How to Reduce Poverty & Inequality at No Cost

One simple way to reduce poverty and inequality with no costs to the federal budget and no significant adverse impacts on employment is to combine a modest increase in the minimum wage with some improvements in the Earned Income Tax Credit (EITC).

The minimum wage hasn’t kept pace with inflation or with average wages in the economy as a whole. The result: a single parent who works full-time at a minimum wage job earns less than $15,000 a year, hardly enough to support her family, especially after deducting payroll taxes and work-related expenses such as child care. By raising the minimum wage to, say, $10.10 she will be a lot better off, earning a little over $20,000. a year.

While a higher minimum wage will help to boost earnings, critics worry about its effects on hiring, arguing that employers will create fewer jobs if they have to pay higher wages. Although past increases do not appear to have adversely affectedemployment, there is no denying the risk that much larger increases might pose to the job prospects of the least skilled.Raising the minimum from its current $7.25 to $15.00 per hour, as some have advocated, would more than double the cost to an employer and likely have some impact on hiring. Second, a higher minimum isn’t well targeted on just the poor. Many of the people who would benefit from a higher minimum are secondary workers from more advantaged families. Less than one-fifth are poor.

For these reasons a better option is to combine some increase in the minimum with an expanded EITC. The EITC is well-targeted on those who most need assistance. Moreover, because it is paid to the employee as a refundable tax credit, it does not place any new burdens on employers.

But if it’s so well targeted and doesn’t affect employer hiring, why not rely on the EITC alone and forget about the minimum wage? We could do that except that an expanded EITC would cost tens of billions of dollars – unlikely to be approved in today’s fiscally constrained environment. Moreover, as currently designed, although it clearly encourages work, it may discourage marriage, or encourage unwed childbearing. (Empirical evidence for the last two effects is lacking but they remain a concern.) It also does too little to help the parents of very young children. These are precisely the families with the highest child care costs and the ones whose children are most likely to be adversely affected by poverty. Finally, the current EITC does almost nothing for childless workers.

For these reasons I, along with a colleague at Brookings, have proposed to reform the EITC and combine it with a somewhat higher minimum.

Our proposal lifts 3.4 million people out of poverty and actually ends up costing the government less than current policy. How can that be? The reason is because higher wages in the private sector reduce dependence on government benefits such as Food Stamps and raise tax revenues. In fact, our estimate of government savings is very conservative because we were not able to estimate all of the “offsets” from making people more self-sufficient.

In the end, we can either keep less skilled workers at poverty-level wages and pay for supplemental benefits through the tax system or we can pay a little more for the goods and serviceslow-wage workers produce (the assumption being that a higher minimum will eventually be felt by consumers in higher prices).

Our plan is about as close to a win-win situation as one can get when talking about these issues: less poverty, lower budget costs, no significant adverse effects on employers, more working Americans.

Of course, it isn’t perfect. If you don’t like paying just a little more for your Big Mac, you might want to lodge a protest.