The Tightening Grip of the Poverty Trap

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Over the past 16 years, a "safety net" has been createdfor the disadvantaged and unemployed in our society. Foodstamps, rent subsidies, medical care, and direct income supplements in the form of Aid to Families with Dependent Children(AFDC) are available to alleviate the worst hardships of poverty. Since 1968 transfer payments to persons have increasedmore than sevenfold, to $403 billion; even after adjusting forinflation, transfer payments have more than doubled in thisperiod. Although much of this increase has occurred in SocialSecurity and other government-funded retirement programs, thegrowth in transfer-payment programs aimed specifically at thepoor and disadvantaged tells much the same story. In 1983expenditures for AFDC, food stamps, and the like [1] totaled$105.6 billion -- nearly three times the amount in constantdollars spent in 1968 (figure 1).

Nonetheless, in the government's persistent effort toachieve parsimony in conjunction with fairness and equity,each of these programs has stringent criteria for its recipients. For people who receive AFDC, for example, there is anincome test that, after four months, reduces this benefit,dollar for dollar, on any earned income above $75 per month.AFDC benefits can be sheltered from this 100 percent tax byexpending the same amount in earned income on child care.Similar means test and income test strictures apply to recipients of food stamps, housing subsidies, unemployment compensation, and the like. These criteria of eligibility aredesigned to ensure that only the truly needy receive the helpthey so desperately lack. Excluding people in progressivelyhigher income groups means that funds are not squandered onthose who are less in need.

Although these means, retirement, income, unemployment,and other needs tests may be rationalized on both moral andbudgetary grounds, they have marked adverse effects on theeconomic incentives of the poor. When combined with payrolland income taxes, the phased reduction of welfare benefitsmeans that spendable income actually rose very little as grosswages increased to $1,600 per month (at least in our Los Angelescase study). With the tightening of eligibility requirementsfor food stamps and AFDC by the Reagan Administration spendableincome (total spending power) actually declines as gross wagesrise to $1,300 per month.

Arthur Laffer

Arthur B. Laffer is Charles B. Thornton Professor of Business Economics at the University of Southern California.