Economics and Social Welfare
Abstract and Keywords
This article covers basic economic concepts, as well as their relevance to social welfare policy. It defines economics, and follows this with discussions of microeconomic concepts, such as market, demand, supply, equilibrium price, and market failure. Next, it takes up discussions of macroeconomic concepts, such as gross domestic product, aggregate demand, inflation, unemployment, fiscal policy, taxes, and free trade. As these economic concepts are discussed, they are related to social welfare policies, such as Social Security, Unemployment Insurance, and Temporary Assistance for Needy Families.
Economics is the social science that deals with the allocation of scarce resources among competing wants. (Whenever the words “Economics” or “economists” are mentioned in this article, it always means mainstream or Neoclassical Economists. These are the ones whose views, arguably, most influence policy discussions. See Keen (2002) for a discussion of the Neoclassical and competing schools of economic thought.) Resources are the goods and services used in the production of other goods and services and can be natural or human made (Lewis & Widerquist, 2001). Land, for example, is a natural resource that can be used to produce food. A computer is a human made resource that, along with other resources, can be used to produce social services. Wants or desires refer to things people would like to possess or consume. To say that wants or desires are competing is to say that they cannot simultaneously be met. A group of landlords may want an empty tract of land to be used to support a luxury housing development, while a group of social workers may want that same land to be used for a battered women's shelter. Economists assume that available resources are not plentiful enough to produce all the goods and services human beings want. This situation is what economists mean by scarcity, and it is the defining feature of their discipline.
Scarcity requires all societies to come up with some way of addressing what economists call “the economic problem.” That is, all societies have to come up with some way of deciding (a) what will be produced, (b) how output (goods/services) will be produced, and (c) who will get to receive that output. Economies are the sets of rules societies develop to address these three questions. The type of economy that gets the most attention in Economics is the “mixed economy.” In this type of economy, markets primarily determine what is produced, how output is produced, and who gets this output. Yet markets receive varying degrees of “help” from government (Lewis & Widerquist, 2001). The rest of this entry is a discussion of some basic micro- and macroeconomic concepts economists have found useful as they have tried to understand the workings of a mixed economy.
Microeconomics is the study of markets for particular goods and services. A market is a set of potential buyers and sellers of some good or service (from this point on we'll use the words “good” or “service” interchangeably) at potential prices (Chambers, 1995; Lewis & Widerquist, 2001, Nicholson, 1989; Prigoff, 2000). There are a number of social workers who try to sell their professional counseling skills to persons in need (or these persons' insurance companies), and there are a number of people in need looking to buy the services of social workers at various prices. Thus, we can talk about there being a market for social work counseling.
Demand is the relationship between the price of a good and the amount of it consumers are willing to buy (quantity demanded), all else being equal (Lewis & Widerquist, 2001; Nicholson, 1989; Prigoff, 2000). The phrase “all else being equal” simply means that the definition includes the effect of price, as opposed to other factors, on the quantity demanded. Economists assume that the relationship between price and quantity demanded is negative. That is, as the price rises, the quantity demanded falls, and as the price falls, the quantity demanded rises.
Supply is the relationship between the price of a good and the amount of it sellers are willing to sell (quantity supplied), all else equal (Lewis & Widerquist, 2001; Nicholson, 1989; Prigoff, 2000). Here “all else being equal” should be understood similarly to the case regarding demand. Economists assume that price and quantity demanded are directly related. This means that as price rises so does quantity demanded, and as price falls, so does quantity supplied.
The Equilibrium or “Market clearing” price of a good results from the interaction between supply and demand (Lewis & Widerquist, 2001). This is the price at which quantity demanded and quantity supplied are equal. At this price, let us call it $E, all those willing to buy the good are able to find someone willing to sell it to them. Thus, the market is said to “clear,” hence the term “market clearing” price. This is also called the equilibrium price because it is the one the market tends toward.
To see this, suppose, in a given market, the price of a service were above $E. Let us call this higher price $A. Economists tell us that since $A exceeds $E, quantity supplied would exceed quantity demanded. This means that at $A, at least some sellers would not be able to find buyers for at least some of their goods. These sellers would begin lowering their prices driving $A toward $E. Now suppose, in a given market, the price of some good were below $E and let us call this price $B. Since $B is less than $E, quantity demanded would exceed quantity supplied. Thus, at least some buyers would not be able to buy the amounts of the good they wanted to at $B, and they would begin offering higher prices. This would drive $B toward $E. In short, supply and demand interact in such a way that no other price is sustainable except the equilibrium price. Not only do economists think supply and demand actually do govern market prices but they also think that they should. To understand why, we need to briefly consider economists' “philosophical” take on social life. Economists tend to think that if people can gain from mutually beneficial exchanges, and these exchanges do not harm anyone else, then no one, including government, should try to stop them from taking place (Nicholson, 1989). For example, if at a given price, Jack is willing to sell social work counseling to Jill and she is willing to buy it, and, if no one else is harmed by this exchange, what would be the justification for stopping it from happening? To the economist, the answer is that nothing would justify such an intervention. Markets are the consummate settings within which mutually beneficial exchanges occur. It is easy to see from this example why economists tend to like markets so much and tend not to like government interventions into them.
To see the application of supply and demand analysis to social welfare policy, consider rent control. Rent control is a set of policy rules, which tell landlords that they cannot charge tenants a rent higher than some given amount. Such rules are often thought of as part of a low income housing policy. Economists are typically critics of rent control for the reasons having to do with a straightforward application of supply and demand (Lewis & Widerquist, 2001).
If landlords are not allowed to raise the rent beyond a certain level, the rent they are allowed to charge may be set at less than the equilibrium rent. This will mean that at the allowed rent, the number of units potential tenants want to rent (quantity demanded) will exceed the number landlords want to rent out (quantity supplied). If government were not “interfering” through rent control laws, this problem could be solved because landlords would be allowed to raise rents to the point where the number of units tenants want to rent equaled the number of units landlords want to rent out. But because government is interfering through rent control laws, this process cannot unfold. Thus, a long-term situation develops wherein the number of units landlords want to rent out, at the allowed price, is less than the number tenants want to rent. Economists would call this situation a “shortage” in the rental housing market.
A social worker might respond by asking, “what's so good about a situation where the equilibrium rent equalizes quantity supplied and quantity demanded if some of the people who don't ‘want’ to pay the equilibrium rent don't want to because they're too poor to afford it?” Such a question highlights a key shortcoming of relying on the market to address the question of who should get to receive housing. The “market's answer” is that anyone who is willing to pay the equilibrium price should get to receive housing because, at this price, tenants who rent and landlords who rent to them are better off (the mutual benefit) as a result of this exchange. Rent control rules block such mutually beneficial exchanges from occurring. This is why economists tend to dislike such rules.
None of what has been said implies that economists are necessarily unsympathetic to the plight of those who cannot afford housing. They just tend to think rent controls laws are not the best way to address this plight. Those who would support a low-income housing policy are more likely to support something like the Section 8 housing policy than rent control. Section 8 is a program whereby the federal government pays a portion of the rent for those low to moderate income tenants who qualify for the program. From the point of view of beneficiaries of the program, this help with rent (what economists would call a subsidy) functions like a decrease in the price of housing, making it easier for them to afford it. From economists' point of view, this is a better low-income housing policy than rent control because it does not directly interfere with the market like rent control does. That is, it does not directly interfere with mutually beneficial exchanges.
Other policy applications of supply and demand have to do with the labor market. In this market, workers try to sell their labor, employers try to buy it, and the wage is the price. In the absence of government intervention, this market would tend to an equilibrium wage. But because some are concerned that this equilibrium wage would be too low, we have minimum and, increasingly, living wage laws. These laws tell employers they cannot pay workers less than a certain wage (the minimum wage). Contrary to the position taken by many social workers (NASW, 2006), economists tend not to like minimum wage laws because they assume that the minimum wage will exceed the equilibrium wage (Lewis & Widerquist, 2001). Recall that if this happens, the number of hours workers will want to sell (work) will exceed the number employers will want to buy (hire). Economists have a special name for this situation: unemployment (more will be said about unemployment later). Thus, as economists see it, a policy designed to help workers by assuring them high wages causes some of them to be unemployed. Yet many of these unemployed workers would be willing to work for a lower wage and many employers would be willing to hire them at such a wage if only the government would let the market settle at this lower wage. Again, none of this implies that economists are necessarily unsympathetic to the plight of low wage workers. They just tend not to think that minimum wage laws are the best way to help them (see Card and Krueger, 1995, for a critique of economists' standard view of minimum wage laws).
An alternative to the minimum wage proposed by some economists is a guaranteed or basic income policy (Lewis & Widerquist, 2001). Such a policy would assure that no person's income would fall below some minimum level whether they worked outside the home or not. Those who did not work outside the home would receive the minimum income from government. Those who did work outside the home would have the minimum income reduced in such a way that their net income (earnings from work + what is left of the minimum) would exceed the level of the minimum income alone. This could help workers because if the minimum were set high enough, employers might not be able to get people to work for them unless they paid a wage at least as high as this minimum. But notice that the government would not be directly “forcing” them to pay this higher wage, as is the case with the minimum wage policy. This is why economists tend to prefer this alternative.
Another important microeconomic concept is market failure. A market failure occurs when (1) market transactions benefit parties to the transaction but harm or benefit others not involved in the exchange, (2) when markets do not form at all or do not form to the extent necessary for people to enjoy mutual gain from their formation, (3) sellers or buyers have the power to individually influence market price, or (4) at least one participant in a market is not fully informed regarding all relevant characteristics of the good being traded (Lewis and Widerquist, 2001).
Market failure type 1 is called an externality. Externalities can be positive or negative. Positive ones are benefits to parties not involved in an exchange, while negative ones are costs to such parties. An externality is an effect of a market exchange on people who are not a party to the exchange (Lewis & Widerquist, 2001; Nicholson, 1989). For example, suppose a worker agrees to work for a company that makes toxic chemicals. An economist would assume that both the worker and the company benefit from this exchange (labor is being exchanged for a wage). Yet people who live near the chemical plant may be harmed by emissions of the chemical. This may appear to be an issue of more concern to physicians and environmental health scientists. Yet social workers often take an interest too because plants that emit toxic chemicals tend to be found in low-income areas inhabited mainly by persons of color.
Market failure type 2 is called a public good. A public good is one, which, if produced, no one can be excluded from enjoying. Child protective services are a public good. If someone comes along and protects children from harm no one who wants children protected can be excluded from enjoying this service. For this reason, a market is not likely to be a good means of allocating the service, or public goods in general, because people who would benefit from the production of such goods have little incentive to pay for them. If someone cannot be excluded from benefiting from children being protected whether they pay for the service or not, why would they pay? This lack of incentive to pay leads economists to conclude that government is likely to be more successful at providing public goods than markets are—governments can force people to pay taxes to finance the provision of such goods, while private businesses cannot. Notice that child protective services are provided by government, not a child welfare businessperson out to make a profit. It is true that government often contracts with private agencies to carry out its child protective functions. When this happens, notice that these agencies' work is financed by government revenues. Agencies that have contracts with New York's child welfare department do not charge each New York resident a monthly fee in return for protecting children. They get money from New York's child welfare department whose budget comes from government revenues.
Market failure type 3 is called market power. Market power occurs when businesses or buyers are big enough that their decisions, alone, regarding how much to sell or buy, affects market price. A single seller, a monopolist, in a market with many buyers has market power. So do a few sellers in a market with many buyers (Lewis & Widerquist, 2001). To economists, the problem with market power is that it allows sellers to charge a higher price than would occur in a more competitive market. If this happens in certain markets, for example, in health care markets, this could mean trouble for many people. Health care is, arguably, a human need, and if market power allows health care providers or health insurance companies to charge a higher price than the competitive market price, mass suffering and even death could result.
Market failure type 4 is called imperfect information. Imperfect information is when one party to a transaction has information relevant to the transaction that the other party does not. This allows the more informed party to manipulate the transaction to disadvantage the other party. Doctors and social workers are more informed about medicine and social work intervention than the average patient or client. This means that an unscrupulous or incompetent doctor or social worker can manipulate the patient or client to do something that might be harmful to her or him. The existence of imperfect information leads economists to often argue for government regulation of industries in which this problem is endemic. Requiring doctors and social workers to be licensed to practice are examples of such regulation.
Macroeconomics is the study of the economy as a whole. Microeconomics focuses primarily on individual markets, whereas macroeconomics focuses on all markets that make up an economy, combined. One of the key concepts in macroeconomics is gross domestic product (GDP). GDP is the market value (measured in currency) of all the final goods produced within the borders of a nation over a year. “Market value” refers to the fact that only goods bought and sold in markets are included in GDP. “Final goods” refers to the fact that only goods at the end stage of production are included in GDP. For example, only the entire car sold from the showroom floor is part of GDP, not the parts sold in earlier stages of production (Colander & Gamber, 2002).
Other important macroeconomic concepts are aggregate demand, inflation, and unemployment. Aggregate demand is the total amount of spending on the goods produced within an economy. Inflation is the increase in the general price level in an economy. “General price level” means the prices of all goods, not just particular ones. Unemployment occurs when someone is willing and able to work at a given wage but cannot find anyone to hire her or him to do so. A recession occurs when GDP declines for six months in a row. Recessions are also associated with increases in unemployment (Colander & Gamber, 2002).All this is relevant to a key policy concern of social workers: whether people have enough income to meet their needs (NASW, 2006). For example, consider GDP. The production of more goods means a higher GDP, and, often, this production requires more people to produce them. If wages are relatively “decent,” the subsequent decline in unemployment means higher incomes. A GDP decline, especially if it takes the form of a recession, means fewer job hires, higher unemployment, and lower income. It also means the government must pay out more money in unemployment insurance. This is a social program, which, under certain conditions, provides income to unemployed persons.
What about the relevance of aggregate demand? Higher aggregate demand, that is more spending on goods throughout the economy, can mean a higher GDP, leading to the lower unemployment and higher income referred to in the previous paragraph. Yet higher aggregate demand does not necessarily lead to a higher GDP. Instead it may just lead to higher prices or inflation. Inflation—a decline in the value of money—is harder on those who live on fixed incomes. An example would be Temporary Assistance for Needy Families (TANF) recipients. TANF is a social program that provides benefits to, primarily, single women with young children. There is currently no federal law that requires TANF benefits to increase with inflation. Thus, inflation continues to erode the value of these benefits year after year.
Monetary policy is the next important macroeconomic concept to be discussed. Monetary policy is the government's use of its authority to control a nation's money supply and interest rates (Colander and Gamber, 2002). Think of the money supply as the quantity of money “moving through” the economy as people buy and sell goods. Think of interest rates as the fees lenders charge people or institutions for the use of their money. When a person borrows money from a bank, that person must pay back the amount owed plus an additional amount called interest. A part of the federal government called the Federal Reserve Board (the Fed), a bank for the nation's banks, has the authority to tell banks how much interest they must pay to borrow from each other as well as how much they must pay to borrow from the Fed. This influences how much interest the nation's banks charge us to borrow from them. For example, if the Fed increases interest rates, making it more expensive for the nation's banks to borrow from one another as well as from the Fed, these banks will most likely increase interest rates we have to pay. This can cause an increase in unemployment and poverty.
To see why, consider the fact that not only do people borrow money from banks, but businesses do, too. They do so to increase the scale of their operations, typically hiring more people as they do so. A Fed-induced higher interest rate will result in businesses borrowing less money, hiring fewer people than they otherwise would, and, perhaps, a decline in GDP. As stated earlier, if GDP declines enough, a recession and higher unemployment would result.
The next major concept to be considered is fiscal policy. It refers to the tax and spending policies of the government. Presumably, all social workers know what taxes are and what government spending is (Colander & Gamber, 2002). At the federal level, there are taxes on people's incomes, corporate profits, the purchase of certain types of goods, and a host of other transactions. There is spending on defense, the federal court system, various other matters, and social welfare policies (TANF, housing, etc.). Fiscal policy is often a topic of heated debate among economists and politicians.
For example, Supply-Side Economists and their, usually, Republican allies argue that taxes should be kept low. This is because low taxes allow businesses and the common people to keep more of their hard earned money. Businesses will use the greater amount of money they have to make investments in new plant and equipment as well as new hires. Because they know that with low taxes they get to keep more of the money they make, workers will work harder. More investment and harder work will lead to an increasing GDP. And as stated earlier, an increasing GDP typically means more job hires and less unemployment.
Now since taxes are what finance government services, including social programs, low taxes mean low social spending, right? Supply-Side Economists have an answer for this. Low taxes will do so much to stimulate the economy (increase GDP) that (a) a lot of social services will not be necessary for such a vibrant working populace and (b) GDP will grow so much and so many people will be working that even if people are paying a lower percentage of their incomes in taxes, the amounts paid multiplied by the huge number of working people will be enough to finance any necessary social programs.
Other economists, and their, usually, Democratic allies contend that this is sheer fantasy. To understand their counterargument one needs to know what the terms “budget deficit” and “debt” refer to. A budget deficit is what results when government revenues are less than government spending (Colander & Gamber, 2002). Government has to borrow money to sustain a budget deficit, since this is the only way that revenues can continue to be less than spending. This is analogous to a family having to borrow in order for its income (in most cases, primarily earnings) to stay below its spending. Debt is what is owed as a result of borrowing to maintain budget deficits.
Those economists and Democrats who criticize Supply-Side Economists often argue that supply-side policies will increase budget deficits. This is because taxes are a large source of government revenue and lower taxes mean lower revenue. If spending is not cut enough to compensate for the lower revenue, a budget deficit will result. Over time, budget deficits will result in higher debt. Higher debt can be bad for the economy. This is because government borrows money from banks just as people and businesses do. When government borrows, it increases the demand for money. To get this point, one must think of borrowing money from someone as “buying” the use of that person's or institution's money and interest as the “price” one must pay for that use. When government enters the market to borrow money, it causes the quantity of money demanded, at the current interest rate, to exceed the quantity supplied by those who lend money. Recall from the section on microeconomic concepts, that when this happens price (in this case, the interest rate lenders charge) rises. From our discussion of the Fed, we saw that higher interest can lead to a lower GDP and higher unemployment. Thus, the critics of supply-side policies are concerned that such policies may lead to higher unemployment, lower earnings, and higher unemployment insurance being paid out.
Not only do economists debate the macroeconomic effects of taxes but they also distinguish among different kinds. The distinction most relevant here is between progressive taxes and regressive taxes.
Progressive taxes are those that make up a larger percentage of larger incomes (Baumol & Blinder, 1991). In theory, the income tax in the United States is a progressive tax because the higher one's income, the bigger the percentage of one's income has to be paid in taxes. In practice, the rich can often use loopholes to lower their tax bill, resulting in the income tax being less progressive in reality than it is in theory.
Regressive taxes are those that make up a larger percentage of smaller incomes (Baumol & Blinder, 1991). Social Security, for example, is financed by a regressive tax.
Social Security is essentially a government retirement pension. The payrolls of employers are taxed, and since employers' payrolls are what employees earn, a payroll tax is, in part, a tax on earnings. This tax is currently 6.2%, meaning that 6.2% of one's earnings must be turned over to the government to finance Social Security. However, only earnings up to $97,500 are taxed. This makes the 6.2% tax regressive because those who make less than $97,500 pay a larger percentage of their incomes (at least the earnings part of it) to finance Social Security than those who make more than $97,000. Many social workers might find this unfair. On the other hand, Social Security operates so those who earn less receive a higher percentage of their wages in Social Security benefits than those who earned more. To some extent, this policy offsets the regressive nature of the tax (see Social Security Online, http://www.socialsecurity.gov.).
The last few concepts to be discussed have to do with global issues. One of the most important is free trade. Free trade refers to the ability of persons in different nations to exchange goods with one another due to there being relatively few barriers to such exchanges (Colander & Gamber, 2002). To understand what constitutes barriers to trade one must understand the concepts of exports and imports. Assume there are two countries A and B. Exports, from A's perspective, are goods, which persons in A sell to persons in B. Imports, from A's perspective, are goods persons in A buy from persons in B (Colander & Gamber, 2002).
One type of barrier to free trade is a Tariff. This is a tax that importers must pay the government of their nation when they import goods. Import Quotas are another type of barrier to trade. These are laws that stipulate that a country cannot import more than a certain number of goods (Colander & Gamber, 2002). So, free trade exists when tariffs are low or nonexistent and import quotas are high (a lot of imports are allowed in) or do not exist.
The more goods a country imports, the more the workers in that country must compete with workers in the countries the imports are coming from. Now suppose that the countries the imports are coming from pay lower wages than the wages paid to workers in the importing country. This would mean that businesses in the countries the imports are coming from might be able to sell the goods being imported for lower prices than businesses in the importing country charge for these same goods. This may benefit consumers in the importing country but, perhaps, not workers in this country. These workers may face a higher chance of losing their jobs or being paid lower wages. Job loss means higher unemployment, perhaps lower self-esteem (since so many people define their worth by their work outside the home), higher unemployment insurance payments, and other consequences of interest to social workers.
A lot of politicians, both Democrats and Republicans, are big proponents of free trade. When Democrat Bill Clinton was president, he signed a free trade agreement with Mexico called the North American Free Trade Agreement (NAFTA). Many members of his party opposed him, but a lot of Republicans supported him. Clinton (with a few other Democrats) and Republicans focused on how the free trade agreement would benefit consumers in the United States. Opponents focused on how it would harm workers in the United States (some also focused on how it would hurt Mexicans). On the basis of what was said earlier, arguably, both sides may have been right. Reducing barriers to trade may benefit consumers in importing countries because, as stated earlier, they may face lower prices for goods. But reducing these barriers may also hurt workers in importing countries if job loss results. The question is whether consumers gain more from free trade than workers lose.
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