To help the poor, help everyone

We expect modern governments to help us when we're down. For Canadians, this takes the form of (un)employment insurance, pensions for the elderly and disabled, universal health insurance and more. This social safety net works because the country at large pitches in through taxes, while only those in trouble - historically spoken of as 'the deserving' - get the payouts.

One big question is, who are the deserving? At first blush, it may seem obvious that we have to narrow eligibility for benefits to those who are really down on their luck. Consider old age pensions. Surely it's silly to give government pensions to the rich as well as the poor. The rich, being wealthy, don't need the typically small allowance and will probably just blow it on caviar and designer hubcaps. The poor, on the other hand, actually need the money to buy basic necessities, like bread, beer and heating fuel. Besides, if we give money to the rich, there's that much less to give to the poor.

Thoughts along these lines have led to the means testing of a host of benefits. Before the government hands out any cash, they check to make sure that you're miserable enough to qualify.

This all seems very reasonable, unless you've had some training in economics. Economists are trained to look beneath the surface of choices involving scarce resources, and the more you look at means testing using econo-vision, the more rotten it appears. It turns out that in many situations (including old age pensions) giving money to everyone trumps giving money to the deserving poor.

Below are the top five reasons why means testing is often a bad idea.

5. Stigma

Consider the following scenario. You've worked for twenty years at a bowling alley, but in 2008 the global recession comes along and you're laid off. People living through a world-wide financial crisis and credit crunch are worried about the future and not willing to spend much of their money on luxuries such as bowling. Or restaurant food. Or manicures. Pretty much everyone is firing their workers and hiring less, so you have to settle for working two entry-level part-time jobs in order to make ends meet. You used to live comfortably, but now you're stretching a package of Kraft Dinner for three meals and think washing laundry with soap is something that happens to other people. The baby's getting skinny, the roof is leaking and the car has all its battle scars from recent bumps and crashes. Time to ask the government for help, right?

Only if you're willing to endure the soul-crushing erosion of your sense of self-worth. Researchers recently confirmed what a bunch of us already suspected: many poor people will avoid going on the dole because they don't want to officially be tagged as paupers, and don't want government bean-counters to sneer at them while scrutinizing their income and expenses. The first might seem odd - if you're poor, you're poor, and there shouldn't be any problem with being correctly classified. There shouldn't be, but there is. It's the difference between showing up at the grocery store cashier station with an almost-empty cart and paying for it in cash, and showing up with a full cart, but paying for it with food stamps (or these days, a food ATM card). In the first case, you're poor, but proud - you may not be able to buy much with your income, but what you decide to do with it is entirely up to you. In the second case, your method of payment shows everyone staring at you in the grocery store that the government believes you can't be trusted with real money, and need to be stopped from spending your allowance on lottery tickets, booze and porn.

Something similar happens even when you're actually receiving a cheque that can be turned into cash. Cashing that welfare cheque can feel like advertising that you've failed at life, and aren't able to make it on your own without a government bailout. Interestingly, this effect is in play even when we're looking at big banks instead of poor people. When the US government insisted on handing out bailout money to banks, many of them tried to refuse the offered money. They were worried it would make them look bad in the eyes of their depositors and shareholders. Even the banks that were at risk of going bankrupt in a day or two didn't want to take the bailout money unless more prosperous banks took it, too. They didn't want to stand out as the ones that couldn't make it without a crutch from Uncle Sam.

Finally, there's the second form of stigma pointed out in the research paper. The thing about means testing is that in order for you to receive a benefit, someone (a government employee) has to go through the details of your life to make sure you're poor enough to qualify. This process can be humiliating and demeaning. "Oh, I see you have a pet fish, Mr. Smith. You told me you didn't have enough money to feed yourself, but you have enough to feed a pet?" "Do your children actually NEED a new sweater every year?" "Why does your cupboard have name brand cereals instead of the no name ones? Why do you have something as decadent as a cupboard at all?"

All these problems go away when the benefit is universal and everyone is getting it. There's no more shame in cashing that cheque because the millionaire up the road got one, too. If the family with the SUV is using food stamps to pay for a few frivolous desserts, it doesn't look bad when you use yours to buy the majority of your groceries. Also, if everyone is getting a cheque just for being alive and a resident, there's no longer any need for government agents to perform an audit almost as personal and pleasant as a colonoscopy.

Speaking of those government agents...

4. Means testing costs money

Gathering detailed information about people isn't cheap. Neither is processing information once you have it. Means-testing benefits like pensions is a continuing process - every month (or however long it is between payments) the government has to make sure that benefit recipients don't become wealthy enough to disqualify them.

Governments around the world are in financial trouble right now. Even setting aside debt-fueled meltdowns such as those in Greece and Portugal, their costs are up. No one's buying stuff, which means no one is hiring workers to make stuff, and on top of that banks are getting very shy about lending money to anyone. All this means that claims on (un)employment insurance and welfare are rising, at the very same time that the government's own income (tax revenue) is falling. Politicians are scrambling for ways to make national ends meet. One of the very first suggestions to come up is usually tighter means testing. The idea is that if you disqualify anyone who is able to afford two meals a day and give money only to the very poorest, you'll have more money to spend on bank bailouts and election advertising.

There are many problems with that notion, but here's one of the biggest: going down that route will massively increase the costs of administering the benefit. Remember, these countries are going through bad times so there are more people than usual applying for government benefits. This means that the country will need more civil servants to process the applications, which is costly. Tightening means-testing will require more investigation and monitoring of individuals, which also raises costs.

In the end, just giving the benefit to everybody who is breathing and a resident may be cheaper than hiring an army of men in suits to check monthly whether applicants are sufficiently close to starvation to merit a break. This is especially true if the benefits in question are tiny, as in fact the most heavily means-tested benefits tend to be.

Even worse - in a heavily means-tested world, where you may be disqualified for government aid if a civil servant notices you've graveled your previously dirt driveway, there's temptation on both sides for the applicant to slip a bill to the auditor to make her look the other way. That brings us to our next point:

3. Means-testing encourages fraud and corruption

Sadly, this one is self-explanatory - or should be. If an applicant's success in receiving government money depends on what a civil servant writes on her clipboard, there's temptation on both sides for the applicant to bribe the civil servant in exchange for approval. This is especially true if the means-testing is difficult or uncomfortable to qualify for. The bribe can potentially be quite high as a percentage of the benefit, since as far as the applicant is concerned, getting any money at all is better than not qualifying.

The more complicated the qualifications are, and the more people are applying, the easier it is to get away with fraud. Hey! What a coincidence - those are exactly the two conditions that we see being fulfilled in recession-ravaged countries. Given that governments usually implement means-testing as a way of saving money, there's not enough cash to hire more auditors to check on the civil servants and double-check their paperwork. The only way to detect fraud of this sort is if someone slips up in an exceptionally foolish way. Maybe a civil servant whose job it is to process applications for pensions suddenly starts wearing a Rolex watch and is caught speeding on the highway in a Porsche with a very expensive escort at his side. Or perhaps a welfare recipient shows up to the bank to cash the cheque in a designer suit, with diamond rings on every finger and a smile with enough gold teeth to plate a teacup. Unlike these show-offs, any fraudsters who play it safe and keep their heads down can remain undetected indefinitely.

Getting your citizens to treat bribery and fraud as a part of everyday life is a bad thing. Unfortunately, the harsher means testing is, the more it encourages this. No one wants to have to get rid of their decadent glass windows and working refrigerator in order to qualify for $40 a month, but if you can slip a tenner to an interviewer to have them confirm that you live in a shack made of cardboard salvaged from other shacks, why not?

Giving the benefit to everyone eliminates the middleman, and with it the temptation or possibility of fraud. (Well, okay, you can still pretend that your deceased friend is alive and continue to cash their welfare cheques.) It's not a good idea to make fraud part of the national culture, so governments may want to avoid creating a situation tailor-made for it. The harsher the means test is - the more miserable you have to be to qualify - the more likely it is that people will find ways to cheat.

2. Complexity means less take-up

The more tightly a government means-tests, the more questions it has to ask applicants and the more forms that must be filled out. In some cases, getting a benefit may involve visits to different government agencies, or having to fill out complicated questionnaires and provide evidence of destitution every month.

At some point, potential applicants may decide it's just not worth the hassle. Or they may be confused by a long list of requirements and decide not to bother since they probably don't qualify, even if they do.

Assuming the government is not actively searching for those who qualify for benefits (that'd be costly), means-testing can lead to those who need and qualify for the benefit not receiving it. By trying to exclude the well-off from the benefit recipients, you may end up excluding the poor, as well. This is doubly the case in countries where the poor have a low rate of literacy, and therefore have trouble wading through piles of government documents. A related problem is that the very poor may not have required supporting documents stating their identity and socioeconomic status. In this case, only the wealthiest of the poor, those who are already plugged into the system to a large degree, will be able to qualify for the benefit. The neediest will be excluded.

All of this can be avoided by having the benefit be universal. Proof of life and proof of residence are all that is needed. These are easily understandable and easily obtained.

At last we come to the 800-pound gorilla in the room...

1. Means testing is a tax that rewards poverty and discourages work

Suppose you've managed to jump through all the hurdles and are the proud recipient of a basic income grant, employment insurance, a child credit and government-paid medical insurance. All of this is given to you by your society's safety net because a year or two ago you fell into hard times. You lost your job, had to pay for an expensive operation, and ended up selling your house and moving into a trailer.

You've been happy to rely on government money while you piece your life back together, but now that you're in a better situation you figure it's time to get back to a career and re-join working society.

You've been out of the job market for a while, so it's unlikely employers will hire you for a rewarding full-time job right away. You need to start small, maybe working part-time at a retailer to build up much-needed work experience. So, you look in the classifieds, find a few promising ads, and are about to apply for them... when you realize that taking the jobs would make you poorer than you are now.

Why? Because all your benefits are means-tested. When you take on a part-time job and start earning a very small income, your basic income grant will be reduced dollar for dollar of your earnings. You'll be working for free. All of a sudden, nights spent frying potato chips and spreading mustard on hamburger buns don't look as attractive as an evening in front of the television - and that's not all. Since you're employed, employment insurance will also vanish. Having a reasonable if tiny income also makes you too wealthy to receive government health insurance or the child credit, so now you have to pay for operations (part of what landed you in poverty in the first place) and your child's clothes and school supplies on your own. You'd better hope you stay healthy despite your poverty-induced high fat, low nutrient diet, and that your child stops growing until clothes go on sale at the consignment store.

All in all, it's better to stay unemployed, since trying to bring yourself out of poverty will only make you poorer. Means testing is a tax on work, and a high one.

My example is extreme and crafted to exaggerate a point, but a very readable paper agrees with the basic message. The authors calculate that in real-world Canada, means testing works out to an effective 45% tax rate on each additional dollar earned for families with children that earn $20,000 to $30,000 a year. This tax rate isn't reached by families without children until they have an income of $70,000 a year. This is about twice the average Canadian income. The reason for the difference? Child benefits are clawed back from the moment a family starts earning an income that keeps them from starving. Every dollar earned means a fraction of a dollar lost in benefits. When an extra dollar earned means 45 cents lost in benefits, sacrificing a family's quality time to go from part-time work to full-time work or developing a higher-paying skilled career doesn't look very attractive. Means testing discourages the poor from taking on the jobs that could eventually take them out of poverty. The short-term cost is just too high.

"Stay poor, and we'll help out - if you manage to make it through all the bureaucratic hurdles. Try to get out of poverty, and we'll pull the rug out from under you." That's the basic message of means-testing. Targeting benefits to the poorest makes work very expensive. If benefits are universal, we don't see this disincentive to participating in the job market. If flipping burgers at McDonald's doesn't cost you your child grant, and you're able to keep all or most of what you make, you're more likely to take that fast food job, and maybe use it as a springboard for a more valuable career later on.

Means testing is one of those obvious notions that is actually a pretty crummy idea when you look at it closely. Unfortunately, its common sense appeal makes it very popular. Nearly every government in the world uses it as a linchpin of its social welfare program, and in the current global recession many nations are looking to tighten their welfare requirements. Instead, they should be loosening them.