This column pointed out previously that the costs of the minimum wage probably exceed its benefits. However, if as a society we are concerned with income disparity it is necessary not just to point to failed policies, but to also suggest better alternatives. The earned income tax credit, or EITC, though far from perfect, fits the bill.
Drawbacks of the minimum wage include fewer entry-level jobs for low-skilled workers and higher prices for consumers. But perhaps most significant is the fact, acknowledged even by economists sympathetic to it, that the minimum wage misses its targeted beneficiaries, impoverished working families, by a wide margin.
These are not merely right-wing talking points or think-tank-generated claims. The Congressional Budget Office (CBO) in mid-February released a detailed study that measured the likely impact of raising the federal minimum wage to $10.10.
"Once fully implemented in the second half of 2016, the $10.10 option would reduce total employment by about 500,000 workers," the study said. "The increased earnings for low-wage workers resulting from the higher minimum wage would total $31 billion, by CBO’s estimate. However, those earnings would not go only to low-income families, because many low-wage workers are not members of low-income families. Just 19 percent of the $31 billion would accrue to families with earnings below the poverty threshold, whereas 29 percent would accrue to families earning more than three times the poverty threshold."
What’s the alternative? The EITC provides a tax credit to low-income working families. Unlike other tax credits, it is refundable, so it provides a refund if the credit exceeds the taxpayer’s tax liability. Unlike other anti-poverty programs (TANF, food stamps, etc.) the EITC provides an incentive to work because at very low levels of income the credit increases as more income is earned. For example, in 2013 a married couple with two children earning a yearly income of $8,000 was eligible for a credit of $3,210, but if the family had earned $13,250 the credit would have been $5,310.
The cost of the minimum wage, while substantial, is not obvious, and is borne by a narrow segment of society, namely employers (mostly small business) and ultimately their customers. The cost of the EITC on the other hand is transparent and paid by all other taxpayers. While the minimum wage is paid to many who are not in poverty, the EITC provides a direct benefit targeted directly to poor working families. To the extent the EITC increases participation in the workforce, more goods and services are created for all of us to consume. The same cannot be said of the minimum wage, which likely reduces employment and does nothing to expand worker productivity.
The EITC has deficiencies to be sure. Its complexities resulted in improper claims that amounted to roughly 25 percent of all payments. It is also underutilized; only 75 percent of EITC-eligible taxpayers claim the credit.
On balance, however, compared to the minimum wage the EITC is a far more effective anti-poverty tool, both in terms of efficiency and fairness. The good news is that price inflation has reduced the relevance of the minimum wage while the EITC has been expanded considerably since it began in 1976.
Sound policy would allow this trend to continue, and there may be hope. President Obama has proposed expanding the EITC and Republicans generally favor it among anti-poverty measures. GOP budget hawks could insist that the IRS pursue more diligently the $12 billion in fraudulent EITC claims that occur annually (which might also serve to reverse the IRS’s recent self-inflicted damage to its image). They could further insist that if the EITC is to be expanded, the minimum wage must be left where it is, or even dismantled.
The Massachusetts state in-
come tax provides for an EITC as well, equal to 15 percent of the computed federal credit. Thoughtful legislators will consider expanding this credit instead of increasing the minimum wage.
John Barry is an investment advisor.