Nineteen Neglected Consequences of Income Redistribution

from Robert Higgs:

Virtually every government action changes the personal distribution of income, but some government programs, which give money, goods, or services to individuals who give nothing in exchange, represent income redistribution in its starkest form.

Until the twentieth century, American governments steered pretty clear of such “transfer payments.” The national government gave pensions and land grants to veterans, and local governments provided food and shelter to the destitute. But the transfers to veterans can be viewed as deferred payments for military services, and local relief never amounted to much.

Since the creation of the Social Security system in 1935, especially during the past 30 years, the amount of income overtly transferred by governments has risen dramatically. In 1960 government transfer payments to persons amounted to $29 billion, or 7 percent of personal income. In 1993 the total came to $912 billion, or nearly 17 percent of personal income.¹ In other words, one dollar out of every six received as personal income now takes the form of old-age, survivors, disability, and health insurance benefits ($438 billion), unemployment insurance benefits ($34 billion), veterans’ benefits ($20 billion), government employees’ retirement benefits ($115 billion), aid to families with dependent children ($24 billion), and miscellaneous other government transfer payments ($280 billion) such as federal subsidies to farmers and state and local public assistance to poor people.

Myth versus Reality

It is tempting to think about government transfers in a simple way: one person, taxpayer T, loses a certain amount of money; another person, recipient R, gains the same amount; and everything else remains the same. When people look at income redistribution in this way, they tend to make a judgment about the desirability of the transfer simply by considering whether T or R is the more deserving. Commonly, especially when the issue is discussed in the news media or by left-liberal politicians, R is portrayed as a representative of the poor and downtrodden and T as a wealthy person or a big corporation. Opponents of the transfers then appear callous and lacking in compassion for the less fortunate.

In fact, the overwhelming portion—more than 85 percent—of all government transfer payments is not “means-tested,” that is, not reserved for low-income recipients.² The biggest share goes to the elderly as pensions and Medicare benefits, and anyone over 65 years old, rich and poor alike, can receive these benefits. Today people over 65 have the highest income per person and the highest wealth per person of any age group in the United States. Federal transfer payments to farmers present an even more extreme case of giving to those who are already relatively well off. In 1989, for example, the federal government paid about $15 billion to farmers in direct crop subsidies, and 67 percent of the money went to the owners of the largest 17 percent of the farms—in many cases payments to farmers are literally welfare for millionaires.³ It is simply a hoax that, as a rule, government is taking from the rich for the benefit of the poor. Even people who believe in the rectitude of redistribution à la Robin Hood ought to be troubled by the true character of the redistribution being effected by governments in America today.

But apart from the troubling moral questions raised by redistribution, the issue is far more complicated than ordinarily considered. Beyond the naked fact that T pays taxes to the government and the government gives goods, services, or money to R, at least 19 other consequences occur when the government redistributes income.

Neglected Consequences

1. Taxes for the purpose of income redistribution discourage the taxpayers from earning taxable income or raising the value of taxable property through investment. People who stand to lose part of their earnings respond to the altered personal payoff. As a result, they produce fewer goods and services and accumulate less wealth than they otherwise would. Hence the society is poorer, both now and later.

2. Transfer payments discourage the recipients from earning income now and from investing in their potential to earn future income. People respond to a reduced cost of idleness by choosing to be idle more often. When they can get current income without earning it, they exert less effort to earn income. When they expect to get future income without earning it, they invest less in education, training, job experience, personal health, migration, and other forms of human capital that enhance their potential to earn income in the future. Hence the society is even poorer, both now and later, than it would have been merely because taxes discourage current production and investment by the taxpayers who fund the transfers.

3. Recipients of transfers tend to become less self-reliant and more dependent on government payments. When people can get support without exercising their own abilities to discover and respond to opportunities for earning income, those abilities atrophy. People forget—or never learn in the first place—how to help themselves, and eventually some of them simply accept their helplessness. It is no accident that both material privation and lassitude distinguish individuals accustomed to living on payments such as Aid to Families with Dependent Children (AFDC).

The rest here.