The Great, Overlooked Tax Policy for Getting People to Work

Yet more evidence piles up for effectiveness of the Earned Income Tax Credit.

Carlos Barria / Reuters

The Republicans’ sweeping $1.5 trillion tax legislation touches nearly every part of the federal code: shifting around brackets, creating major new business loopholes, encouraging companies to move hundreds of billions of dollars back from overseas, changing how state and federal taxes interact, and parceling out hundreds of billions of dollars of cuts, most to the wealthy and to corporations. But a few parts of the tax code remained largely unchanged during the reform process. That includes one of the government’s biggest and most effective programs to encourage poor Americans to work and to make that work worth the time and effort, with new research showing just how effective it is.

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That program is the Earned Income Tax Credit, which supported roughly 28 million families with an average credit of $2,440 as of 2015, pushing 3.3 million kids above the poverty line. The policy is a rare bipartisan one, expanded both by Ronald Reagan and Bill Clinton and supported by both Republicans and Democrats, at least superficially, on the Hill today. Its popularity stems in no small part from the fact that the EITC is not just a handout, but a program that induces more people into the workforce and encourages them to work more, by bolstering their wages. To get the credit, a single mother needs to have earned income—meaning wages or other income she makes herself. And the credit is structured not to penalize her for earning more by eating away at her benefits if she does.

The incentive works: One study found that a $1,000 increase in the EITC led to a 7.3 percentage point increase in employment and a nearly 10 percentage-point reduction in the share of families in poverty. Its benefits are far-reaching, too. For lower-education single mothers, an additional $1,000 in the EITC is associated with a 6.7 to 10.8 percent drop in the share of infants being born with low birth weights, with bigger impacts for black mothers.

New research by David Neumark and Peter Shirley of the University of California, Irvine, shows that the effects are not just short-term, either. The EITC does not just boost earnings and reduce poverty rates when it is received, but improves the lifetime earnings trajectories of unmarried women with kids. A 10 percentage-point increase in the EITC rate for a single mother with two children at age 20—meaning that for every additional dollar a woman earned, she would get 10 more cents from the EITC—increased her earnings by 3.4 percent and her hourly wages by 1.6 percent at age 40, likely stemming from several months’ worth of additional work experience translating into higher wages and income in the longer run, they found.

“What this shows is that work incentives lead to the accumulation of skills, so that later your earnings are higher,” Neumark, an economist well-known for his studies of the minimum wage, told me. “It is not that you’re working some minimum-wage job because of the EITC, but you’re actually advancing in the labor market. It’s not that your earnings plus the EITC are getting higher, but your earnings alone are getting higher, and they’re rising over time.” The tax policy, in other words, improves workers’ skills and the country’s stock of human capital.

“I run something called the Economic Self-Sufficiency Policy Research Institute,” he added. “I don’t know exactly what ‘economic self sufficiency’ means. But increasing your independent earning power over time and decreasing your dependence on government programs, even if government programs are still helping you—that seems like it fits.”

But the Republican tax legislation does not make the EITC more generous, as many Democratic and some Republican legislators have long called for. More than that, it actually erodes the value of the EITC, since the credit is now indexed to a less-generous measure of inflation. Chuck Marr of the Center on Budget and Policy Priorities, a Washington-based think tank, has estimated that a married couple with two kids earning $40,000 a year would see their EITC payment fall from $4,974 to $4,652 in 2027. Many changes in the legislation are temporary but that one is permanent, he notes.

Now, the White House is turning to welfare reform. “We will have done tax cuts, the biggest in history, health care, phenomenal health care,” President Donald Trump said in a major speech on his policy priorities in Missouri last month. “Welfare reform, I see it, and I’ve talked to people. I know people that work three jobs and they live next to somebody who doesn’t work at all. And the person who is not working at all and has no intention of working at all is making more money and doing better than the person that’s working his and her ass off. And it’s not going to happen. Not going to happen.” Republicans have discussed adding work requirements and more-stringent time limits to safety-net programs such as food stamps and Medicaid in order to induce more poor Americans to get a job.

But where the EITC has proven long- and short-term effects on the work effort of lower-skilled and lower-income workers, such policy initiatives have far more spotty records, and in some cases no demonstrated history of reducing the poverty rate. Consider the work requirements added to the cash-welfare program during the 1996 reform. They did boost employment among program participants, but the effects were modest and temporary, researchers have found. “Stable employment among recipients subject to work requirements proved the exception, not the norm,” LaDonna Pavetti of the CBPP has written. “Most recipients with significant barriers to employment never found work even after participating in work programs that were otherwise deemed successful,” and, moreover, a “large majority of individuals subject to work requirements remained poor, and some became poorer.”

With the forces of globalization and automation suppressing wages and with low-income men and women increasingly abandoning the labor force, the government has weakened a proven program to boost wages and improve labor-market outcomes for the working poor, in other words, and is moving to more-punitive and more-complicated initiatives to try to induce people to work. It is taking away a few highly effective carrots and turning to less-effective sticks.

Right now, with wages and employment among lower-income Americans growing, that might not seem like such a problem. But after another recession and jobless recovery, with the lower half of the earnings distribution still stagnant, it might be. “The sky is the limit here,” Neumark said, about expanding the EITC. “Is it insane to double it? If we really think because of technology and globalization, people at the bottom end of the income distribution can’t earn what they should earn, this is the way to fix it. Instead of taking money and just giving it to them, you are encouraging work and the accumulation of human capital as part of the process. I don’t see a better way to do it.”