My latest essay concerns poverty.
the results of centrally-planned anti-poverty efforts are small, and perhaps negative (certainly very negative in the case of Communism). Decentralized capitalism, in which no one sets out to broadly reduce poverty, is the best anti-poverty program.
I wrote the essay before reading Kevin Lang’s definitive book on poverty–the one I talked about in this post. In light of his book, I might have to temper some of what I wrote.In my essay, I criticize the $20,000 poverty line, and I suggest instead using a definition of poverty that focuses on the truly destitute. But Lang offers a justification for the conventional poverty line, by positing a need to be able to participate in society.
Lang also calls into question the effectiveness of our economy at reducing poverty over the past thirty years. His point is that our economy grew, and yet the poverty rate remained stable. However, using a numerical example (I can’t help it–I live or die by numerical examples), I believe that one cannot say anything about how our economy is working to reduce poverty without knowing more about entry and exit rates into poverty.
The table below shows income dynamics for a hypothetical economy. The poverty line in this economy is somewhere between $0 and $20 (feel free to think of this as $20,000 if you prefer). Everyone earning $20 or more is above the poverty line, and everyone earning $0 is below it. The economy starts from a baseline in which there are 80 people, with an average income per person of $30 (feel free to think of this as $30,000) and a poverty rate of 25 percent. The economy then grows to an average income of $35. To reach this average level, there are three scenarios, called Case I, Case II, and Case III, in which people can move up the ladder, and the poverty rate behaves very differently in each case.
| Income Levels | Baseline | Case I | Case II | Case III |
|---|---|---|---|---|
| $0 | 20 | 15 | 20 | 34 |
| $20 | 20 | 20 | 20 | 20 |
| $40 | 20 | 20 | 10 | 20 |
| $60 | 20 | 20 | 20 | 20 |
| $80 | 0 | 5 | 10 | 20 |
| Average | $30 | $35 | $35 | $35 |
| Povty rate | 25% | 19% | 25% | 30% |
| Exit Rate | — | 6% | 0% | 17% |
In the baseline year, there are 20 people each earning $0, $20, $40, and $60. With 20 people below the poverty line, the poverty rate is 25 percent.
Case I could be called “Rising tide.” Within each group, 5 people take a step up in earnings. Among the highest earners, 5 people go from $60 to $80. The $60 group stays at twenty people, because it gets joined by 5 people from the $40 group, which in turn gets joined by 5 people from the $20 group, which in turn gets joined by 5 people who previously were in poverty, earning $0. So poverty shrinks to 15 people out of 80, or roughly 19 percent. The last line of the table shows the exit rate from poverty as 6 percent. Although 25 percent of the people who were in poverty left poverty, I calculate the exit rate as the ratio of 5 leavers to 80 people in total.
Case II could be called the “Krugman scenario.” All of the increased income goes to the top two groups. 10 people move from the $60 group in the baseline to the $80 group. The $60 group is replenished by 10 people from the $40 group, but everyone else stays put. Average income goes up to $35, the poverty rate stays at 25 percent, and New York Times columnist Paul Krugman condemns the rise in inequality. The exit rate from poverty is zero.
Case III could be called the “Kling scenario.” Everyone moves up one income group from the baseline. 34 new families join the economy (either immigrants or newly-formed households), and they start out in poverty. Of course, as income keeps rising, these new families will participate in what I call The Escalation of Income.
Meanwhile, the new families keep the poverty rate high. In fact, the poverty rate actually increases to 30 percent, even though the average income has risen to $35, just as in the other cases. However, the exit rate from poverty is 17 percent, expressed as a percent of total population. In fact, everyone who was poor in the baseline year has ridden the escalator out of poverty.
The point of the exercise is that the data that Kevin Lang cites–higher average income with no reduction in the poverty rate–do not provide conclusive evidence that economic growth is no longer pulling people out of poverty. We could observe that same data even if everyone were being pulled out of poverty, depending on how many people are entering and exiting poverty.
I am not arguing that having new immigrant families and young families start out in poverty is morally satisfactory. However, if that is the reason for the stickiness of the overall poverty rate, then it changes the nature of the empirical relationship between economic growth and poverty. In particular, my claim that decentralized capitalism works great at alleviating poverty would be defensible.
But until I can prove that we are closer to the Kling scenario than to the Krugman scenario, I ought to be more cautious.
READER COMMENTS
Buzzcut
May 3 2007 at 8:35am
Is it a coincidence that the poverty rate became “stuck” 30 years ago? What was happening 30 years ago? War on Poverty? The bureacratization of poverty eradication. The ’60s aftermath and the destruction of all social conventions that served to guide the less intelligent towards a good life (i.e. get married before you have kids, etc.).
We no longer have economic poverty in this country. People who are poor have made poor choices. They are more impulsive and less focused on the future than the mean, and their poverty is a result.
As Larry the Cable Guy says, being lazy rewards you now, working rewards you later.
Michael Sullivan
May 3 2007 at 10:20am
I would argue that the poverty rate became stuck because “access” is now the primary determiner, and that it is a much harder nut to crack. Access is about having enough resources to live a similar enough life to the middle class that you don’t stick out among them or become unable to socialize effectively. Unfortunately, the more resources the middle class has, the more resources are required for “access” to them and the markets that serve them.
If you accept Lang’s definition of poverty in a generally wealthy society (and I do), then setting the poverty line as some percentage of the median income makes a lot of sense. While we can obviously argue about exactly what percentage to use, the idea is that access is pretty much dependent on the relationship of your wealth to the “typical” wealth.
I think the reason poverty in this sense has not improved in the US in the last 30-40 years, is that we passed the threshold where we were measuring poverty in absolute terms, and are now measuring it largely in terms of access. Basically, if you strip the access criterion from the poverty definition, hardly anyone in the US is poor, and that has been true for a while.
But a rising tide raises the access goal line about as much as it lifts all boats — only a different distribution of income or a complete culture change will eliminate access deficiencies (basically getting rid of the bottom tail, or completely eschewing materialism).
It’s not at all clear to me that decentralized capitalism is the best way to alleviate this kind of poverty, and I think you (Arnold) have hit on the crucial question — what is the exit rate from poverty? If the exit rate is nearly as high as the poverty rate, then poverty is a temporary state that most people get out of within a few years given the opportunity available to them in the marketplace. If the exit rate is low, then we have a major social problem.
It also strikes me that in general, measuring poverty by income level in a given year is a damn fool way to go about it. There’s a huge difference between somebody with a well-stocked 401(k) and outside investments who’s been making six figures for years that gets laid off and waits a year or more before taking a huge pay cut, and somebody trying to support a family on minimum wage. Yet unless the unemployed rich guy’s assets generate a lot of taxable income, they both may end up in the same income bracket.
That’s why I like the consumption study in some respects (which showed a big decrease in the poverty rate — IOW a lot of today’s income-poor are consuming at a level that we would not consider poor). The problem with the consumption study is that it can’t distinguish unemployed people with good long term prospects living off savings or taking on reasonable debt, from folks who are just digging a deep, deep hole by living beyond their very limited means.
Alas, it’s a very difficult problem that I don’t have good answers to.
SheetWise
May 3 2007 at 10:50am
Many of us hold stubbornly to our belief that there will always be a bottom 20%. For us there is no solution, since no amount of wealth, however distributed, will absolve us from this belief.
For those who believe the bottom 20% can be eliminated, the world provides limitless opportunity — since there are few limits on what they are capable of believing.
Alice laughed. ‘There’s no use trying,’ she said ‘one can’t believe impossible things.’
‘I daresay you haven’t had much practice,’ said the Queen. ‘When I was your age, I always did it for half-an-hour a day. Why, sometimes I’ve believed as many as six impossible things before breakfast…’
–Lewis Carroll, “Through the Looking Glass”
Tim Lundeen
May 3 2007 at 11:42am
One of the issues that people seem to forget is ability. In today’s economy, people with low g simply cannot do very well. I’ve seen estimates that you need an IQ of 105 to get a college degree, and 120 to be a good office manager. People with IQs in the 70’s and 80’s simply cannot have a high income unless they have some special skill or are very lucky (the small percentage who have low IQ and do well in sports, music, or win the lottery). Since about 10% of the population has an IQ of 80 or below, there is always going to be a percentage of the population that cannot have a middle-class income: they cannot do the work that his requires. Then there are people who have other problems with mental illness or very poor impulse control, etc.
So it seems clear that there will always be a percentage (10-15%) of people who cannot do well.
The answer to this is to find a way to increase g (e.g., higher IQ scores). I think we will be able to do this over the next 20-40 years, and then the problem will finally be solved 🙂
The only near-term solution is to redistribute income via negative income tax, etc.
TGGP
May 3 2007 at 1:40pm
What does it mean to “participate in society”? That sounds very vague. What is the number of people that cannot do so in the United States?
liberty
May 3 2007 at 2:55pm
It is quite easy to show that we are much closer to the Kling scenario, using real mobility studies such as the Treasury study and Cox and Alm – U.S. Department of Treasury (1992) and Cox and Alm (1996). They are the two studies that I know of that look at real income and mobility out of quintiles compared to the population as a whole rather than comparing people only against others of the same age group. When compared only against an age group, one could see 0% mobility even if 100% of the poor are 20 years old and move up to the top quintile by the time they retire. That would be perfect American-dream mobility but 0% social or class mobility.
The treasury study found that 86 percent of individuals who were in the bottom quintile in 1979 had moved up by 1988.
Cox and Alm found that only 5.1 percent of individuals in the lowest quintile in 1975 remained in that quintile in 1991, while 29 percent were in the highest quintile in 1991.
You can read more about those studies here, and my analysis is here.
Mark Seecof
May 4 2007 at 12:49am
According to the US Census between 1970 and 2000 about 19 million immigrants entered the US. Since 2000 more than 9.4 million more have arrived (circa 6.9 million legal and (at least) 2.5 million illegal immigrants), according to US D.H.S.. So at least 28 million aliens have entered the US since 1970. They now make up around 10% of US population.
Many of these immigrants have children. A large proportion of immigrants and their children live in poverty (17% or more), especially Mexican immigrants. Also, immigrants competing for low-level jobs undoubtedly drive many native Americans into poverty.
To the extent that the Kling scenario describes reality, the strongest lever we have against “poverty” is simply to reduce immigration by poor people. Indeed, there is no public-policy justification for importing poor people; we have plenty already and every new one costs taxpayers tens of thousands of dollars yearly in transfer payments.
Under the Kling scenario, immigration control would reduce the proportion of population in poverty rapidly as people moved up the income ladder and fewer people appeared on the bottom (“poverty level”) rung.
Thomas B.
May 4 2007 at 3:43am
Brilliant use of plausible counterexample to support an alternative model. Really nice.
Chuck
May 4 2007 at 11:19am
liberty: “It is quite easy to show that we are much closer to the Kling scenario, using real mobility studies such as the Treasury study and Cox and Alm”
Lot’s of things are easy if we cherry pick data. From the study you linked to:
“There are two additional studies that find a degree of earnings mobility that is much greater than that reported in any of the above studies: U.S. Department of Treasury (1992) and Cox and Alm (1996).”
“The impressive degree of mobility found in the Treasury study has been attributed largely to two factors. First, the restriction of the sample to only those households that paid taxes in all ten years introduced a bias toward the economically successful, as only half of all households met this criteria. 13 Second, the study compared the 1988 incomes of those in the sample to the incomes of the population as a whole in 1988, thereby capturing the natural tendency of earnings to increase as individuals grow older, and identifying this as economic mobility. 14 That is, the average income of the sample would be expected to rise each year simply as a result of the individuals in the sample growing older and gaining more work experience. The average income of the population as a whole, however, would be expected to remain constant. 15 To count this increase in income as a component of “mobility” is to use a significantly different definition of mobility than was employed in the other studies discussed above.16 Because the Treasury study makes no effort to examine change in an individual’s relative position within the sample itself, its results cannot be compared to the other studies.”
“Like the Treasury study, Cox and Alm find extremely high levels of mobility in part because of the comparison group that determined the quintiles that they used. Most notably, they too compare the incomes of their sample (when everyone in the sample was over the age of 32) to the income of the population as a whole (in this case, including everyone over the age of 16). As a result, they too capture the natural increase in incomes with age and identify it as economic mobility. 18
“Gottschalk (1996) retabulates PSID data on earnings to cover the period examined by Cox and Alm using more standard techniques for determining movement between quintiles. Like the other studies discussed in this paper, he finds substantial mobility over time, but much less than is reported by Cox and Alm. Between 1974 and 1991, he finds that 62 percent of the sample moved to a different quintile (58 percent for those originally in the lowest quintile, 56 percent for those in the highest). In the one year between 1974 and 1975, 39 percent moved to a different quintile (33 percent of the lowest quintile, 21 percent of the highest). “
Chuck
May 4 2007 at 11:36am
By the way, I also really liked your analysis.
I agree that a good definition of poverty would be “unable to participate in society.” The reason I like that defitition is that it captures why mere material measures of poverty aren’t satisfactory. It is the exclusion from society that is a consequence (and probably often cause) of poverty that is morally unacceptable. It goes to why most people don’t pity villagers in 3rd world contries – they are full participants of their society, and their society simply exists at a different standard of living.
Furthermore, I like the idea of using a percentage of the median *something* (maybe net worth?) to set the poverty level, as well as using the rate of people entering poverty as a metric for understanding if poverty is getting worse or better.
Lots of good stuff in this post.
who, me?
May 4 2007 at 4:09pm
“Unfortunately, the more resources the middle class has, the more resources are required for ‘access’ to them and the markets that serve them.”
I have often thought that the really sticky aspect of poverty is isolation, or socialization so that you can not, at least with any degree of comfort, coexist and produce in close proximity to the middle class.
This suggests the value of informal but serious individual mentoring. I suppose it’s not susceptible to social policy, but I don’t know anyone among my middle class acquaintances that wouldn’t be willing to mentor a sincere young person in poverty that really wanted entry into “the circle of exchange.” Of course that young person might hear something (s)he wasn’t eager to learn, as presumably the mentor’s children have had to do from time to time.
liberty
May 4 2007 at 8:25pm
Chuck,
As I said, “They are the two studies that I know of that look at real income and mobility out of quintiles compared to the population as a whole rather than comparing people only against others of the same age group.”
The definition of mobility in those two studies differs from the others. It isn’t cherry-picking, it it citing the two studies that look at the particular kind of mobility in question.
Matt
May 8 2007 at 12:20pm
It wouldn’t be difficult to test the Kling scenario. Shift the immigration system in favor of highly skilled immigrants and observe the results.
If there was a way to reduce divorce, my guess is that poverty would plummet as well. What can be done if people choose “poverty” over unhappy marriages?
Chuck, I do pity people in 3rd world countries. I don’t pity people in wealthy countries who have all the opportunity in the world and don’t use it.
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