Inequality, Poverty, and Discrimination

Read this chapter for a more detailed look at the topic of income inequality and discrimination in the labor markets as these are real examples of market failures. Attempt the "Try It" problems at the end of each section before checking your answers.

3. The Economics of Poverty

3.3. Government Policy and Poverty

Consider a young single parent with three small children. The parent is not employed and has no support from other relatives. What does the government provide for the family?

The primary form of cash assistance is likely to come from a program called Temporary Assistance for Needy Families (TANF). This program began with the passage of the Personal Responsibility and Work Opportunity Reconciliation Act of 1996. It replaced Aid to Families with Dependent Children (AFDC). TANF is funded by the federal government but administered through the states. Eligibility is limited to two years of continuous payments and to five years in a person's lifetime, although 20% of a state's caseload may be exempted from this requirement.

In addition to this assistance, the family is likely to qualify for food stamps, which are vouchers that can be exchanged for food at the grocery store. The family may also receive rent vouchers, which can be used as payment for private housing. The family may qualify for Medicaid, a program that pays for physician and hospital care as well as for prescription drugs.

A host of other programs provide help ranging from counseling in nutrition to job placement services. The parent may qualify for federal assistance in attending college. The children may participate in the Head Start program, a program of preschool education designed primarily for low-income children. If the poverty rate in the area is unusually high, local public schools the children attend may receive extra federal aid. Welfare programs are the array of programs that government provides to alleviate poverty.

In addition to public sector support, a wide range of help is available from private sector charities. These may provide scholarships for education, employment assistance, and other aid.

Figure 19.5 "Welfare Programs and the Poor" shows participation rates in the major federal programs to help the poor.

Figure 19.5 Welfare Programs and the Poor

Figure 19.5

Many people who fall below the poverty line have not received aid from particular programs.

Not all people whose incomes fall below the poverty line received aid. In 2010, a substantial majority of those counted as poor received some form of aid. However, as shown in Figure 19.5 "Welfare Programs and the Poor", the percentages who were helped by individual programs were much lower. Less than 20% of people below the poverty line received some form of cash assistance in 2010. About 45% received food stamps and nearly 60% lived in a household in which one or more people received medical services through Medicaid. Only about one-seventh of the people living in poverty received some form of housing aid.

Although for the most part poverty programs are federally funded, individual states set eligibility standards and administer the programs. Allowing states to establish their own programs was a hallmark feature of the 1996 welfare reform. As state budgets have come under greater pressure, many states have tightened standards.

Cash Versus Noncash Assistance

Aid provided to people falls into two broad categories: cash and noncash assistance. Cash assistance is a money payment that a recipient can spend as he or she wishes. Noncash assistance is the provision of specific goods and services, such as food or medical services, job training, or subsidized child care rather than cash.

Noncash assistance is the most important form of aid to the poor. The large share of noncash relative to cash assistance raises two issues. First, since the poor would be better off (that is, reach a higher level of satisfaction) with cash rather than noncash assistance, why is noncash aid such a large percentage of total aid to the poor? Second, the importance of noncash assistance raises an important issue concerning the methodology by which the poverty rate is measured in the United States. We examine these issues in turn.

  1. Why Noncash Aid?
    Suppose you had a choice between receiving $515 or a television set worth $515. Neither gift is taxable. Which would you take?
    Given a choice between cash and an equivalent value in merchandise, you would probably take the cash. Unless the television set happened to be exactly what you would purchase with the $515, you could find some other set of goods and services that you would prefer to the TV set. The same is true of funds that you can spend on anything versus funds whose spending is restricted. Given a choice of $515 that you could spend on anything and $515 that you could spend only on food, which would you choose? A given pool of funds allows consumers a greater degree of satisfaction than does a specific set of goods and services.
    We can conclude that poor people who receive government aid would be better off from their own perspectives with cash grants than with noncash aid. Why, then, is most government aid given as noncash benefits?
    Economists have suggested two explanations. The first is based on the preferences of donors. Recipients might prefer cash, but the preferences of donors matter also. The donors, in this case, are taxpayers. Suppose they want poor people to have specific things - perhaps food, housing, and medical care.
    Given such donor preferences, it is not surprising to find aid targeted at providing these basic goods and services. A second explanation has to do with the political clout of the poor. The poor are not likely to be successful competitors in the contest to be at the receiving end of public sector income redistribution efforts; most redistribution goes to people who are not poor. But firms that provide services such as housing or medical care might be highly effective lobbyists for programs that increase the demand for their products. They could be expected to seek more help for the poor in the form of noncash aid that increases their own demand and profits.Students who have studied rent seeking behavior will recognize this argument. It falls within the public choice perspective of public finance theory.
  2. Poverty Management and Noncash Aid
    Only cash income is counted in determining the official poverty rate. The value of food, medical care, or housing provided through various noncash assistance programs is not included in household income. That is an important omission, because most government aid is noncash aid. Data for the official poverty rate thus do not reflect the full extent to which government programs act to reduce poverty.
    The Census Bureau estimates the impact of noncash assistance on poverty. If a typical household would prefer, say, $515 in cash to $515 in food stamps, then $515 worth of food stamps is not valued at $515 in cash. Economists at the Census Bureau adjust the value of noncash aid downward to reflect an estimate of its lesser value to households. Suppose, for example, that given the choice between $515 in food stamps and $475 in cash, a household reports that it is indifferent between the two - either would be equally satisfactory. That implies that $515 in food stamps generates satisfaction equal to $475 in cash; the food stamps are thus "worth" $475 to the household.