Monday, January 20, 2014

Welfare: Good for the Economy

  With all of the bullshit coming from the Republican side of the isle about how food stamps and unemployment checks make people ‘ lazy,’ I’d thought that I would post an article about how these government programs are good for our economy.

   This article comes from liberaldad2.

The Republicans are demanding that the government cut back spending on social welfare programs like unemployment insurance, food stamps, aid to poor families and other welfare programs.  I have always believed that a wealthy nation has an obligation to care for its least fortunate members on ethical and moral grounds, but clearly we have a disagreement with our more conservative brethren on that issue.  However, there is a purely economic argument that shows investing in our poorest individuals will pay benefits for the American economy, including America’s businesses.  Here is how it works – Economics 101.

If the government gives one dollar to a poor individual, he is going to spend it.  Maybe not all of it, but some fraction, let’s say 90 percent (10 percent goes into a savings account or some other investment).  Maybe on food or clothing or a vacation trip to Las Vegas, maybe on alcohol or drugs – from an economics perspective, it doesn’t matter.  Then the recipients of the 90 cents will also have more money to spend.  They in turn will spend 81 cents of that money in much the same way, injecting even more money into the economy.  Some fraction will go into labor and goods from their suppliers to meet the increased demand, and some will be discretionary for personal luxury items.  Then 72 cents of that 81 cents will also get respent, and so on, over and over again.

And let’s not forget taxes.  When the first recipient spends his 90 cents, he will pay sales tax.  And the recipient will pay income tax on the extra profit he makes.  That means that a substantial fraction of the one dollar that was originally spent by the government will come back in additional taxes.  Of course taxes will reduce the amount available for discretionary spending, but that can be easily accounted for.

This is called the multiplier effect.  Let’s assume that everyone in the supply chain would spend 90 percent of the money they receive and save the other 10 percent, and we also assume that the sales tax rate is 8 percent, that gross income generates taxable profit at an average of 5 percent, and that the marginal income tax rate is 28 percent.  Then the numbers show that for the $1 in government spending, $4.87 is injected into the economy, $0.54 goes into savings and tax revenues increase by $0.46.

Take a good look at those numbers.  Remarkably, the one dollar gets multiplied, increasing spending across the entire economy, mostly going directly into the private sector.  Plus the banks see a significant increase in investments, and the government gets almost half of its money back.  Note that the sum of the money saved and the money returned in taxes equals the entire original investment.  This has to be true, because the money keeps getting passed on.  In fact, if the savings rate is lower, say 5 percent instead of 10, then the multiplier is even larger.  Money injected goes to $6.82, savings drops to $0.36 and taxes increase to $0.64.  Again the sum of the savings and taxes equals the original investment.  No, this is not voodoo economics, a healthy economy really works that way.  This is how wealth is created.  Not to mention jobs.

Conversely, when the government cuts those programs and doesn’t put that money into people's hands, the same multiplier effect punishes the economy many times over.

Ironically, and sadly, the poorest people in the supply chain save the least (that's why they are poor).  If you give the same dollar to a billionaire (for example, by reducing his taxes), he won't spend much of it - it will mostly go into savings - so the multiplier gets reduced.  Giving the money to the poorest, who are most likely to go out and spend it, actually generates the greatest amount of wealth.

Of course the government has to raise the $1.00 in the first place, either through taxes or borrowing, and therein lies another tale.  But based on this example, the government really only needs to raise $0.54 (or $0.36, depending on the savings rate) in order to spend that $1.00.  There will of course be a redistribution from federal to state and local revenues, but state and local welfare programs also inject money back into federal taxes, so there is some balance.  This seems like a bargain to me.

So this looks like a no brainer – government spending on social welfare programs directly benefits businesses and banks in the private sector with a big multiplier – how could anyone who favors business object to that?  Every time a social welfare program gets cut, American businesses get another kick in the teeth because their customers have less money to spend.  And that is not voodoo, that is real.

Originally posted to liberaldad2 on Fri Jan 17, 2014