Economic analysis

What's the right policy tool to fight poverty?

On Ontario's plan to hike its minimum wage, and other ideas

Ontario’s plan to hike its minimum wage has brought new attention to strategies designed to alleviate economic distress. The focus on those who struggle to afford the basics is understandable. Economic growth is not widely felt across the income distribution — those at the top do much better than those in the middle or the bottom. It is not clear, however, that raising minimum wages is a particularly effective way to fight poverty.

For starters, it’s very poor at targeting those in need. (Stephen Gordon has covered this ground here and here.) There are certainly minimum wage earners who live in families that are short of income. But most don’t. If we’re trying to solve low income, we shouldn’t make the task harder than it needs to be.

In short: Focus on incomes, not hourly wages.

Basic Income’ is one approach that targets incomes instead of wages. It would replace some (or all) existing income-transfer programs with a simple transfer payment. Advocates envision this payment would be at least as high as current benefits (including such payments as social assistance and child tax benefits), but would not end if one started to earn income. Instead, the basic income would be reduced at a gentle rate (perhaps 25 cents per dollar earned) until hitting zero when earnings hit a sufficiently high level. The phase-out ensures the tax rate on more work is not too high; an attempt to dismantle the so-called welfare wall of high tax rates that may impede work.

The approach is geared to incomes, which is a large improvement over using minimum wage to fight poverty. The flip-side of the phase-out is that benefits would be received by those well up the income distribution. If the base transfer were $15,000 with a phase-out rate of 25 per cent, for example, someone earning $59,000 would still receive a small payment. A large proportion of the funds under a Basic Income would top up middle-income families.

The consequence of directing so many transfer dollars to middle-income families is the bloated pricetag. I’m not talking about a couple of billion dollars we might find under the fiscal couch cushions. We’re talking in the range of $100 billion per year for any scheme that involves a high transfer and low phase-out rate. (I’ve made some rough calculations here; similar numbers from the Canadian Centre for Policy Alternatives are here.) To be credible, advocates of Basic Income schemes need to start talking about the taxes they would raise to pay for their plans.

As I see it, in order to fund a large-scale Basic Income, middle earners would have to pay a lot more tax. (Couldn’t we just tax those with top incomes? No—this would be very difficult.) Using the handy tax revenue sheet provided by the Parliamentary Budget Officer, we can calculate that raising $100 billion would require almost quadrupling the GST to 20.6 per cent. Most of those newly raised funds would go to families above low-income thresholds because of the slow phase-outs of the Basic Income. It doesn’t make economic sense to hike taxes on middle earners only to transfer those funds right back through the Basic Income.

Here’s a better solution: Improve the existing transfer system. We have many smaller income supplements that follow the same structure as the Basic Income by providing a base benefit that is phased out with income. As examples, think of the GST Tax Credit or the Canada Child Tax Benefit. To the extent we have room in the budget to boost the incomes of those who are struggling, these existing tools can be enhanced. If we are looking for bolder action, how about consolidating the complex array of existing benefits into a simpler and more transparent package?

Unlike either the minimum wage or the Basic Income, enhancing and improving supplementary income transfers has the virtue of being both well-targeted and affordable.