This is the second in a series of posts on this blog addressing issues that have come up during the campaign of the candidates for the Democratic nomination for president, and which specifically came up in the October 15 Democratic debate. As flagged in the previous blog post, one can find a transcript of the debate at the Washington Post website, and a video of the debate at the CNN website.
This post will address Andrew Yang’s proposal of a $1,000 per month grant for every adult American (which I will mostly refer to here as a $12,000 grant per year). This policy is called a universal basic income (or UBI), and has been explored in a few other countries as well. It has received increased attention in recent years, in part due to the sharp growth in income inequality in the US of recent decades, that began around 1980. If properly designed, such a $12,000 grant per adult per year could mark a substantial redistribution of income. But the degree of redistribution depends directly on how the funding would be raised. As we will discuss below, Yang’s specific proposals for that are problematic. There are also other issues with such a program which, even if well designed, calls into question whether it would be the best approach to addressing inequality. All this will be discussed below.
First, however, it is useful to address two misconceptions that appear to be widespread. One is that many appear to believe that the $12,000 per adult per year would not need to come from somewhere. That is, everyone would receive it, but no one would have to provide the funds to pay for it. That is not possible. The economy produces so much, whatever is produced accrues as incomes to someone, and if one is to transfer some amount ($12,000 here) to each adult then the amounts so transferred will need to come from somewhere. That is, this is a redistribution. There is nothing wrong with a redistribution, if well designed, but it is not a magical creation of something out of nothing.
The other misconception, and asserted by Yang as the primary rationale for such a $12,000 per year grant, is that a “Fourth Industrial Revolution” is now underway which will lead to widespread structural unemployment due to automation. This issue was addressed in the previous post on this blog, where I noted that the forecast job losses due to automation in the coming years are not out of line with what has been the norm in the US for at least the last 150 years. There has always been job disruption and turnover, and while assistance should certainly be provided to workers whose jobs will be affected, what is expected in the years going forward is similar to what we have had in the past.
It is also a good thing that workers should not be expected to rely on a $12,000 per year grant to make up for a lost job. Median earnings of a full-time worker was an estimated $50,653 in 2018, according to the Census Bureau. A grant of $12,000 would not go far in making up for this.
So the issue is one of redistribution, and to be fair to Yang, I should note that he posts on his campaign website a fair amount of detail on how the program would be paid for. I make use of that information below. But the numbers do not really add up, and for a candidate who champions math (something I admire), this is disappointing.
B. Yang’s Proposal of a $1,000 Monthly Grant to All Americans
First of all, the overall cost. This is easy to calculate, although not much discussed. The $12,000 per year grant would go to every adult American, who Yang defines as all those over the age of 18. There were very close to 250 million Americans over the age of 18 in 2018, so at $12,000 per adult the cost would be $3.0 trillion.
This is far from a small amount. With GDP of approximately $20 trillion in 2018 ($20.58 trillion to be more precise), such a program would come to 15% of GDP. That is huge. Total taxes and revenues received by the federal government (including all income taxes, all taxes for Social Security and Medicare, and everything else) only came to $3.3 trillion in FY2018. This is only 10% more than the $3.0 trillion that would have been required for Yang’s $12,000 per adult grants. Or put another way, taxes and other government revenues would need almost to be doubled (raised by 91%) to cover the cost of the program. As another comparison, the cost of the tax cuts that Trump and the Republican leadership rushed through Congress in December 2017 was forecast to be an estimated $150 billion per year. That was a big revenue loss. But the Yang proposal would cost 20 times as much.
With such amounts to be raised, Yang proposes on his campaign website a number of taxes and other measures to fund the program. One is a value-added tax (VAT), and from his very brief statements during the debates but also in interviews with the media, one gets the impression that all of the program would be funded by a value-added tax. But that is not the case. He in fact says on his campaign website that the VAT, at the rate and coverage he would set, would raise only about $800 billion. This would come only to a bit over a quarter (27%) of the $3.0 trillion needed. There is a need for much more besides, and to his credit, he presents plans for most (although not all) of this.
So what does he propose specifically?:
a) A New Value-Added Tax:
First, and as much noted, he is proposing that the US institute a VAT at a rate of 10%. He estimates it would raise approximately $800 billion a year, and for the parameters for the tax that he sets, that is a reasonable estimate. A VAT is common in most of the rest of the world as it is a tax that is relatively easy to collect, with internal checks that make underreporting difficult. It is in essence a tax on consumption, similar to a sales tax but levied only on the added value at each stage in the production chain. Yang notes that a 10% rate would be approximately half of the rates found in Europe (which is more or less correct – the rates in Europe in fact vary by country and are between 17 and 27% in the EU countries, but the rates for most of the larger economies are in the 19 to 22% range).
A VAT is a tax on what households consume, and for that reason a regressive tax. The poor and middle classes who have to spend all or most of their current incomes to meet their family needs will pay a higher share of their incomes under such a tax than higher-income households will. For this reason, VAT systems as implemented will often exempt (or tax at a reduced rate) certain basic goods such as foodstuffs and other necessities, as such goods account for a particularly high share of the expenditures of the poor and middle classes. Yang is proposing this as well. But even with such exemptions (or lower VAT rates), a VAT tax is still normally regressive, just less so.
Furthermore, households will in the end be paying the tax, as prices will rise to reflect the new tax. Yang asserts that some of the cost of the VAT will be shifted to businesses, who would not be able, he says, to pass along the full cost of the tax. But this is not correct. In the case where the VAT applies equally to all goods, the full 10% will be passed along as all goods are affected equally by the now higher cost, and relative prices will not change. To the extent that certain goods (such as foodstuffs and other necessities) are exempted, there could be some shift in demand to such goods, but the degree will depend on the extent to which they are substitutable for the goods which are taxed. If they really are necessities, such substitution is likely to be limited.
A VAT as Yang proposes thus would raise a substantial amount of revenues, and the $800 billion figure is a reasonable estimate. This total would be on the order of half of all that is now raised by individual income taxes in the US (which was $1,684 billion in FY2018). But one cannot avoid that such a tax is paid by households, who will face higher prices on what they purchase, and the tax will almost certainly be regressive, impacting the poor and middle classes the most (with the extent dependent on how many and which goods are designated as subject to a reduced VAT rate, or no VAT at all). But whether regressive or not, everyone will be affected and hence no one will actually see a net increase of $12,000 in purchasing power from the proposed grant Rather, it will be something less.
b) A Requirement to Choose Either the $12,000 Grants, or Participation in Existing Government Social Programs
Second, Yang’s proposal would require that households who currently benefit from government social programs, such as for welfare or food stamps, would be required to give up those benefits if they choose to receive the $12,000 per adult per year. He says this will lead to reduced government spending on such social programs of $500 to $600 billion a year.
There are two big problems with this. The first is that those programs are not that large. While it is not fully clear how expansive Yang’s list is of the programs which would then be denied to recipients of the $12,000 grants, even if one included all those included in what the Congressional Budget Office defines as “Income Security” (“unemployment compensation, Supplemental Security Income, the refundable portion of the earned income and child tax credits, the Supplemental Nutrition Assistance Program [food stamps], family support, child nutrition, and foster care”), the total spent in FY2018 was only $285 billion. You cannot save $500 to $600 billion if you are only spending $285 billion.
Second, such a policy would be regressive in the extreme. Poor and near-poor households, and only such households, would be forced to choose whether to continue to receive benefits under such existing programs, or receive the $12,000 per adult grant per year. If they are now receiving $12,000 or more in such programs per adult household member, they would receive no benefit at all from what is being called a “universal” basic income grant. To the extent they are now receiving less than $12,000 from such programs (per adult), they may gain some benefit, but less than $12,000 worth. For example, if they are now receiving $10,000 in benefits (per adult) from current programs, their net gain would be just $2,000 (setting aside for the moment the higher prices they would also now need to pay due to the 10% VAT). Furthermore, only the poor and near-poor who are being supported by such government programs will see such an effective reduction in their $12,000 grants. The rich and others, who benefit from other government programs, will not see such a cut in the programs or tax subsidies that benefit them.
c) Savings in Other Government Programs
Third, Yang argues that with his universal basic income grant, there would be a reduction in government spending of $100 to $200 billion a year from lower expenditures on “health care, incarceration, homelessness services and the like”, as “people would be able to take better care of themselves”. This is clearly more speculative. There might be some such benefits, and hopefully would be, but without experience to draw on it is impossible to say how important this would be and whether any such savings would add up to such a figure. Furthermore, much of those savings, were they to follow, would accrue not to the federal government but rather to state and local governments. It is at the state and local level where most expenditures on incarceration and homelessness, and to a lesser degree on health care, take place. They would not accrue to the federal budget.
d) Increased Tax Revenues From a Larger Economy
Fourth, Yang states that with the $12,000 grants the economy would grow larger – by 12.5% he says (or $2.5 trillion in increased GDP). He cites a 2017 study produced by scholars at the Roosevelt Institute, a left-leaning non-profit think tank based in New York, which examined the impact on the overall economy, under several scenarios, of precisely such a $12,000 annual grant per adult.
There are, however, several problems:
i) First, under the specific scenario that is closest to the Yang proposal (where the grants would be funded through a combination of taxes and other actions), the impact on the overall economy forecast in the Roosevelt Institute study would be either zero (when net distribution effects are neutral), or small (up to 2.6%, if funded through a highly progressive set of taxes).
ii) The reason for this result is that the model used by the Roosevelt Institute researchers assumes that the economy is far from full employment, and that economic output is then entirely driven by aggregate demand. Thus with a new program such as the $12,000 grants, which is fully paid for by taxes or other measures, there is no impact on aggregate demand (and hence no impact on economic output) when net distributional effects are assumed to be neutral. If funded in a way that is not distributionally neutral, such as through the use of highly progressive taxes, then there can be some effect, but it would be small.
In the Roosevelt Institute model, there is only a substantial expansion of the economy (of about 12.5%) in a scenario where the new $12,000 grants are not funded at all, but rather purely and entirely added to the fiscal deficit and then borrowed. And with the current fiscal deficit now about 5% of GDP under Trump (unprecedented even at 5% in a time of full employment, other than during World War II), and the $12,000 grants coming to $3.0 trillion or 15% of GDP, this would bring the overall deficit to 20% of GDP!
Few economists would accept that such a scenario is anywhere close to plausible. First of all, the current unemployment rate of 3.5% is at a 50 year low. The economy is at full employment. The Roosevelt Institute researchers are asserting that this is fictitious, and that the economy could expand by a substantial amount (12.5% in their scenario) if the government simply spent more and did not raise taxes to cover any share of the cost. They also assume that a fiscal deficit of 20% of GDP would not have any consequences, such as on interest rates. Note also an implication of their approach is that the government spending could be on anything, including, for example, the military. They are using a purely demand-led model.
iii) Finally, even if one assumes the economy will grow to be 12.5% larger as a result of the grants, even the Roosevelt Institute researchers do not assume it will be instantaneous. Rather, in their model the economy becomes 12.5% larger only after eight years. Yang is implicitly assuming it will be immediate.
There are therefore several problems in the interpretation and use of the Roosevelt Institute study. Their scenario for 12.5% growth is not the one that follows from Yang’s proposals (which is funded, at least to a degree), nor would GDP jump immediately by such an amount. And the Roosevelt Insitute model of the economy is one that few economists would accept as applicable in the current state of the economy, with its 3.5% unemployment.
But there is also a further problem. Even assuming GDP rises instantly by 12.5%, leading to an increase in GDP of $2.5 trillion (from a current $20 trillion), Yang then asserts that this higher GDP will generate between $800 and $900 billion in increased federal tax revenue. That would imply federal taxes of 32 to 36% on the extra output. But that is implausible. Total federal tax (and all other) revenues are only 17.5% of GDP. While in a progressive tax system the marginal tax revenues received on an increase in income will be higher than at the average tax rate, the US system is no longer very progressive. And the rates are far from what they would need to be twice as high at the margin (32 to 36%) as they are at the average (17.5%). A more plausible estimate of the increased federal tax revenues from an economy that somehow became 12.5% larger would not be the $800 to $900 billion Yang calculates, but rather about half that.
Might such a universal basic income grant affect the size of the economy through other, more orthodox, channels? That is certainly possible, although whether it would lead to a higher or to a lower GDP is not clear. Yang argues that it would lead recipients to manage their health better, to stay in school longer, to less criminality, and to other such social benefits. Evidence on this is highly limited, but it is in principle conceivable in a program that does properly redistribute income towards those with lower incomes (where, as discussed above, Yang’s specific program has problems). Over fairly long periods of time (generations really) this could lead to a larger and stronger economy.
But one will also likely see effects working in the other direction. There might be an increase in spouses (wives usually) who choose to stay home longer to raise their children, or an increase in those who decide to retire earlier than they would have before, or an increase in the average time between jobs by those who lose or quit from one job before they take another, and other such impacts. Such impacts are not negative in themselves, if they reflect choices voluntarily made and now possible due to a $12,000 annual grant. But they all would have the effect of reducing GDP, and hence the tax revenues that follow from some level of GDP.
There might therefore be both positive and negative impacts on GDP. However, the impact of each is likely to be small, will mostly only develop over time, and will to some extent cancel each other out. What is likely is that there will be little measurable change in GDP in whichever direction.
e) Other Taxes
Fifth, Yang would institute other taxes to raise further amounts. He does not specify precisely how much would be raised or what these would be, but provides a possible list and says they would focus on top earners and on pollution. The list includes a financial transactions tax, ending the favorable tax treatment now given to capital gains and carried interest, removing the ceiling on wages subject to the Social Security tax, and a tax on carbon emissions (with a portion of such a tax allocated to the $12,000 grants).
What would be raised by such new or increased taxes would depend on precisely what the rates would be and what they would cover. But the total that would be required, under the assumption that the amounts that would be raised (or saved, when existing government programs are cut) from all the measures listed above are as Yang assumes, would then be between $500 and $800 billion (as the revenues or savings from the programs listed above sum to $2.2 to $2.5 trillion). That is, one might need from these “other taxes” as much as would be raised by the proposed new VAT.
But as noted in the discussion above, the amounts that would be raised by those measures are often likely to be well short of what Yang says will be the case. One cannot save $500 to $600 billion in government programs for the poor and near-poor if government is spending only $285 billion on such programs, for example. A more plausible figure for what might be raised by those proposals would be on the order of $1 trillion, mostly from the VAT, and not the $2.2 to $2.5 trillion Yang says will be the case.
C. An Assessment
Yang provides a fair amount of detail on how he would implement a universal basic income grant of $12,000 per adult per year, and for a political campaign it is an admirable amount of detail. But there are still, as discussed above, numerous gaps that prevent anything like a complete assessment of the program. But a number of points are evident.
To start, the figures provided are not always plausible. The math just does not add up, and for someone who extolls the need for good math (and rightly so), this is disappointing. One cannot save $500 to $600 billion in programs for the poor and near-poor when only $285 billion is being spent now. One cannot assume that the economy will jump immediately by 12.5% (which even the Roosevelt Institute model forecasts would only happen in eight years, and under a scenario that is the opposite of that of the Yang program, and in a model that few economists would take as credible in any case). Even if the economy did jump by so much immediately, one would not see an increase of $800 to $900 billion in federal tax revenues from this but rather more like half that. And other such issues.
But while the proposal is still not fully spelled out (in particular on which other taxes would be imposed to fill out the program), we can draw a few conclusions. One is that the one group in society who will clearly not gain from the $12,000 grants is the poor and near-poor, who currently make use of food stamp and other such programs and decide to stay with those programs. They would then not be eligible for the $12,000 grants. And keep in mind that $12,000 per adult grants are not much, if you have nothing else. One would still be below the federal poverty line if single (where the poverty line in 2019 is $12,490) or in a household with two adults and two or more children (where the poverty line, with two children, is $25,750). On top of this, such households (like all households) will pay higher prices for at least some of what they purchase due to the new VAT. So such households will clearly lose.
Furthermore, those poor or near-poor households who do decide to switch, thus giving up their eligibility for food stamps and other such programs, will see a net gain that is substantially less than $12,000 per adult. The extent will depend on how much they receive now from those social programs. Those who receive the most (up to $12,000 per adult), who are presumably also most likely to be the poorest among them, will lose the most. This is not a structure that makes sense for a program that is purportedly designed to be of most benefit to the poorest.
For middle and higher-income households the net gain (or loss) from the program will depend on the full set of taxes that would be needed to fund the program. One cannot say who will gain and who will lose until the structure of that full set of taxes is made clear. This is of course not surprising, as one needs to keep in mind that this is a program of redistribution: Funds will be raised (by taxes) that disproportionately affect certain groups, to be distributed then in the $12,000 grants. Some will gain and some will lose, but overall the balance has to be zero.
One can also conclude that such a program, providing for a universal basic income with grants of $12,000 per adult, will necessarily be hugely expensive. It would cost $3 trillion a year, which is 15% of GDP. Funding it would require raising all federal tax and other revenue by 91% (excluding any offset by cuts in government social programs, which are however unlikely to amount to anything close to what Yang assumes). Raising funds of such magnitude is completely unrealistic. And yet despite such costs, the grants provided of $12,000 per adult would be poverty level incomes for those who do not have a job or other source of support.
One could address this by scaling back the grant, from $12,000 to something substantially less, but then it becomes less meaningful to an individual. The fundamental problem is the design as a universal grant, to all adults. While this might be thought to be politically attractive, any such program then ends up being hugely expensive.
The alternative is to design a program that is specifically targeted to those who need such support. Rather than attempting to hide the distributional consequences in a program that claims to be universal (but where certain groups will gain and certain groups will lose, once one takes fully into account how it will be funded), make explicit the redistribution that is being sought. With this clear, one can then design a focussed program that addresses that redistribution aim.
Finally, one should recognize that there are other policies as well that might achieve those aims that may not require explicit government-intermediated redistribution. For example, Senator Cory Booker in the October 15 debate noted that a $15 per hour minimum wage would provide more to those now at the minimum wage than a $12,000 annual grant. This remark was not much noted, but what Senator Booker said was true. The federal minimum wage is currently $7.25 per hour. This is low – indeed, it is less (in real terms) than what it was when Harry Truman was president. If the minimum wage were raised to $15 per hour, a worker now at the $7.25 rate would see an increase in income of $15.00 – $7.25 = $7.75 per hour, and over a year of 40 hour weeks would see an increase in income of $7.75 x 40 x 52 = $16,120.00. This is well more than a $12,000 annual grant would provide.
Republican politicians have argued that raising the minimum wage by such a magnitude will lead to widespread unemployment. But there is no evidence that changes in the minimum wage that we have periodically had in the past (whether federal or state level minimum wages) have had such an adverse effect. There is of course certainly some limit to how much it can be raised, but one should recognize that the minimum wage would now be over $24 per hour if it had been allowed to grow at the same pace as labor productivity since the late 1960s.
Income inequality is a real problem in the US, and needs to be addressed. But there are problems with Yang’s specific version of a universal basic income. While one may be able to fix at least some of those problems and come up with something more reasonable, it would still be massively disruptive given the amounts to be raised. And politically impossible. A focus on more targeted programs, as well as on issues such as the minimum wage, are likely to prove far more productive.