The last time the federal minimum wage was raised was in 2009 to $7.25 per hour. Since then minimum wage has lost 30% of its value in real terms. As inflation has occurred, minimum wage has remained stagnant thus contributing to income inequality. Many would agree that minimum wage needs reform but the solution may not have a clear answer. Although raising minimum wage seems to be a step in the right direction, I believe a reformed version of an earned income tax credit would be most beneficial to low income families.
Raising the Minimum Wage
Minimum wage is not set at an appropriate level for low-wage workers, but what should it be? Some cities in the US are making efforts to raise minimum wage incrementally to $15 per hour over several years, including Seattle, San Francisco, and New York City. One pro to raising minimum wage to $15 is the Federal Reserve Bank of Chicago believes that a $1.75 raise of the federal minimum wage will drastically increase household expenditures ($48 billion in the next year). These increased household expenditures will raise GDP which could create job opportunities.
Another pro of raising minimum wage is the estimate of how many people could be lifted out of poverty in the US. The Congressional Budget Office estimates that 300,000 could be raised out of poverty if minimum wage were $9. That estimate becomes 900,000 if the minimum wage were $10.10. Someone working full time at a minimum wage occupation can earn around $15,000 per year. The 2015 poverty level in the US is $12,300 for a single person household. However, if the single parent has a child under 18 years old, poverty level income becomes $16,300.
Although there may be many pros to raising the minimum wage to $15, there are many cons as well. Small businesses adhering to higher cost of labor will lay off workers and contribute to unemployment. One industry in particular is making efforts to combat raising costs of operations. Restaurants are following companies like Uber and including surcharges during peak operating hours to protect their already slim profit margins. This was a prediction of the Federal Reserve Bank of Chicago when they stated that if minimum wage were increased, restaurants would pass the increased costs onto their customers.
Another con to raising minimum wage would be a reduction of teenagers and young adults in the workforce. In 2009 when the minimum wage increased to $7.25, there was an 8% drop of employed teenagers. Thomas Mroz and Timothy Savage note that individuals who experience unemployment at younger ages will have lower earnings and are likely to face more unemployment in the future.
Earned Income Tax Credit (EITC)
A goal of increasing income for low level income families will not be attained by raising minimum wage. One way to achieve this would be through an earned income tax credit. An earned income tax credit (EITC) is a refundable tax credit for low to moderate income working individuals who file a tax return and qualify. The amount of money someone receives from an EITC is dependent on individual recipient’s characteristics such as income, marital status, and number of children. In 2015 the average EITC was $3,186 for a family with children. Estimates in 2015 show that EITC lifted 6.5 million people out of poverty with 3.3 million being children.
The focus of the earned income tax credit is medium to low income families with children but there are many downsides to this form of aid. First of all, EITC is complex to the point that one in five who are eligible to receive it often do not apply for it. EITC also has high improper payments either due to honest filing mistakes or through fraud. To properly receive the EITC, individuals seeking this form of aid often have to hire a tax specialist to ensure proper paperwork is filed. Another problem with EITC is that the aid is received as a sizeable lump sum payment. Education of medium to low income families plays a factor in how the money is spent versus what the money is intended for.
Reform to Earned Income Tax Credit (EITC)
I believe that EITC can be used to supplement low wages in the United States, but it must be reformed. There is no doubt that individuals are better off with receiving an EITC.
The blue line represents a single worker earning minimum wage and working full time. The red line represents the income a family with two children working full time and supplemented with an EITC (all figures in 2012 dollars). How could additional funding be provided for an increased EITC? One possible way would be reforming the tax system to have a higher income tax for some of the richest individuals in the United States.
The richest eight men in the world control $426 billion, more wealth than half of the world combined, as of January 2017. Of the richest eight men, six are American with the richest being Bill Gates at $85.7 billion. In 2013 Warren Buffett earned $13.5 billion or roughly $37 million per day. This begs the question, how much money does one truly need while there are some in the country that remain hungry and struggling to meet day to day expenses? The rich fairly earned their wealth by creating vast business enterprises in one of the best capitalist markets in the world and their accumulated wealth serves as a reward. The highest earners in the United States are:
- Bill Gates – Founder of Microsoft ($85.7b)
- Warren Buffett – Largest shareholder in Berkshire Hathaway ($76.1b)
- Jeff Bezos – Founder of Amazon ($73.3b)
- Mark Zuckerberg – Founder of Facebook ($56.7b)
- Larry Ellison – Founder of Oracle ($55.6b)
- Michael Bloomberg – Founder of Bloomberg LP ($47.6b)
Warren Buffett has gone on record saying how he believes a reformed EITC could help with income inequality rather than incremental increases in minimum wages. However, this would require targeted taxation reform which is not the intended purpose of the IRS. Another problem that was mentioned earlier is how EITC is a lump sum payment. In order to reform EITC so recipients can allocate it more efficiently, there must be a way to break up the payment across several months but that can be tricky when taxes are filed every spring.
Earned income tax credits are the best way for low income families with children to raise their income while at the same time encouraging workforce participation. However, they are far from perfect. In order to have higher earned income tax credits, the funding must come from somewhere. I believe the top 1% of earners in the United States should shoulder some of that burden. In order for this to happen, the IRS would also need to be reformed which could delay this process even longer.