Note: Problems traditionally associated with the Negative Income Tax will be minimized by the capital diffusion and interest-free money concepts of our Just Third Way.

by Amarnath Santhanam

Poverty is relative. In absolute terms, the poorest of the poor today are far better off than even fairly wealthy people were 200 years ago, thanks to the meteoric rise in prosperity since the Industrial Revolution. However, this increase in prosperity has served to accentuate the conditions in which those at the bottom of society must live, even if these conditions have been improving. Therefore, poverty is a problem from which humanity is simply unable to escape. A wide variety of private charity schemes have arisen, and although many are successful, the scope of the problem of poverty is so large that it has still not adequately been addressed. Starting with the New Deal programs of the 1930s and the Great Society programs of the 1960s, the federal government began to take on increasing responsibilities in alleviating poverty. Since declaring a “War on Poverty” in 1964, we have spent over $3.5 trillion trying to ease the plight of the poor.1 What do we have to show for this effort? In addition to a poverty rate that has actually slightly increased, we have increased illegitimacy, dependence on the government, and crime among those who have become trapped in the welfare state.2 As early as 1962, a far more practical alternative for the alleviation of poverty was suggested by Milton Friedman, a Nobel laureate in economics. He proposed a negative income tax which would set a floor under the level to which one’s income would be permitted to fall. In essence, everyone would be guaranteed a minimum income.3

There are two main kinds of poverty. First, there is poverty that afflicts people who don’t hold jobs. This affects both people who are unable to work due to disability, age, lack of qualifications, and so on, and people who can’t work because there aren’t enough jobs for everyone to find employment. The second kind of poverty affects those who do work, but who don’t have an income high enough to put themselves or their families above the poverty line. These people make up the so-called “working poor.”

The United States federal government has created a plethora of programs to ameliorate primarily the first type of poverty. Public housing, food stamps, Aid to Families with Dependent Children, and many other programs all target the first type of poverty. However, these programs, collectively referred to as “welfare,” have had extremely detrimental and perverse effects upon the communities they are supposed to serve. Generation after generation is becoming trapped in poverty because families are being paid to have children, although this changed after the Republican welfare reform measures passed during the Clinton administration. Still, though, inner-city communities mainly composed of minorities have been torn apart by welfare. The federal government has replaced fathers in many households. Illegitimacy continues to rise as young women see welfare as the route to financial independence. Families on welfare are coming to be increasingly dependent on the government for survival, rather than using welfare as a temporary measure. Crime is increasing because of young males being raised without the stabilizing influence of fathers in their lives. When all things are considered, federal welfare programs have not adequately addressed the plight of the poor, they have only worsened it. The welfare reform measures passed recently have helped some, but they also show how far we have strayed from the initial goal. Welfare reform was considered successful when caseloads were reduced, not when poverty was reduced.4

Federal welfare programs to almost nothing for those in the second category of poverty, the “working poor.” In fact, welfare encourages people to stop working and enter the first category of poverty, because in many states a comprehensive welfare package pays far more annually than an entry-level job. People who are able to work but choose to remain dependent on welfare are often making a rational economic decision.5 There is one exception to this rule about federal welfare programs: the Earned Income Tax Credit. The EITC is a partial implementation of Milton Friedman’s negative income tax plan. It gives rebates to those people who are working but who are still poor. It is one of the only federal programs that deals with the second type of poverty, yet, strangely enough, politicians have actually been trying to cut back on the EITC in recent years.6

The ideal solution to poverty is private charity. Private charity is more flexible than, and has a much higher success rate than, government assistance. However, it is unrealistic to expect to go from the huge welfare state currently in operation in the United States to a system of completely private charity overnight. Often, expansions in government social spending come at the expense of private charitable contributions, so the private infrastructure to take over from the government simply is not present. In addition, it can be argued that there is a role for the government in eliminating poverty. The reduction of poverty is a neighborhood effect or a positive externality. Only some people need to pay, but everyone benefits. Some people might be willing to pay if they are sure that others will pay as well, hence government action on behalf of the whole of society might be justifiable.7

This government action should have as its goal the elimination of poverty. It should use Milton Friedman’s negative income tax as a model for its implementation, essentially extending the EITC to cover those who don’t work. It should replace, not add to, all the current federal welfare spending. Cash grants targeted at the poor don’t distort market incentives as much as other programs. They don’t require a huge, wasteful federal bureaucracy to run. Finally, they help the poor simply because they are poor, not because they are members of any special interest group. In 1961, the government spent $33 billion dollars on various social programs. As outright cash grants, this money could have raised the income of the lowest 10% above the average income for the entire country.8 In 1990, the government spent $210 billion on welfare, which would have raised the income of every person below the poverty line to just under that line.9 In 1994, total government welfare spending averaged $35, 756 for every family of four below the poverty line.10 Clearly, the immense funds being spent on the poor are not effectively reaching them. In 1965, 70 cents of every dollar spent by the government to fight poverty went directly to the poor. In 1995, 70 cents of every dollar went to support the government bureaucracy that has grown up around welfare programs.11 The money to solve the problem of poverty is already being spent, but we are not effectively spending it.

A negative income tax would work something like this: a threshold level, say $30,000, is set. Above this level, income begins to be taxed. This is similar to our present system, except that we have graduated tax levels and therefore multiple income thresholds. Below the $30,000 threshold, instead of paying nothing, taxpayers would get a rebate. Set the negative rate at something like 50%, and someone with no income would get $15,000 from the government. This would be the minimum income of anyone in the country. As someone started to work, the beauty of the negative income tax is that even though the subsidy is reduced as income rises, a dollar of extra income always means more income to spend. Economic incentives are still distorted, but not nearly as much as they are with current welfare programs. If someone’s salary was $10,000, he would get a $10,000 check from the government, so his total income would actually be $20,000. Someone whose salary was $20,000 would actually get $25,000, and once the salary increased to $30,000, the subsidy would drop to zero and real income would be $30,000. Beyond this, the tax rate would become positive. All the numbers used in this example are just that, examples, with no relation to the real world. However, a negative income tax system would work exactly like the one outlined here even if the numbers were different.12

The negative income tax might seem to be a socialist arrangement to some. Indeed, it has support from people like the Green Party. However, by not setting the threshold level of income too high, by maintaining a focus of private charity as the best way to deal with poverty, and by not imposing too high of a tax burden on the rest of society to support the poor, the negative income tax can be implemented in line with classical liberal principles. There is a marked philosophical difference between the top 90% of society imposing taxes on itself to help the bottom 10% and the middle 80% imposing taxes on the top 10% in order to help the bottom 10%. The former is democratic and liberal, the latter is authoritarian and socialist. The only way to avoid falling into this trap is to, as Milton Friedman himself said, “rely on the self-restraint and good will of the electorate.”13

Something like the negative income tax has been proposed in the past by three American Presidents. The proposals ultimately failed because they imposed too great a burden on the taxpayer. This is because the proposals were to supplement current welfare programs with a negative income tax, rather than replace all welfare programs with a negative income tax.14 However, the success of the Earned Income Tax Credit shows that it is possible to implement a negative-income-tax-like scheme in American society. The proposal is still extremely difficult to implement and very controversial, due to the vested interests in maintaining the massive federal welfare bureaucracy, and the extent to which Americans have gotten used to federal welfare programs and the expansion thereof as the solution to poverty. Still, the negative income tax has a chance to succeed. Nobody likes poverty, especially poverty among those who are actually working very hard. A sound and sensible method of reducing and eventually eliminating poverty can gain enough support among the electorate to finally be implemented.

A negative income tax will not be cheap. However, the initial costs will be no more than what is already being spent on social programs by the federal government. In the long run, as the problem of poverty starts to actually be solved rather than stagnating, and as private charity increases to fill the gap, the costs of the measure should fall. The social costs of not scrapping welfare and implementing a negative income tax are huge. Welfare has already been shown to have a massively detrimental effect upon the poor while not actually doing much to improve their condition. Increasing illegitimacy, dependence, and crime lead to calls for increased federal spending on welfare, which in turn feeds the vicious cycle. Welfare is destroying our inner-city and poor communities, something we cannot afford to allow for much longer.

The founder of the modern welfare state in the United States once said, “Continued dependence on relief induces a spiritual and moral disintegration fundamentally destructive to the national fiber. To dole out relief in this way is to administer a narcotic, a subtle destroyer of the human spirit.”15 The speaker was, of course, Franklin Delano Roosevelt. It is time that we heed his advice. Federal welfare programs have not achieved their goal, and the “War on Poverty” is going the way of the War on Drugs. A truly compassionate society and a people with a conscience cannot allow the suffering of the poor to continue. We must implement a truly effective solution to poverty, and that solution is the negative income tax.

Notes

1. Michael Tanner, “Welfare Reform,” Testimony before the Senate Finance Committee, March 9, 1995.
2. Tanner.
3. Milton Friedman, Capitalism and Freedom, Chicago: University of Chicago Press, 1962, p. 192.
4. Tanner.
5. Stephen Moore, “A success to trumpet, and protect,” National Review, New York, February 21, 2000.
6. Moore.
7. Friedman p. 191.
8. Friedman p. 193.
9. Charles Murray, “What to do about welfare,” Commentary, New York, December 1994.
10. Tanner.
11. Tanner.
12. Friedman p. 192.
13. Friedman p. 194.
14. Milton and Rose Friedman, Free to Choose: A Personal Statement, New York: Harcourt Brace & Company, 1980, page 124.
15. Moore.

Bibliography

Friedman, Milton. Capitalism and Freedom. Chicago: The University of Chicago Press, 1962.

Friedman, Milton and Friedman, Rose. Free to Choose: A Personal Statement. New York: Harcourt Brace & Company, 1980.

Murray, Charles. “What to do about welfare.” Commentary. New York. December 1994.

Moore, Stephen. “A success to trumpet, and protect.” National Review. New York. February 21, 2000.

Tanner, Michael. “Welfare Reform.” Testimony before the Senate Finance Committee. March 9, 1995.

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