U.S. welfare richer than portrayed

TORONTO -- If you think about it at all, chances are you believe the American welfare state is mean, stingy, and parsimonious to a fault -- certainly far smaller than its Canadian equivalent. But the facts of the matter are more complicated.

Indeed, economist Bruce Bartlett contends the "hidden American welfare state" is significantly larger than is generally understood. The difference comes down to tax expenditures.

Tax expenditures are programs the government chooses to fund indirectly. Rather than levying a tax and spending the proceeds to fund a particular service, the government will give you a tax deduction if you spend your money on that service.

In the American context, the ability to deduct mortgage interest and property taxes is a prime example of a tax expenditure. Put simply, it's an indirect federal housing program.

Whether executed by direct government spending or a tax expenditure, the net effect is the same. In both cases, the taxing power is used to facilitate the delivery of something deemed to be socially desirable.

To illustrate his contention, Bartlett refers to a recent 26-country OECD study assessing 2005 social spending as a share of the economy. Tax expenditures are included in the calculations.

In the big spender stakes, France topped the chart at 33.6 per cent of GDP, while America was seventh at 27.2 per cent. Canada came in at 23.3 per cent, exactly on the OECD average.

(Oh, the heresy! George Bush's America had a proportionately bigger social spend than Paul Martin's Canada!)

Of course, this doesn't mean America's safety net is superior to Canada's. Much of its spending may go to people who aren't needy -- the aforementioned tax subsidy for housing being a case in point.

Still, less affluent Americans do disproportionately benefit. Or at least that's what a new Congressional Budget Office study concludes.

Looking at the period from 1979 to 2009, the study finds the net effect of transfers and federal taxes is significantly tilted to the benefit of the bottom half of the income distribution. That tilt has increased markedly over the past 30 years.

Begin with a brief primer on terminology. Market income is defined as earnings from work or investments; transfers are the cash and in-kind benefits from government programs; and taxes refer to federal taxes, including payroll taxes.

In 2009, the households in the bottom fifth saw their income increase by 301 per cent courtesy of the net effect of transfers and taxes. Put another way, their income after transfers and taxes was 301 per cent higher than the market income they actually earned.

For the households in the next fifth, the corresponding increase was 42 per cent. And even the middle fifth experienced a five per cent gain from the process.

The bill for this redistribution was paid by the upper two-fifths, particularly the top fifth who saw the net effect of transfers and taxes taking 22 per cent of their market income. And as for the plutocratic one per cent of Occupy Wall Street infamy, their bite was 28 per cent.

The other interesting thing is how the redistribution impact has shifted over the last three decades. In 1979, the bottom fifth experienced a 172 per cent gain from the process, a little over half the gain experienced in 2009. And back then, the middle fifth was actually a net contributor rather than a beneficiary.

Nor is this shift entirely, or even mainly, an artifact of the current economic difficulties. By 1988 -- the end of the Reagan years -- the bottom fifth's net benefit had jumped to 236 per cent, as opposed to 1979's 172 per cent.

Of course, thanks to a range of factors -- including economic globalization and the sharp increase in the incidence of single-parent families -- the distribution of market income has become more polarized over the last 30 years. An effective social welfare system would be expected to respond accordingly, one such response being an increase in redistribution.

And as per the new CBO data, that's what has happened. It doesn't mean the American social welfare model is everything it should be. But it does mean that, contrary to what we're often told, it's not exactly Darwinian either.

As ever, the devil is in the details. And reality is more subtle than ideological partisans imagine. Life's like that.

Troy Media columnist Pat Murphy worked in the Canadian financial services industry for over 30 years.

Republished from the Winnipeg Free Press print edition July 24, 2012 A10