It seems pretty clear that we are heading for a hike in the minimum wage. For the many of us who care about poverty reduction, which would be basically all of us, this could be a big deal. The problems with the minimum wage are that it:
1. May well be evaded in many cases.
2. Is very poorly targeted towards the poor we are most interested in helping. In fact, the benefits are essentially randomly distributed across the income distribution.
3. Has a hidden cost structure so that it is difficult to see who is paying for it. For example, if it is paid for through higher prices or unemployment, well this might actually be hurting more poor people than it helps! If it is paid for through profits or is actually serving to correct other market distortions then that would be better, but the evidence for this is not great and the theory behind it is a little rough going. Someone is likely paying for this increase and hiding those costs is bad policy, because then we don’t know if the benefits are worth the costs.
The nice feature of the minimum wage is that it raises the incentive to work and we like that. Also, some (but not a ton) of the money is going to poor people, although, as I noted above, we don’t actually know if the money they get is coming from hurting other poor people, so that part is dicey.
So suppose we take the current EITC and change it to be wage-based, not income based. Then, to improve targeting, make the benefits largely contingent on being an adult with young dependents, but don’t let the benefits rise for having lots of children (just like the current EITC). We already track earnings, so now we also track hours worked through the employer (to get wages) and then pay the benefit as part of the paycheck. Employers will have a big incentive to make sure this happens, as it lets them hand over a bigger paycheck which helps them in hiring. This also encourages them to hire these impoverished people, which is also good. No one has an incentive to evade, although there is the standard question of people cheating that we already have with the EITC.
The current EITC discourages people to work if they make more than poverty amounts of money. Coupled with other welfare programs, this can amount to essentially 100% “tax” rates for single mothers working for modest amounts of money. A wage EITC has no such feature built in, instead it discourages workers on a productivity margin where, frankly, the evidence suggests they don’t really move much anyway. We could cap payments at full time work, if this was a concern, but personally I don’t think that is needed.
So what would this look like? Well, take everyone below say $9/hour and pay them a subsidy of 20% (or whatever) of the difference between their current wage and $9. They still have a good incentive to fight for better wages, because they get 80% of it. And they still have the incentive to work lots of hours, because they don’t hit a benefit takeaway like exists in the current EITC from $15,000-30,000. This is not perfect, but it maintains the advantages of the minimum wage, coupled with the advantages of the EITC, while avoiding downsides from both of them. It does require a slight increase in paperwork for employers, but I hope that this would be marginal, given that they already do almost all the paperwork needed already.
At that point one could dump the minimum wage and let markets find the right wages. An obvious objection to this is that this program isn’t free like the minimum wage. But the minimum wage isn’t really free, you just never see the bill. You may think the employer is paying it, but a basic lesson from public finance is that who appears to pay the bill has no necessary relationship to who takes the actual hit, since costs can be passed on. I think we’d all be better off if we got to see the bill for what we were buying, and knew who was paying it.