which permits them to spend more. But the safety net causes some beneficiaries, or their spouses, to work less.

Unless the safety net replaces all of the income lost from reduced work time – it typically does not – then the families who reduce their labor in response to the safety net expansion will spend less as a result of the safety net, and the amount less could be many times more than the amount that the safety net expanded.

Now the “hands of consumers” theory is turned on its head: at the same time that the poor spend most of whatever income they have on consumer items, the safety net’s redistribution reduces their total spending because it reduces their total family income.

Benefit payments by government safety net programs help the families who receive those payments. But it is inaccurate to ignore that fact that those payments hurt the rest of us.

2 comments:

Ed R said...

"The purchasers of those (USG)bonds have less to spend on something else."

Except, of course, it is the Fed that is (indirectly) purchasing most of those USG bonds with new money -- or additional bank reserves. Dean Baker is more correct than Casey on this one.

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