1. The Economics of the Welfare State Chapter 18

2. What the welfare state is and the rationale for it What defines poverty, what causes poverty, and the consequences of poverty How income inequality in America has changed over time How programs like Social Security affect poverty and income inequality The special concerns presented by health care insurance Why there are political differences and debate over the size of the welfare state WHAT YOU WILL LEARN IN THIS CHAPTER

3. Poverty, Inequality, and Public Policy The welfare state is the collection of government programs designed to alleviate economic hardship. A government transfer is a government payment to an individual or to families that provides financial aid to the poor, assistance to unemployed workers, guaranteed income for the elderly, and assistance in paying medical bills for those with large health care expenses.

4. The Logic of the Welfare State One major rationale for the welfare state is alleviating income inequality. A poverty program is a government program designed to aid the poor. A second major rationale for the welfare state is alleviating economic insecurity. A social insurance program is a government program designed to provide protection against unpredictable financial distress.

5. The Logic of the Welfare State These two rationales for the welfare state are closely related to the ability-to-pay principle (see Chapter 7). The ability-to-pay principle was used to justify progressive taxation.

6. The Logic of the Welfare State The ability-to-pay principle says that people with low incomes (for whom an additional dollar makes a big difference to their economic well-being) should pay a smaller fraction of their income in taxes than people with higher incomes (for whom an additional dollar makes much less difference). The same principle suggests that those with very low incomes should actually get money back from the tax system.

7. The Problem of Poverty The poverty threshold is the annual income below which a family is officially considered poor. The poverty rate is the percentage of the population with incomes below the poverty threshold. The following graph shows the U.S. poverty rate since 1959.

8. U.S. Poverty Trend

9. Who Are the Poor? In 2009, about 43.6 million Americans were in poverty— 14.5% of the population, or about one in seven persons. About one-third of the poor were African-American and a roughly equal number were Hispanic. Within these two groups, poverty rates were well above the national average: 25.8% of African-Americans and 25.3% of Hispanics. But there was also widespread poverty among non-Hispanic Whites, who made up more than half the ranks of the poor.

10. Who Are the Poor? Adults who work full-time are very unlikely to be poor: only 2.7% of full-time workers were poor in 2009. Adults who worked part-time or not at all during the year made up most of the poor in 2009.

11. Who Are the Poor? Female-headed families with no husband present had a very high poverty rate: 29.9%. Married couples were much less likely to be poor, with a poverty rate of only 5.8%; still, about 40% of poor families were married couples.

12. What Causes Poverty? Lack of education  82% “college premium” (2007) Lack of proficiency in English Racial and gender discrimination Bad luck

13. Consequences of Poverty The consequences of poverty include: lack of access to health care lack of access to affordable housing learning disabilities  Children raised in severe poverty tend to suffer from lifelong learning disabilities.

14. Consequences of Poverty Poverty is self-perpetuating. The children of the poor start at such a disadvantage relative to other Americans that it’s very hard for them to achieve a better life.

15. Economic Inequality  Mean household income is the average income across all households.  Median household income is the income of the household lying at the exact middle of the income distribution.

16. Economic Inequality Income in the United States is quite unequally distributed.  The average income of the poorest fifth of families is less than 25% of the average income of families in the middle.  The richest fifth have an average income more than three times that of families in the middle.  The incomes of the richest fifth of the population are, on average, about 15 times as high as those of the poorest fifth. The distribution of income in America has become more unequal since 1980.

17. Economic Inequality The Gini coefficient is a number that summarizes a country’s level of income inequality based on how unequally income is distributed across quintiles.

18. Income Inequality Around the World

19. The U.S. Welfare State

20. A means-tested program is a program available only to individuals or families whose incomes fall below a certain level. Social Security, the largest program in the U.S. welfare state, is a non-means-tested program that provides retirement income for the elderly. It provides a significant share of the income of most elderly Americans. Unemployment insurance is also a key social insurance program.

21. The U.S. Welfare State An in-kind benefit is a benefit given in the form of goods or services. A negative income tax is a program that supplements the income of low-income working families.

22. The Effects of the Welfare State on Poverty and Inequality

23.  The American welfare state is redistributive.  It increases the share of income going to the poorest 60%, while reducing the share going to the richest 20%.

24. The Economics of Health Care Health insurance satisfies an important need because expensive medical treatment is unaffordable for most families. Under private health insurance, each member of a large pool of individuals pays a fixed amount to a private company that agrees to pay most of the medical expenses of the pool’s members.

25. Private Insurance 34% Medicare 22% Medicaid 16% Who Paid for U.S. Health Care in 2009? Out of pocket 13% Other private 8% Other public 7%

26. Who Paid for U.S. Health Care in 2009? The majority of Americans not covered by private insurance are covered by:  Medicare, which is non-means-tested and applies only to those aged 65 and older; or  Medicaid, which is available based on income.

27. The Economics of Health Care

28. (a) Barriers to Receiving Health Care, 2009 50%402030100 56% 21% 26% 13% 27% 32% 20% 13% No regular source of care Postponed seeking care because of cost Needed care but did not get it Did not fill a prescription because of cost (b) The Financial Burden of Paying Medical Bills, 2010 50%402030100 33% 8% 15% 27% 5% InsuredUninsured Had problem paying medical bills Changed way of life significantly to pay medical bills Contacted by collection agency about medical bills The Consequences of Being Uninsured

29. Health Care in Other Countries The United States differs from other wealthy countries in its heavy dependence on private health insurance and its high health care spending per person. Compared with other wealthy countries, the U.S. system has much higher costs. The higher costs do not necessarily imply better care.

30. Health Care in Other Countries Some countries, such as Canada, have a single-payer system. A single-payer system is a health care system in which the government is the principal payer of medical bills funded through taxes.

31. Health Care in Other Countries

32. Medicaid and SCHIP 20 15 10 5 0 –5 Change (millions) Employment-based coverage PopulationUninsured 24.8 –9.7 18.2 12.2 Changes in Health Insurance Status, 2000–2009

33. Health care expenditure (percent of GDP) Year 2009 20001990 19801970 1960 20% 15 10 5 Rising Health Care Costs

34. The Debate Over the Welfare State The debates over the welfare state include the following questions and concerns: about how large the welfare state should be philosophical concerns about government involvement about the trade-off between efficiency and equity that high marginal tax rates to finance an extensive welfare state can reduce the incentive to work that means-testing programs to reduce the cost of the welfare state also reduce the incentive to work

35. The Debate Over the Welfare State

36. VIDEO  PBS NewsHour with Paul Solman: Do Social Safety Net Programs Shrink Gap in U.S. Economic Inequality?  As part of Paul Solman's reporting on Making Sen$e of financial news, NewsHour has been airing a series on economic inequality.  The widening wealth gap in America was examined in a past report, but economist Bob Lerman says those data are flawed because they do not include the value of Social Security and health insurance.  http://www.pbs.org/newshour/bb/business/july- dec11/inequality_09-21.html http://www.pbs.org/newshour/bb/business/july- dec11/inequality_09-21.html

37. Summary 1.The welfare state absorbs a large share of government spending in all wealthy countries. Government transfers are the payments made by the government to individuals and families. Poverty programs alleviate income inequality by helping the poor; social insurance programs alleviate economic insecurity.

38. Summary 2.The poverty threshold is adjusted according to the cost of living, but not according to the standard of living. The average American income has risen substantially over those 30 years. However, the poverty rate in the United States — the percentage of the population with an income below the poverty threshold—is no lower than it was 30 years ago. There are various causes of poverty: lack of education, the legacy of discrimination, and bad luck.

39. Summary 3.Median household income, the income of a family at the center of the income distribution, is a better indicator of the income of the typical household than mean household income because it is not distorted by the inclusion of a small number of very wealthy households. The Gini coefficient, a number that summarizes a country’s level of income inequality based on how unequally income is distributed across quintiles, is used to compare income inequality across countries.

40. Summary 4.Both means-tested programs and non-means-tested programs reduce poverty. The major in-kind benefits programs are Medicare and Medicaid, which pay for medical care. Because of concerns about the effects on incentives to work and on family cohesion, aid to poor families has become significantly less generous even as the negative income tax has become more generous. Social Security, the largest U.S. welfare state program, has significantly reduced poverty among the elderly. Unemployment insurance is also a key social insurance program.

41. Summary 5.Health insurance satisfies an important need because most families cannot afford expensive medical treatment. Private health insurance, unless it is employment-based, has the potential to fall into an adverse selection death spiral. Most Americans are covered by employment-based private health insurance; most of the remaining are covered by Medicare (for those 65 and older) or Medicaid (for those with low incomes).

42. Summary 6.Compared with other countries, the United States relies more heavily on private health insurance and has substantially higher health care costs per person without providing better care. Some countries have a single-payer system, a system in which the government pays most medical bills, funded through taxes.

43. Summary 7.Debates over the size of the welfare state are based on philosophical and equity-versus-efficiency considerations. 8.Politicians on the left tend to favor a bigger welfare state and those on the right oppose it. This left-right distinction is central to today’s politics. America’s two major political parties have become more polarized in recent decades, with a much clearer distinction than in the past about where their members stand on the left-right spectrum.

44. Welfare state Government transfer Poverty program Social insurance programs Poverty threshold Poverty rate Mean household income Median household income Gini coefficient Means-tested programs In-kind benefit Negative income tax Private health insurance Single-payer system Key Terms