Picture credit to: Biodiversity & Community Health.
Measuring income in developing countries
A study published in the National Bureau of Economic Research in the Fall examines cash transfer programs across a range of developing countries and uses household data from Indonesia and Peru to examine the effectiveness of targeted transfer programs in those countries. The study explores the costs and benefits of targeted and universal cash transfer programs, and the different circumstances that developing countries face that affect the performance of different transfer schemes.
One of the key challenges identified for developing countries that affect the viability of a universal basic income (UBI) are the sizes of the informal sector (1) and the resulting revenue sources. Developed countries largely get their revenue from income taxes (2), but given the size of the informal sector in many developing countries, the bulk of government revenue comes from sources like consumption taxes and official development assistance (ODA), with the latter in some low-income countries accounting for more than half of that country’s operating budget.
Effectively targeting the poor for cash transfer means that you must have a way to reliably measure income and means, and therein lies the problem for many developing countries. In Indonesia and Peru, 88% and 79% of the employed populations are reported as below the tax exclusion threshold, and therefore do not pay income taxes. This is not necessarily to say that upwards of 80% of true income is below the income tax threshold, but it shows the problems associated with informality and lack of information. In any case, it complicates the means-testing portion of targeted transfer programs like those in the US.
In lieu of directly measuring income for means-testing, developing country governments can use what’s called a “proxy-means test” by measuring indirect things like assets and consumption. Another complication is that people can easily misrepresent their economic situation, depending on what indicator the proxy-test uses to measure poverty. Therefore, the mechanism for determining who qualifies for the transfers are often a mystery kept by the designers of the proxy-tests, and the data collection method must in some way provide incentives for telling the truth.
Findings from the data
To measure the success of the targeted programs in Indonesia and Peru, the authors used consumption data from 2010-2011 period from the Indonesian National Socioeconomic Survey (SUSENAS) and the Peruvian National Household Survey (ENAHO) to measure the size of the program’s “inclusion errors” and the “exclusion errors”, meaning the amount of people who do receive transfers who shouldn’t and the amount of people who don’t receive transfers who should. They are able to do this because the datasets used provide information on predicted consumption used by the proxy-means tests of each country, and the actual consumption for that period in each country.
In the 2010 period, in both Indonesia and Peru, transfers reached around 80% of intended beneficiaries, meaning those whose economic situation actually qualified them to receive benefits got them 80% of the time, and 20% did not (meaning a 20% exclusion error). There was also a cost of transferring the benefit to 22% and 31% of those whose economic situation did not actually qualify them for the benefits, judging by the actual consumption data (meaning the inclusion error).
The authors then employ a social welfare function, which measures the utility of a dollar between a low-income person and a high-income person, to measure the effectiveness of more narrowly targeted programs in relation to a universal program (UBI). Using this function, they were able to identify a socially optimal targeted transfer amount, which was 19% and 18% of the population for Indonesia and Peru respectively. While utility is lowest at the point of no transfer, the graph shows utility and overall social welfare both decline steadily after the socially optimal point. A UBI, then, has the lowest utility of almost any ratio, and even with the administrative cost savings included, the added benefit is almost imperceptible (these are represented by the little tick mark pointing upwards at the point of “UBI”).
This is nothing too surprising, though, because it essentially confirms that having a system where wealthier individuals also receive the benefit is not as socially efficient as targeting the poorest individuals, because the dollars are worth more to poorer individuals. What is interesting is that savings in administrative costs in this model also do not provide a big boost to social welfare.
Advantages and drawbacks of universal cash transfers
A UBI would address some of the failings of targeted transfer programs by providing what the authors call “horizontal equity”, which essentially measures the degree of errors at different levels of transfer, and also an added benefit of transparency.
If we imagine a family in the exclusion error population goes to apply for benefits and find that they are not eligible, verifying their eligibility would be difficult given the secrecy of the methods used in proxy-means identification. A UBI would be an ideal fix for this problem because it is available to everyone, and though you would be including those who may not necessarily need it, you would not deny anyone who actually does need it.
There is also the issue of labor market distortions that targeted transfers can cause. It is well known that programs in the US and in some European countries result in recipients to avoid finding work because they risk losing their entitlement. Even if the methods used in proxy-means testing are not known, households in developing countries may restrain themselves on activities that they perceive may end up disqualifying them for the benefit, such as reducing consumption or avoiding formal income.
Other issues with a large informal sector that would complicate implementation of a UBI are identification to avoid double counting, getting the money to recipients that may not have bank accounts or formal residences to mail a check to, and accruing taxes from the rise in incomes that will occur through increased consumption. Dependence on consumption taxes also presents a risk to the scheme, because large informal sectors might also affect tax losses from consumption.
Discussion on UBI in developing countries and alternative methods
The primary strength of the argument for UBI in the context of a developing country comes from the fact that targeted transfers currently deny resources to some of the extreme poor, where a UBI would theoretically not be denied to anyone. It would also theoretically be more straightforward and fairer of a system. A crucial strength with targeted transfers comes from the fact that it can use limited resources the most effectively, and even if it misallocates some resources, on the whole, it can effectively allocate resources.
It makes sense on an intuitive level for developing countries with tight budgets to send money where it would be the most effective through targeted transfers, but this results in both inclusion and exclusion errors, which can either be seen as the best outcome possible or simply insufficient. The exclusion error population could be seen as an unacceptable outcome creating a highly underprivileged class, and even the definition of the population that qualifies for transfers might be considered insufficient. In Indonesia, while the impoverished population has been receding, during the Asian financial crisis it rose to as high as 23%, and the population that is “near poor” have been estimated to be as much as 42% (3). This could play into an argument for UBI: by allowing everyone to have the same benefit, there would be no inclusion or exclusion errors, and it would still be much more socially optimal than no transfer at all.
While the authors recognize that targeted and universal programs work well in different circumstances, they seem to imply that, for developing countries, the social welfare achieved by targeted transfers is currently the best game in town. Universal programs like public education and health care are two examples of already widely accepted government programs, yet cash transfer programs remain largely targeted.
The authors also introduce some interesting alternatives that capture some of the strengths of targeted and universal programs. For example, with “community-based targeting”, a village might get a certain number of “beneficiary slots”, and in a completely public setting, the village communally decides where to allocate them. The strength of this program seems to emanate from the fact that local communities have a more intimate knowledge of who needs the assistance the most. In the “differential cost and self-identification” method, benefits would be available to an entire population like UBI, but your relative wealth would affect the ease of which you get the benefits, as determined by a proxy-means test. The key to this program would be the fact that the benefits are worth less the higher up the income ladder you are, and things like long application processes would deter some applicants. The added benefit to this would be that those who are in the exclusion error population would receive some recourse if they are initially denied benefits.
It is clear that having an income tax base with which to measure prosperity and draw taxes from is currently the ideal system to operate with a UBI. Jenson (2019) demonstrates that development accompanies a shift from self-employed to employed populations in the United States with over a century of data, which could be the natural outcome of development in other contexts. If a UBI turns out to be an ideal system for reducing extreme inequality and increasing other indicators of human wellbeing, a question of its appropriateness might also entail identifying the correct level of development. Advancing this issue still requires more pilots in more varied circumstances.
This research adds to the knowledge of basic income in developing countries from pilots in Namibia (2008), Madhya Pradesh (India, 2010), and in other expansions of cash transfer schemes in Zambia (2010) and in Iran (2011).
1 – The informal sector describes the portion of the population who work but do not contribute to a social security system, are often self-employed, and whose activities and revenue amounts are largely unknown.
2 – By contrast, in the 2017 US Federal Government budget, 83% of revenue came from individual income and payroll taxes.
3 – Figures from the World Bank’s report “Making the New Indonesia Work for the Poor”.
More information at:
Rema Hanna, Benjamin A. Olken, “Universal Basic Incomes vs. Targeted Transfers: Anti-Poverty Programs in Developing Countries”, The National Bureau of Economic Research, August 2018
Abhijit Banerjee, Paul Niehaus, Tavneet Suri, “Universal Basic Income in the Developing World”, The National Bureau of Economic Research, February 2019
Anders Jensen, “Employment Structures and the Rise of the Modern Tax System”, The National Bureau of Economic Research, January 2019
Namibia Pilot Project, Basic Income Grant Coalition
SEWA, “Piloting Basic Income Transfers in Madhya Pradesh, India”, SEWA and UNICEF, January 2014
Pedro Arruda and Laura Dubois, “A brief history of Zambia’s Social Cash Transfer Programme”, International Policy Research Brief, June 2018
Chris Weller, “Iran tried its own basic income scheme — and people didn’t give up working”, Business Insider (France), May 23rd 2017
Jehan Arulpragasam and Vivi Alatas (coords.), “Making the New Indonesia work for the poor”, The World Bank, November 2006
Adi Renaldi, “Poverty Isn’t Decreasing, Indonesia’s Official Poverty Line Is Just Too Low”, Vice, July 23rd 2018
(Former Republican House Majority Leader Eric Cantor speaking at the American Enterprise Institute. Credit to: The Washington Post)
The American Enterprise Institute, a conservative think tank, released a piece of research in late May, which was an attempt to analyze the effect of the implementation of a universal basic income (UBI) on the current American social welfare system.
The proposal has been released as a working paper, meaning in this case a preliminary research paper with incomplete considerations, but a base model nonetheless to move forward with and make improvements.
The Basic Proposal
The paper’s proposal is a budget-neutral form of a UBI, meaning instead of implementing a basic income in addition to the existing American social welfare system; most existing programs like Medicaid, Veteran’s Benefits, and Social Security for the elderly over 65 are repealed and replaced with a UBI. Using data from the Federal government’s budget outlays from 2014, the paper finds that the repeal of large programs in America would yield about $2.54 trillion dollars. In addition to this, the proposal repeals 23 different tax benefits like the Student Loan interest deduction and Earned Income Tax credit, bringing in more revenue and freeing up a grand total of about $3.21 trillion for a UBI.
With additional taxes coming in from the UBI itself, and increased tax liabilities on all income tax brackets, the proposal finances and prescribes a basic income of $13,788 for individuals over the age of 18 and $6,894, or half the income of adults, for individuals under the age of 18.
Using Federal government tax data, the paper analysis the net benefit gain or loss by tax bracket and age. Using the parameters described, the findings show that some of the most adversely affected by this system are in the lowest tax bracket ($0-$10,000). This is unsurprising, because many of the programs this proposal had repealed to finance the basic income are concentrated on this tax bracket.
Another group adversely affected by this proposal are individuals 65 and older, also because their benefits, such as Social Security, have been repealed and distributed among the rest of the population. When excluding age groups of 65 and older, however, nearly all tax brackets see a net benefit in this proposal, with the brackets seeing the greatest benefits being those in the middle.
Assessing the Real Value of Welfare Dollars
The second section of the paper attempts to add in the variable of welfare multiples to estimate the real cost and benefit to this proposal. Welfare multiples try to calculate the value of each dollar the government spends to the value by the welfare recipient for each government welfare program. The value of the welfare recipient comes from the idea that funds allocated by a government program are not always as valuable as cash (for example, if a family receives funds allocated for food by SNAP, but would rather use a portion of those funds for other purposes). A good government program would have a welfare multiple close to 1, while a bad government program would have a welfare multiple closer to 0.
Essentially, this section attempts to use welfare multiples to assess the gains in efficiency made in eliminating government waste by allowing people to spend the money how they see fit, or giving them a cash payment as they would have with a basic income.
The paper draws from current literature that estimates the welfare multiple of some government programs, but the authors admit to having to estimate others (see referenced literature for welfare multiples in working paper). They range from more wasteful programs like Medicaid (around .30, as used by this proposal) to less wasteful programs like Veteran’s Benefits (around .95, as used by this proposal). The literature on welfare multiples shows that there are various estimates on how effective these programs are, and therefore other authors may come up with slightly different welfare multiples. The ones employed by the authors in this proposal are an approximation based on different estimates.
When adding the welfare multiples into the equation, the net loss in benefits for the lowest tax bracket is reduced by about $4 thousand dollars per tax unit, though there is still a net loss in benefits. In addition, benefit losses to the tax brackets aged 65 and older are decreased, but by a lower margin than the lowest tax bracket as the welfare multiple is higher for these government programs. This means that the greatest increase in efficiency by implementing a UBI would be in the lowest tax bracket.
Review of the Findings
The important findings in this proposal from the American Enterprise Institute show that, if a UBI were to merely replace the existing social welfare system in the United States, by repealing existing welfare programs and tax benefits, there would be an overall redistributive impact from the old to the young, and from the poor to the middle class; though there would be a gain in efficiency overall.
Again, this is not a surprising finding as the goal of redistributive programs in America is to allocate taxpayer dollars mainly to the poor and the elderly. Some programs allocate funds too stringently, as the welfare multiples try to demonstrate, and sometimes it may be better for a welfare recipient to merely receive a cash payment. While in this proposal of a UBI the overall efficiency is increased, it does not compensate for the net loss in benefits to the poor and the elderly.
It is worth noting that the American Enterprise Institute espouses classical liberal values of entrepreneurship and free enterprise, as expressed on their website. One of their main interests in exploring a UBI, therefore, is to eliminate government waste, but this may also mean increasing the freedom of welfare recipients to make financial decisions that make sense to them.
One area the paper could do better in is to explain with detail how the repeal of tax provisions increased tax liabilities for different brackets and age groups. In their base model, to help finance the UBI, the paper repealed several tax provisions, which brought the average tax liability for the second tax bracket ($10,000-$20,000) to around $6,714, or on average 45% of their income. The average increase in tax liability for the tax bracket of $200 thousand to $1 million, on the other hand, is $28,425, or on average 4% of their income. The increase in tax liability that helps finance this proposal, therefore, is falling mainly on the lower tax brackets and individuals over 65.
In future research, proposals like this could examine the current tax code with more detail, and how it could be restructured to help finance a UBI. Because most of the new tax burden in this proposal seems to be falling on the lowest tax brackets and the elderly, there should be a conversation about who needs to be bearing the new tax burden, and how much that should be.
Notably, the paper admits that it does not take into account behavioral changes that would take place with the implementation of UBI. Proposals like this could potentially include insights from other basic income projects like the Mincome experiment in Canada, which revealed increases in high school graduation rates, and a drop of health care costs.
It is fair to be wary of the intentions of the AEI in releasing this working paper, but clearly a fair amount of effort was put into it, and it appears to be an honest inquiry into the subject. Finally, it is worth saying that the proposal is only a particular vision of a basic income, one that may not agree with many other visions, but research such as this may nonetheless come across some useful insights.
More information at:
Kathleen Wynne. Credit to: CBS Hamilton.
Three communities across Ontario have been selected for the Province’s guaranteed minimum income pilot. Ontario will be rolling out a three-year study in late spring and fall 2017. Premier Kathleen Wynne made the announcement with details of the project in Hamilton on April 24th.
The stated goal of the pilot on the official website of the Ontario Government is to ”test whether a basic income can better support vulnerable workers, improve health and education outcomes for people on low incomes, and help ensure that everyone shares in Ontario’s economic growth.”
The mayors of each community – Lindsay, Thunder Bay, and Brantford/Hamilton/Brant County, expressed hopeful to positive reactions at the announcement that their cities had been chosen to pilot in the project.
Kawartha Lakes Mayor Andy Letham, which is home to the community of Lindsay, describes precarious work as a cause for concern in his community and admits that the status quo of society isn’t functioning well. “The cost of poverty on people’s mental health is real,” said Letham. “So how to we break these cycles?” Lindsay will host 2,000 of the total 4,000 participants.
Thunder Bay Mayor Keith Hobbs, a 34-year veteran of the local police force, described his experience with some members of the community: “I saw the same people all the time, like a revolving door.” Hobbs expressed excitement at the possibility of this project positively impacting the lives of those he had consistently interacted with. Workers and citizens of Thunder Bay have had to reinvent themselves as the region transitioned from industries like pulp and paper to health research institutes, law, and genomics.
Pulp and Paper Mills in Thunder Bay, Ontario
Brantford Mayor Chris Friel expressed excitement to take part in a project that will reduce poverty and improve health and educational outcomes. Ron Eddy, the Mayor of Brant Country, stated that he looks forward to observing the results of the project. “The only way you’ll know the outcome is to try it out. So, let’s see what happens,” Mayor Eddy said.
Details on the Pilot
The basic income pilot will randomly select 4,000 individuals between ages 18 to 64 that meet certain criteria, and provide them with a minimum income despite their employment status. The plan will target populations who are in precarious work positions, those already on social assistance, and the homeless. The program will, however, target mostly the “working poor” according to Ontario’s Minister of Community and Social Services Helena Jaczek. Those receiving a minimum income will be compared to a control group, which will not receive payments. The project will look for outcomes using metrics like food security, health and health care usage, education and training, and labor market participation among others.
Recipients of the guaranteed minimum income will receive:
- $16,989 per year for a single person (75 percent of the Canadian poverty line), less 50 percent of the recipient’s earnings from work;
- $24,027 for a couple, less 50 percent of their earnings from work;
- An additional $6,000 for those with disabilities.
In addition to this, recipients will continue to receive other provincial and child benefit payments.
With this version of a guaranteed minimum income, a person earning $12,000 a year would still receive a basic income of $10,989 (subtract $6,000, or half their earnings, from the base amount of $16,989) and therefore receive a total of $22,989. A recipient’s net income will still increase, with the minimum income still active, as earnings from work increase up until around a wage of $34,000, where the payments would disappear. The total cost of the project is expected at $50 million per year.
Hugh Segal, a former senator who was consulted for the project, noted in Manitoba’s “Mincome” experiment in the 1970’s that the community saw improvements in health with no drop in employment, and that the potential exists for the government to save money if it replaced the traditional social assistance programs like Ontario Works with a basic income. The Provincial government is also in the early stages of planning a fourth basic income pilot for the First Nations community.
More information at:
Kate McFarland, “Government Announces Detail of Minimum Income Pilot.” Basic Income News, 25th April 2017
“Ontario Basic Income Pilot.” Government of Ontario, 24th April 2017
Roderick Benns, “City of Kawartha Lakes mayor welcomes basic income pilot in Lindsay.” Precarious Work Chronicle, 25th April 2017
Roderick Benns, “Thunder Bay mayor says basic needs must be met as his city chosen for basic income pilot.” Precarious Work Chronicle, 26th April 2017. Web.
Vincent Ball, “Brantford, Brant part of basic income pilot.” Brantford Expositor, 24th April 2017
Benoît Hamon. Credit to: L’opinion.
Though Socialist candidate Benoît Hamon did not make it to the second round of the French presidential election, he has attracted attention through his proposal for a version of universal basic income (UBI).
An article by the French Economic Observatory (OFCE) explores the way Hamon’s UBI proposal might be implemented into an existing French system that already has redistributive programs such as the RSA (Revenu de Solidarité Active), which provides a level of income for households without a source of it. Hamon’s proposal for basic income may effectively supplant these programs, but it does not describe how a basic income will interact with them. Nonetheless, with certain conditions applied, the plan should give benefits to 11.6 million people, or 17.5% of the French population. The amount paid will adjust to various conditions such as marital status and dependency on parents.
The version of the plan as described by the OFCE describes a basic income of 600 euros per month, starting for those with no income, and then gradually tapering the payments off to incomes 1.9 times the French minimum wage, which is 9.76 euros per hour as of 2017. The base system will taper off payments by using a formula, which subtracts 27.4% of the total income of a taxable household from the monthly payment of 600 euros. Because the payments are adjusted and distributed in a single step, this system more resembles a negative income tax than a universal basic income, where a UBI system would pay an equal amount to everyone first and then take taxes out. This system is not automatically individualized for everyone either, as married couples can choose to file their taxes jointly or individually depending on their financial situation. The implementation of this proposal will also matter greatly, specifically as it is overlaid onto the existing French system or proposed in addition to it.
Using a micro-simulation model (see OFCE article for details), the authors provide estimates of the net benefits to tax households composed of one adult, using the latest available data (2015).
They use a model which assumes that the UBI will overlay the existing French system, and therefore subtracts benefits already provided by the state. This model also excludes individuals aged 18-24, who still report under their parents’ tax household.
Given the model’s parameters, households within the first decile of living standards would see a rise of 38%, or 257 euros/month, to their income. The second decile would increase 13%, or 137 euros/month, and so forth until it expires for those making about 2,800 euros/month, or 1.9 times the French minimum wage. As a result, the poverty rate, as defined by the share of French households who live on about 1,000 euros per month, is projected to drop 4.9% down to 8.5%. The Gini coefficient would also drop by 0.04 points to 0.26, and would put France from an average level to one of the least unequal nations in the European Union.
Average monthly gains by consumption unit and livings standards decile
Much still depends on the implementation of the program. As it stands, the OFCE model projects total expenditures of 30 billion euros; close to Hamon’s projection. However, if young adults ages 18-24 who still report under their parents’ tax household are given a basic income, expenditures would rise to 49 billion. These features suggest that certain groups will be given new incentives within this system, such as individuals within the age range of 18-25 and married couples who can choose to file jointly or individually.
To finance this UBI program, the authors make clear that hikes in tax rates for the highest incomes would be necessary. Personal work income taxes alone bring 74 billion euros annually, but France’s state expenditures are already quite large. New tax bases, like France’s ISF wealth tax which draws revenue from assets like real estate, may be needed to help finance this proposal.
More information at:
Pierre Madec and Xavier Timbeau, “Universal basic income: An ambition to be financed”, OFCE Le Blog, April 5th 2017