The Economics of Poverty

Kevin Furey

• Publisher: Chemeketa Press
• Year: 2019
• ISBN:
  9781943536863
• Topic: Economia
• Subtopic: Teoria economica

The goal of this introductory economics textbook is to use economic analysis to determine the causes and solutions to one of the United States' most vexing social problems—poverty. Using examples of orthodox and heterodox economic theories, The Economics of Poverty fills a gap in the traditional discussion around poverty, focusing on how our economy contributes to and can solve the problem of poverty. Unlike many Economics textbooks, this book is written in plain language that welcomes readers into the complex conversation about poverty.Relying on current data and helpful graphs and charts, The Economics of Poverty provides students with a lens through which to view the complexities of poverty as a social problem with economic roots. This in-depth exploration of two major economic theories' response to poverty models the behavior of actual economists, who must do more than just crunch the numbers in their search for answers. Students learn how to think like an economist and use the common toolset from a friendly voice.

1

Finding Solutions to Poverty

“I am, somehow, less interested in the weight and convolutions of Einstein’s brain than in the near certainty that people of equal talent have lived and died in cotton fields and sweatshops.” —Stephen Jay Gould

The goal of this book is to use economic analysis to determine the causes and solutions to one of the United States’ most vexing social problems—poverty.

From 1959 to 1973, the US saw a significant decline in poverty. As the nation became richer, everyone’s income increased. Because the poverty line stays constant, only moving by the amount of inflation, more people went from having incomes below the poverty line to having incomes above the poverty line. Improvement in Social Security¹ during this time period also lowered poverty rates of the elderly. As figure 1 on the next page illustrates, poverty rates fell from 22.4 percent in 1959 to 11.1 percent in 1973.

Figure 1. The official poverty rate, 1959 to 2016.

The growth rate of the economy has been slower since 1973 than it was from 1946 to 1973, but the economy has continued to grow. Correcting for inflation, per capita income has increased from $20,478 in 1973 to $34,489 in 2017. Abstracting from business cycle effects, we would expect the poverty rates to become lower over time. That clearly hasn’t happened. In fact, the average poverty rate for the decade of the 1970s is lower than the average poverty rate for any decade since then.

The only way for per capita income to rise and for poverty rates to not fall is if the distribution of income became more unequal. In other words, while the average citizen became 68% wealthier between 1973 and 2017, those on the bottom of the income distribution did not. After correcting for inflation, the average income for those in the top twenty percent of the income distribution increased by $88,559. For those in the bottom twenty percent, the average income only increased by $702.² The growth in the US economy since 1973 somehow missed the poor.³

Using economic analysis, this book looks for solutions to this problem. Given the large number of social ills associated with poverty, we would expect a deep and robust literature on the subject. After all, economists are supposedly in the business of proposing solutions to social problems. However, economists have devoted surprisingly little effort to the study of poverty.⁴ Furthermore, at least from the point of view of a social scientist attempting to determine the causes of and the solutions to poverty, the books that have been written are poorly organized. We would expect that a study of some economic problem would be structured as follows:

1. Define the problem.

2. Determine and show the relevant economic theory to address this problem.

3. Use that economic theory to explain the cause or causes of the problem.

4. Use that economic theory to devise solutions to the problem.

The problem of poverty is generally defined in terms of a lack of income. People are typically impoverished because they either don’t have a job or they have one that pays a very low wage. Therefore, we would expect a book on poverty to have at or near the beginning a detailed section on the economic theory of labor markets. This section then provides an anchor for the rest of the book. However, economics books written on poverty are never organized in this way. Most don’t talk about labor market theory at all, and none do so thoroughly.⁵

Two Theories of Labor Markets

To thus determine the causes and solutions to poverty, we start with a discussion of the economic theory of labor markets. This task is not as easy as it might seem because there is no single theory of labor markets. Economists classify themselves into a broad range of perspectives: rational expectationists, neo-Keynesians, Marxists, post-Keynesians, quantity theorists, institutionalists, neo-Austrian, and so on. Some groups of economists have much more in common with some groups while at the same time having little in common with others. To the introductory economics student, however, the precise theoretical differences that divide economists into certain groups are nearly meaningless. When it comes to labor markets, we can thus focus on the commonalities and divide economists into two basic groups, heterodox economists and orthodox economists.⁶

The theories of labor markets held by these two groups of economists are quite different, and most of this book will explore those differences in detail. As we will see, each sees very different causes and solutions to poverty.

Heterodox Theory

In the first half of this book, we will examine the heterodox theory of labor markets. In the heterodox theory, people are poor because they are un- or underemployed or because they work at jobs that pay low wages. As you’ll see in coming chapters, macroeconomic forces determine the level of employment.

For heterodox economists, capitalist societies are excess capacity societies because they always possess idle capital equipment and unemployed and underemployed workers. These societies are never in equilibrium. They are always either expanding, which occurs most of the time, or they are contracting. During the expansions, firms meet the increased demand for their products by hiring unemployed laborers to work on previously idle or underused capital equipment. However, before full employment is reached, internal forces cause the expansion to collapse and a recession to begin. Because full employment is never or almost never reached, there are always or almost always more people looking for work than there are job openings. Those who end up unemployed for long time periods end up in poverty.

Others are in poverty because they work at jobs that pay low wages. In this model, microeconomic forces determine wages. Jobs are divided into a primary labor market, where firms pay high wages and high benefits, and a secondary labor market, where firms pay low wages and little or no benefits. Under certain conditions, following a high wage/high productivity strategy lowers a firm’s cost of production and maximizes its profits. In other situations, following a low wage/low productivity strategy lowers the firm’s cost of production. The low wages of the secondary market are the result of a low minimum wage and the fact that high levels of unemployment keep wages low. One of the reasons why poverty rates have not declined over the past forty years is that the relative size of the secondary market appears to be expanding.

Poverty in this model is the result of the natural operation of the social system. It is often referred to as a “blame the system” explanation of poverty. The solution is thus job creation through increased government spending, lower taxes, low interest rates, and direct public-sector hiring. In addition, there needs to be a significant increase to the minimum wage, support for those who are temporarily or permanently unable to participate in the labor market, increased funding for the enforcement of labor laws, and increased support of the formation of labor unions. The aim of these policies is that all workers have jobs, and the wages paid are high enough that all or nearly all households have an income above the poverty line.

Orthodox Theory

For orthodox economists, poverty is primarily a microeconomic problem. In the orthodox theory, labor markets are supply-and-demand markets that always clear in the long run so that for every job seeker, there is a job opening. While it takes time to match the unemployed with job openings, unemployed people find jobs quickly unless there are skill or geographic mismatches.⁷ There is little, if any, long-term unemployment in this model, so if people are poor due to long-term unemployment, we have to ask why. Are they really trying to get jobs? Do they display such counterproductive or disruptive behaviors that they can’t get or keep jobs? Are there other impediments to employment?

In this theory, workers are paid a wage that is equal to the value of what they add to output. If their wages are low, it’s because they are not very productive or because what they produce has low value. If they are not very productive, this theory assumes that it is either due to a lack of skills or a lack of effort. People are thus poor because of their own shortcomings. This is known as a “blame the victim” explanation of poverty. There is a conservative and a liberal variant to this theory.

Conservative Orthodox Variant

In the conservative variant, people are poor because they are either naturally lazy or government programs give them an incentive to become lazy. In this view, people can always find a job if they actually try. In addition, if people aren’t lazy, they will gain sufficient skills in school and elsewhere to get a well-paying job. Moreover, their pay will increase if they work hard and make themselves more productive. It is easy to see why government programs to aid the poor are so infuriating to conservative orthodox economists.

First, according to conservative orthodox economists, these programs give people an incentive to be lazy. As a result, they don’t develop their full potential. In the name of compassion, government programs attempt to help the poor, but they actually cripple the poor by robbing them of the incentives to develop the character necessary for success in life. The solution for conservative orthodox economists is to eliminate all or nearly all social safety net programs.⁸ The poor either have to develop the grit and skills necessary to make a living, or they perish.

Second, social safety net programs cost money. The government must tax workers to pay for them. In this theory, workers are paid an income equal to the amount they produce. However, conservatives take this concept a step further. They imply that what people earn is purely of their own doing. A worker’s income is not the result of technological advances made by prior generations but purely the result of what they accomplish by personal effort.

In this view, individuals owe society nothing, and for conservatives, mandatory government taxes are therefore a form of stealing.⁹ This theft is even more galling when it is used to support people whom conservatives believe are lazy and could earn their own way if they tried. This sentiment is captured in this bumper sticker: “You have to keep working—millions of welfare recipients are depending on you.” It is no wonder that discussions of welfare expenditures are a flash point for conservatives.

Conservative orthodox economists tend to have more in common with one another than those who are labeled as liberals. In general, conservative economists believe that markets work quickly and efficiently. They believe that when disruptions occur, market forces work rapidly to restore normalcy. As a result, they see little need for government intervention.

Liberal Orthodox Variant

Liberal orthodox economists believe that as a compassionate society, we need to support the less fortunate. The liberal variant assumes that the poor are, for the most part, as hard working as the rest of us but that due to unfortunate circumstances, they are caught in a position of earning low incomes. For some, the problems are temporary, such as a factory closing, a recession, or a divorce. For others, the problems are potentially permanent. They attended poor-quality schools, made bad deci sions as teenagers, or face discrimination. Because such circumstances are too expensive to be resolved on an individual basis, we need government, representing the interests of society, to devise a series of programs addressing the different reasons why people are impoverished. These programs should be tailored to help individuals overcome the barriers that are holding them back.

Unlike conservative orthodox economists, liberals believe that there are times and places where markets fail or clear slowly and that society would be better off if the government were involved to improve outcomes. However, there is a large variation among liberals as to how many and how strong these market failures are. Their views on the areas and depth of government involvement also vary widely. In general, though, these economists all offer a mixture of programs from the following three categories:

1. Supportin...