The Reagan Economic Program: Selected Budget Cuts

Report Budget and Spending

The Reagan Economic Program: Selected Budget Cuts

April 29, 1981 33 min read Download Report
Peter J.
Distinguished Fellow
(Archived document, may contain errors)

139 April 29, 1981 I THE REAGAN ECONOMIC PROGRAM I SELECTED BUDGET CUTS INTRODUCTION Many of today's income security programs that provide finan- cial assistance to groups such as the poor and elderly are being confronted with increasingly greater demands for their services and costs exceeding e arlier expectations stem primarily from the programs' rapid growth, largely a result of increased coverage and liberalized benefit payments. Unfortu- nately, this expansion has often created excessive and unintended benefits. The proportion of the federal budget going to entitle ment and income security payments has grown from 26 percent in 1960 to 50.3 percent in 1981.l The Reagan Administration has proposed reforms that would enhance the long-run stability of these programs by eliminating many of the mis d irected benefits that have emerged during this period. The proposals are aimed at restoring these programs to their intended purpose of providing a social safety net. I These difficulties The proposed budget cuts to be discussed in this paper include many of the income security programs such as social security, unemployment compensation, and welfare as well as public service employment. The public jobs program is included because it offers benefits to workers who might otherwise be unemployed and may be th o ught of as a form of unemployment compen- sation All numerical data, unless otherwise noted, are from one of two Administra tion reports: America's New Beginning: A Program for Economic Recovery February 18, 1981) or Fiscal Year 1982 Budget Revisions (Mar c h 10 1981 I In addition, the years cited from these reports are fiscal years. 2 SOCIAL SECURITY The original purpose of Social Security was to replace part of the earnings lost as a result of a worke'r's retirement. It was never intended to be the sole me ans of support for the elderly.

Over the years, however, this objective has been expanded by the addition of programs paying large unearned benefits for purposes other than the provision of partial retirement income.2 of these benefits are completely unrel ated to a worker's contribu tions and are largely responsible for the emasculated condition of the Social Security trust fund. The Social Security system however, is inappropriate for achieving these putative welfare objectives because it is financed by a regressive payroll tax.

Such a tax may be suitable for the insurance goal of Social Security, but it is not justifiable to provide welfare benefits by a tax that places its heaviest burden on the very group it is designed to help. Thus, the increasing ins tability of the Social Security system can be attributed to two conflicting goals Ilindividual equity" and "social adequacy. The Administration's proposed changes are a move towards restoring the Social Security program to its original purpose of being a b asic old-age and survivors insurance program eliminating or modifying several of the current unearned and non-basic benefits Many This would be accomplished by Minimum Benefit The minimum benefit, established by Congress in 1939 at $10 a month has grown m o re rapidly than any of the other Social Security benefits and currently is $122 a month. The minimum benefit is commonly regarded as a welfare component of the Social Security system because it is paid regardless of the beneficiary's past earnings history . The original purpose of the minimum benefit was to increase the income of those retirees with low earnings histories and to assist those who had worked in covered employment for only a.short period of time as a result of incom plete coverage in the early years of the program. The amount of 10 was decided upon both for administrative purposes and to avoid paying benefits of minimal value. Several changes over the years no longer justify such welfare payments, e.g a larger number of income security programs are available for the poor and elderly and expanded coverage under Social Security stration's proposal to eliminate the minimum benefit would result in an estimated savings of $1.3 billion in 1982 The Admini Today, the Supplemental Security Income SSI) pr ogram provides a guaranteed level of income for the aged, b.lind and disabled that exceeds the minimum benefit provided under Social Security.

In fact, the minimum benefit offsets SSI payments on a dollar for An unearned benefit here is defined as a benefi t that is not directly related to and exceeds the tax contributions of its recipients 3 dollar basis; therefore, these recipients would experience no reductions in their incomes. In addition, these people are also eligible to receive benefits such as food stamps, Medicaid, and housing subsidies.

Coverage under the Social Security system has grown from 58 percent of all workers in paid employment in 1940 to more than 89 percent in 19

77. Moreover, the percentage of workers covered has been greater than 89 percent since 1965, and greater than 85 percent since 1955.3 Security are federal government employees, who are covered by their own retirement systems. Therefore, arguments favoring minimum benefit payments as a r e sult of the incomplete coverage of the Social Security system are no longer valid minimum benefit has been a very inefficient way of redistributing income, often paying the non-poor benefits that were designed for the needy. Many minimum benefit recipient s have had short work periods in covered employment or low earnings histories because they spent much of their time employed in the federal government where they have also qualified for generous civil service pensions.

These workers, often referred to as d ouble dippers, can beat the system in several ways jobs for the minimum number of years necessary to become eligible for Social Security benefits, while being primarily employed in the federal government. Or, they may become eligible by working in the pri vate sector before or after working for the federal government just long enough to receive a civil service pension.

This type of abuse of the Social Security system does not appear to be uncommon service pension may also be getting benefits under Social Se ~urity In addition, a GAO study estimated that at least 12 percent of the minimum benefit recipients were homemakers with sporadic employment pattern ily on their spouse for support, they received substantial unearned benefits sions include individuals wi t h large savings or retirement incomes but relatively low earnings histories. These people, despite being relatively well-off, receive benefits far in excess of their contributions The only major group not covered by Social Furthermore, as a welfare compon e nt of Social Security, the They may work in secondary part-time as many as 40 percent of those receiving a civil Despite the fact that they depended primar Still others taking advantage of these welfare provi Because of the myriad of income security progr a ms available to the elderly and the poor, elimination of the minimum monthly Peter J. Ferrara, Social Security Francisco, California: Cat0 Institute, 19801 p. 421 The Inherent Contradiction (San Alicia H Mumell, The Future of Sociai Security (Washington, D .C Brookings Institution, 1977 p. 15 U.S. General Accounting Office-Report Minimum Social Security Benefit A Windfall That Should Be Eliminated HRD-80-29, December 10, 1979 p 17. 4 benefit will not hurt the needy. payments to those who cannot demonstrate a need for them. Rather, it will reduce unearned Student Benefits As of 1965, Social Security benefits have been payable to unmarried students between the ages of 18 and 21 (in 1972 the upper limit was extended to 22) whose parents are Social Security reci pients. The benefits were designed to assist students in finishing high school and/or obtaining postsecondary education.

These benefits were added at a time when the Social Security trust fund had adequate reserves rapidly since the inception of the progra m 1965 to over $2 billion in 1980. eliminate the student benefit by refusing any new participants and by reducing current student payments by 25 percent a year. Savings of 1 billion could be realized by 1982 and as much as $7 billion by 1986 nor necessary student's ability to pay his educational costs, but on the earnings histories of his parents. The higher their past earnings, the greater the benefit he is entitled to. This perversion of the system results in inversely relating benefits to need. Moreover benefits from this program may have the adverse effect of inducing a number of older workers to retire earlier, allowing their children to become eligible for these benefits Student benefits have increased from $165 million in The Administration proposes t o Social Security payments to adult students are neither fair Benefits from this program are not based on a In addition, when the program was first introduced in 1965 federal assistance to students was negligible. This is no longer the case today. There a r e currently several federal programs that provide assistance for students. In particular, the Basic Educational Opportunity (Pell) Grant is designed to target benefits based on educational costs and need, while the Guaranteed Student Loan program provides aid to all students, regardless of their financial status." Elimination of the student benefit would reduce some of the problems associated with benefit overpayment that results from ignoring educational cost and duplicating payments from other federal pr ograms.

Lump Sum Death Benefit The lump sum death benefit provides a payment of $255 to the deceased's survivors upon the death of an insured worker ally, there was no provision in Social Security for survivorsf benefits, and the lump sum death benefit was designed to provide a return on the worker's investment in Social Security. In 1939 Origin The Administration is proposing changes in both these programs. These reforms, however, would be geared primarily toward higher income groups that cannot demonstra t e a need for student assistance. 5 Social Security was expanded to include benefits for the survivors and dependents of deceased wage earners The lump sum death benefit, however, was payable only if there was no one eligible to receive suvivors' benefits. In 1950 Congress decided that the death benefit would be payable regardless of whether or not there was anyone eligible to collect survivors' benefits. The intent of the benefit was changed from providing a return on the wage earner's investment in Social security to providing assistance in meeting expenses incurred as a result of the worker's final illness or death. About half of the current lump sum death benefit.payments are made even when there is no surviving family with payments often going to funera l home operators. The Admini stration proposes to eliminate this benefit when there are no survivors which will result in savings of about $0.2 billion in 1982 The Administration's proposal is a step in the right direc tion, but it does not go far enough. The lump sum death benefit should be eliminated entirely most of the beneficiaries of lump sum death benefits had already received benefits that were much greater than their contributions.

The GAO report revealed that in a 1978 sample of lump sum death ben efit claimants 86 percent of the recipients had received average benefits that exceeded average employee contributions and in over 75 percent of the cases, benefits received were about 15 times greater than contribution Furthermore, the purpose of Social Security itself is to provide income for a covered worker and his dependents when his earnings are reduced from retirement, disability, or death. Its objective is not to defray the costs of final illness or burial.

Because the death benefit is not means re lated, it would be more appropriate to set up a provision under the Supplemental Security Income program to provide a death benefit based on need, as was suggested by HHS in 1979 A study by the GAO found that Disability Insurance Disability insurance DI) was added to the Social Security system in 1965 adequate standard of living for disabled workers and their families by replacing part of the earnings lost as a result of a disability.

To qualify for benefits, a worker has to prove his inability to engage i n gainful employment due to a medically determinable physical .or mental impairment that is expected to last for at least 12 continuous months or to result in death. Payments of DI benefits have grown dramatically since 1970, with costs rising by 500 perc e nt and the number of cases by 80 percent The purpose of DI benefits is to provide an I I U.S. General Accounting Office Report The Lump Sum Death Benefit Should It Be Changed HRD-80-87, August 8, 1980 p. i. 6 A major drawback of DI is that it may create w o rk disincen- ti res by replacing a large portion of a disabled worker's prior net earnings. Moreover, indexation adjusts these benefits fully for inflation. benefits are especially acute among low wage earners because of the redistributive aspect of the b e nefit formula favoring them. The incentive to return to work may further be reduced when the value of Medicare and benefits from other sources, such as work- men's compensation, are considered A study by L. Scott Muller reported that in 1972, 44 percent o f DI beneficiaries also received benefits from other sources as a result of their disability.8 Furthermore, the GAO reports that over 500,000 current benefici- aries may be receiving benefits despite no longer being disabled The problems associated with ov e rly generous The Administration's proposals are aimed at minimizing these problems and reducing the drain on the DI trust fund by "tighten ing administration and ending misdirected benefits." Specifical ly, under the Administration's direction, the Social Security Administration would examine DI beneficiaries more closely to determine whether or not the worker's disability warrants assist- ance. In addition, eligibility requirements would be strengthened by requiring a claimant to have worked at least six o f the last thirteen quarters. Finally, a llmegacapll would be created that would limit the sum of benefits from public sources to a level not exceeding the worker's prior after-tax earnings, adjusted for inflation. The reduction in outlays is estimated at $0.1 billion in 1981 and $0.4 billion in 1982 Medical evidence is often insufficient; therefore, the role of consultative examinations should be expanded to ensure the authenticity of disability. According to GAO: "It makes little sense to save $107 in co n sultative examination funds if the savings result in incorrectly paying $29,000 in benefits.Ifg such Itauthenticity1' is determined, however, the minimum qualifying period should be waived to allow workers with legitimate disabili ties to receive benefits . The thirteen-month restriction should be retained to ensure that only workers with fairly recent work experience receive benefits. This would allow an individual a reasonable period before his insurance llpolicyll expires Once The disabled worker should n ot be limited by the amount of benefits he receives from other sources. If a worker is receiving extra benefits, it is presumably because he has given up part of his income in the past to insure himself against possible disabil- ity. A llmegacaplt may be denying the worker benefits rightfully I Scott Muller, "Receipt of Multiple Benefits by Disabled-Worker Benef i ciaries," Social Security Bulletin, 43 (November 1980 p. 4.

U.S. General Accounting Office Report, "Controls Over Medical Examinations Necessary For the Social Security Administration to Better Determine Disability HRD-79-119, October 9, 1979 p. 13. 7 due him. The DI benefit formula, however, does contain a redis tributive element, which should be replaced by a proportional benefit structure, the reby ensuring an equitable return on all contributions ing compensation for disability, a llmegacapll would not be necessary.

Indexinq If this were applied to all public programs provid The Administration should also re-evaluate other policies used in dete rmining Social Security payments. discussed proposal that would also improve efficiency and equity within the Social Security system is the modification of benefit indexation One commonly Benefits are currently adjusted for inflation by indexing them to t h e Consumer Price Index (CPI). Use of the CPI, however may improperly lead to excessive Social Security benefits because it is commonly regarded by economists to overstate the true rate of inflation. One of the major flaws in the CPI is its treatment of ho m eownership. The CPI overstates housing costs by ignoring the investment value of the home. Other criticisms of the CPI include outdated buying patterns (determined in 1972-73 failure to account for consumer substitution when faced with higher prices, and l imited applicability to certain subgroups, such as the elderly very small proportion of the elderly are in the housing market, a category heavily weighted in calculating.the CPI index that more accurately reflects the buying patterns of social security re c ipients could result in sizeable savings In this connection, it should be noted that only a Choosing an BLACK LUNG BENEFITS The black lung disability trust fund (BLDTF) was established April 1, 1978, by the Black Lung Benefits Revenue Act. Coal miners who are disabled from pneumoconiosis, or black lung disease, are eligible to receive benefits from the trust fund for themselves and/or eligible survivors if their disease cannot be linked to a single employer or where the company no longer exists existing co m pany is found liable, then it must pay the benefits directly. The trust fund is financed by a tax on coal production which is 50 cents per ton for underground coal production and 25 cents per ton for surface-mined coal. The claims against BLDTF however, h ave produced a three-year deficit of $956 million at the end of fiscal year 19

80. These claims are currently financed by loans from the Treasury. The Office of Management and Budget estimates that under existing law this deficit could grow to $9.2 billion by 1995 If an The Administration proposes to "restrict benefits to those who are truly medically disabled by black lung and to ensure that the program is financed entirely by a reasonable levy on the coal industry.lI The ultimate goal is to eliminate cla i mants with questionable disabilities and to reduce trust fund outlays to a 8 level that would allow payments to be financed solely by a coal tax nearly 400 million in 1982 These changes are anticipated to result in savings of The trust fund's insolvency i s largely due to liberalized eligibility standards that allow coal miners to receive benefits even if X-rays show no signs of black lung disease. GAO reported that in one sample 88 percent of the claimants were either not disabled or could not prove that t hey had the disease. Equity and efficiency considerations mandate restricting the financing of the trust fund to a tax on coal production to ensure that all taxpayers are not forced to subsidize black lung benefits.

Consumers and producers of coal should b e forced to internalize the tax in order to ensure that the optimum quantity of coal is produced A study by UNEMPLOYMENT COMPENSATION Unemployment compensation has been designed to replace approximately 50 percent of a worker's former average weekly wage. The Federal-State Extended Unemployment Act of 1970 enacted to give,additional assistance to unemployed workers during periods of high state or national unemployment, authorizes the extension of benefits at the regular weekly amount for an additional thir t een weeks whenever the unemployment rate among insured workers IUR) rises above some state or national "trigger- ing" level. The state trigger takes effect when the state's IUR equals or exceeds, for a thirteen-week period, 120 percent of the average rate for the corresponding period in each of the previous two years and when such a rate is also at least 4 percent. A state also has the option to extend benefits if the state's overall unemployment rate is at least 5 percent for thirteen weeks. When the nati onal IUR reaches 4.5 percent, the national trigger is llon,ll and all states, even those with relatively low unemployment rates, become eligible for the extended benefits.

Unemployment compensation often has the adverse effect of making layoffs desirable for both employees and employers. Generous benefits and added leisure time often create significant work disincentives.

An employer may be induced into laying off more work ers during an economic downturn than he otherwise would because the tax used to finance unemployment compensation is not always directly related to the unemployment experience of the firm. The extended benefits program adds to these distortions and genera tes even greater inefficiency.

The Reagan Administration has proposed restructuring the extended benefits program so that it would provide relief only to those areas plagued by high unemployment. The changes suggested are meant to achieve results analogous to tax cuts to restore work incentives by making employment relatively more attractive than unemployment. Specifically, the Administration's proposal would: 1) eliminate the national trigger; 2) change the way the 9 state triggers are calculated; 3) rais e the state trigger level from 4 to 5 percent of the IUR and, at state option, to 6 percent without regard to prior years; 4) require that extended benefits recipients have worked twenty weeks in the one-year base period and 5) strictly enforce the new rul e requiring claimants to accept any reasonable job offer. Employment will be considered acceptable if it pays at least the minimum wage and can re lace the individual I s current unemployment insurance benefits. lg The first two changes will become effecti ve July 1, 1981, while the allowing necessary changes in state law. The 1980 Reconciliation Act already requires that the work test be applied to all extended benefits recipients after April 1, 19

81. These modifications would save $523 million in 1981 and $1.2 billion in 1982 third change would take effect only on October 1, 1982, thereby I Abolishing the national trigger would reduce costly unemploy ment insurance benefits in states that would otherwise not qualify for extended benefits. In addition, eff i ciency in the labor market would be enhanced by eliminating one of the sources creat- ing work disincentives. When the national trigger is lfon,lf benefits are extended in all states, even those with relatively low unemployment rates opportunities in such states, unemployment may rise as a result of increased work disincentives associated with the availability of more benefits I Despite the considerably better job The proposal would also exclude extended benefits recipients from the calculation of the IUR. The problem with using the IUR as a measure of unemployment for triggering purposes is that it creates an extended benefits program which becomes self-perpetuat ing. When the trigger is llon,Il all persons filing claims for benefits are included in the IU R . This results in exhaustees that normally would no longer be considered part of the labor force to be included in the IUR for an additional 13 weeks. On excluded. Making this fundamental change would save substantial benefit payments in states that have a lready reached their trigger ing level. An even better approach, however, would be to use the overall unemployment rate in calculating the trigger because it would more accurately reflect job availability in the economy would ensure that only those in gen u ine need receive assistance. This, in part, is necessary to compensate for the changing compo sition of the labor force, which over the years has raised the natural rate of unemployment the other hand, when the trigger is lfoff," those same workers are I R aising the state trigger level is desirable because it Restricting eligibility to extended lo The Administration is also proposing to apply this work test to individuals who have been unemployed for at least three months hasten worker readjustment to a ch a nging labor market by shifting employment from relatively unstable sectors in the economy. The proposed reform would become effective October 1, 1982 The purpose is to 10 benefits claimants who have worked at least twenty weeks in the one-year base period would limit participation to workers with a genuine attachment to the labor force. Finally, strengthening the work test can eliminate much of the waste and fraud in the program.

Although the changes proposed are all desirable from an efficiency and equity standpoint, they do not go far enough extended benefits program should be eliminated entirely original purpose of unemployment compensation was to provide temporary relief. structural problems The The The program is not suited to correct long-term TRADE A DJUSmNT ASSISTANCE Trade Adjustment Assistance TAA) was introduced in 1962 to assist workers suffering from increased imports, which were a direct result of government policies aimed at the liberalization of international trade. Today, however, the Secret a ry of Labor can declare workers eligible if imports have contributed signifi cantly to unemployment and to a decline in the sales and/or no longer have to prove that they are hurt by freer trade or that imports are the major cause of their injury. The pri m ary purpose of the TAA program is to help workers adjust to changed economic conditions by easing the transition period between jobs. Assist ance available to workers consists of: 1) trade readjustment allowances; 2) employment services; and/or 3) job sea r ch and relocation allowances. TAA benefits supplement unemployment insurance benefits by providing 70 percent of a worker's former weekly manufacturing wage. only about 50 percent of gross earnings, TAA can be significant to the unemployed worker. In addi t ion, these benefits are avail able for up to a year. In 1980, outlays on the program had grown to 1.7 billion dollars, which was more than six times as much as in the preceding year production of the firm(s) in question. In other words, workers I I averag e weekly wage, up to a maximum of the national average I Because unemployment insurance replaces The major problem with TAA is that it compounds all the problems associated with unemployment compensation. The more generous benefits and the lengthier entitl e ment period exacerbate work disincentives. Greater benefits also discourage w0rker.s from seeking employment in more stable industries. Since employ ers pay no supplemental tax for laying off workers who would receive TAA benefits, an employer may find it profitable to lay off workers during a period of slack demand, assuming that rela- tively generous TAA benefits will induce a worker to wait to be rehired rather than actively search for a new job. Finally, TAA creates inequities by discriminating in favo r of a select group of unemployed workers, those affected by imports.

The Administration proposes to extend TAA benefits only to those workers who have exhausted their regular unemployment 11 compensation and to limit the size of these benefits to levels n o higher than those under unemployment insurance worker will be allowed to receive benefits from TAA and unemploy- ment insurance for up to a year. These changes.wil1 become effective October 1, 1981, and could reduce spending by $1.2 billion in 1982 alon e An unemployed The limitations proposed on the availability of TAA benefits would improve efficiency within the program markedly. The results of several studies seem to indicate that reducing the availability of benefits would dramatically mitigate pernic i ous practices of employees and employers alike. One such study found that TAA recipients were much more-likely to have experienced temporary unemployment than their counterparts receiving only unemployment insurance. Moreover, they were much less likely t o have changed their industry or occupation. It can be said that "one of the surest ways to bring about adjustment is to provide no assistance and assistance that compensated for every burden would leave no incentive to adjust."ll The generous assistance p a yments seem to act as a deterrent to workers from seeking employment in new areas, thereby artificially generating too strong an attachment to a vulnerable industry. The proposed changes are needed to restore work incentives and to discourage misuse of8 t he program.

Although the proposed changes in TAA would result in great savings and lead to a more efficient allocation of resources, the program would still have some shortcomings. Even greater savings could be realized if the eligibility requirements were made more stringent by requiring workers not only to show that they were displaced as a direct result of U.S. international trade liberali zation but that it had been the single most important cause of their injury. To further this goal, the role of dete r mining eligibility should be returned to the International Trade Commis- sion. The Department of Labor has all too often demonstrated a bias in favor of organized labor, many of whose members are TAA recipients. This is important because there often is on l y a very tenuous link between layoffs and increased unemployment from imports. Is greater compensation then justifiable for workers who are laid off because their firms failed to modernize or because workers have demanded excessive compensation and, conse quently, have effectively priced themselves out of the market?

Automobile workers, for example, currently receive a large amount of supplemental benefits despite the ruling by the ITC that imports were not a substantial cause or threat of serious injury t o the U.S. auto industry. Instead, the Commission found that the recession, rising costs of credit, high gasoline prices, and the resulting shift in demand for small cars harmed the industry more than imports. Moreover, since workers produce goods and I l 1 J. D. Richardson, "Trade Adjustment Assistance .Under the U.S. Trade Act of 1974: An Analytical Examination and Worker Survey," National Bureau of Economic Research, Working Paper 556, September 1980 12 services for local, regional, national, and interna tional markets and all of these workers may be affected by unfavorable conditions why should import-affected workers receive preferential treatment solely because they happen to produce for an international market?

This would be especially true if increase d imports were a result of greater competition rather than trade concessions granted by the government. Import-affected workers, however, are sometimes considered more deserving because their layoff is the result of promoting a socially desirable policy, i .e., one meant to achieve the greater benefits associated with free trade. Although this may be true, workers in other industries often are displaced for equally deserving causes. For example, stricter environmental controls, more stringent safety standar ds, and deregulation are just a few. Yet workers who become unemployed as a result of these policies receive no supplements beyond unemployment compen sation.

Finally, the availability of TAA after 26 weeks of unemploy ment compensation renders it more like an extended benefits program. These payments should be reduced drastically, while expanding the availability of the adjustment services.

AFDC The Aid to Families with Dependent Children (AFDC) program provides cash assistance to needy families on behalf of dependent children when one parent is deceased, incapacitated, or in some states unemployed. The program is financed by federal funds to states on a matching basis depending on the per capita income of the state reforms in the AFDC program that would i mprove the targeting of welfare benefits, reduce fraud, simplify administration, and lower costs. The proposed changes, some of which are discussed in more detail below, are expected to yield savings of $0.7 billion in 1982 The Administration is proposing some basic The Administration proposes to reform the AFDC program so that it would more accurately reflect a family's financial need by including other sources of income available to the household in determining eligibility and benefit levels. First, elig i bility and benefits would be based on actual prior income, rather than the projected future income that states currently are allowed to employ. Prospective budgeting frequently results in considerable overpayments due to the uncertainty involved in estima t ing future income. Second, the earnings of stepparents and others living in the household with AFDC recipients would be included in determin ing the need. Third, states would also be allowed to consider food stamp benefits and housing subsidies in the def inition of income. These changes would limit benefits to the truly needy.

The Administration also intends to examine the characteris tics of AFDC recipients more closely to decide whether or not they belong in the program. Certain classes of participants 1 3 would be precluded or restricted from receiving benefits. First, benefits would no longer be paid to strikers. Second, parents attending college would be required to meet all work requirements under the AFDC program. Welfare payments to strikers and stu d ents are unwarranted because they subsidize non-work activities of potentially self-supporting individuals. Third, the definition of a dependent child would be amended to deny benefits to children over 18 from 18 to 21 years of age. Such assistance is mor e appropriate under educational programs designed for the needy. Fourth benefits and eligibility would be limited to unemployed parents of two-parent families in which the principal earner is unemployed. Fifth, states would be required to establish communi t y work experience programs that would require individuals deemed employ able to work in exchange for their benefits. Exceptions would be granted to the disabled, persons under 18 or over 65, those working full-time, or mothers with young children. The hou r s of work would be determined by taking the AFDC benefit and dividing by the minimum wage. These proposals would target AE'DC benefits to those most in need Currently, a state may choose to pay benefits to students Several administrative changes would als o be made to lower costs or enhance efficiency. These include eliminating benefits of less than 10 a month and creating a National Recipient Infor mation System that would be used to collect information on indivi duals receiving assistance.

The most contro versial reforms, however, are in the formula used to compute benefits. The earned income tax credit (EITC provides a low-income parent a 10 percent credit on earnings of up to $5,000 and is reduced at a rate of 12.5 percent on earnings beyond 6,000 until it is completely phased out at $10,000.

Workers currently receiving the EITC may get it either as an advance monthly payment or as a lump sum at the end of the year.

The AFDC monthly benefit is determined by disregarding a recip'i- ent's first 30 earned in a month plus one-third of his remaining income. In addition, child care and work-related expenses are also deductible. Excessive costs often allow extraordinarily l arge deductions, permitting families with relatively high earnings to remain on AFDC.

The Administration proposes to count the EITC on a current basis, regardless of whether or not it is received as an advance payment. erroneous overpayments from counting them as a lump sum at the end of the year. In addition, the AFDC work expense disregard and the child care disregard would be capped, and the order in which the disregards are deducted from earned income would be changed. More specifically, the disregards from earned income would be applied in the following manner 1) flat $30; 2) standard allowance for work expenses would be limited to 75; 3 50 allowance per child for child care expenses; and 4) one-third of the remaining earned income. The $30 and one-thi r d disregards referred to above would apply only to those workers who begin The objective is to reflect current need and reduce 14 work while already receiving AE'DC benefits and then only for a four-month period. Finally, a gross income ceiling of 150 per cent of the state's standard of need would be established for eligi bility in the AFDC program.

These changes would create greater incentives to reduce expenses, improve administration, and reduce fraud and waste.

Several studies report, however, that the se reforms may substan- tially reduce the already weak financial incentives to work for AFDC recipients, especially after four months when the 30 and one-third disregards expire. These studies, however, ignore the fact that those recipients considered emp l oyable would often not have a choice. If they could not get work in the private sector they would have to work for their benefits under the workfare program or lose their eligibility for AE'DC. reduce dependency on welfare, while encouraging attachment to the labor force for these people This reform would FOOD STAMPS The food stamp program was originally created to provide for the nutritional needs of America's needy families the program has risen sharply from $34 million in 1965 to nearly 11 billion in fi scal year 19

81. Moreover, the food stamp program has been suffering financial problems which have required Congress to,take emergency action for the past several years to provide funds beyond the original appropriation. The Administration has advanced sev eral proposals to reduce payments by tightening eligibility standards so as to focus on the truly needy. The proposed reforms, to be discussed below, are expected to reduce the federal food stamp outlays by $2.3 billion in 1982 Spending on The Administrat i on's proposals would restrict eligibi.lity to a gross income limit at 130 percent of the poverty level, which is about $11,000 a year for a family of four. Setting eligibility standards on the basis of gross, rather than net income, would remove families that have earnings well above the poverty level.

The earned income deduction of 20 percent would be retained.

This enhances work incentives by partially offsetting both increased taxes as well as the higher implicit marginal tax rates imposed by the loss of welfare benefits associated with increased income. assistance. The net result may be a reduced dependence on public The Administration proposes to eliminate the overlap between the food stamp and free lunch programs. Currently, food stamp allotments ar e provided to pay for three meals a day. The Congres sional Budget Office estimates that about 6.8 million students whose families already receive food stamps on their behalf are also benefitting from free school lunches.12 As a result, these l2 See Congre s sional Record, February 5, 1981, p. E405. 15 children are being.subsidized for four, rather than three, meals each school day. Food stamp allotments would be adjusted for households with students in primary and secondary schools to avoid overcompensation in this manner bility by household income in the prior period, rather than leaving states with the option to base eligibility on either the householdls anticipated future income or the prior month's income.

The proposal would reduce excessive costs resulti ng from fraud and miscalculations associated with the former choice Furthermore, the Administration proposes to determine eligi When a recipient is awarded food stamps for the first time the allotment would also reflect the portion of the month for which assistance is actually needed by pro-rating his benefits rather than providing them for the full month reduce problems with overcompensation.

The Administration also proposes to repeal provisions that would allow the Secretary of Agriculture to estimate future price changes in calculating food stamp allotments and income deductions.

Basing benefit payments on actual costs should be retained because the uncertainty involved in projecting food prices may lead to an overpayment of benefits. Moreover, the time lag is not uncommon in other indexed programs, including those for the poor. In addition, specialized deductions for 1982, added in recent amend ments, would be repealed to ease administration and constrain misdirected benefits This would further The Adm i nistration, however, would continue to exclude the value of in-kind payments from the definition of income. The exemption of such benefits is unnecessary and very costly because it overstates the true financial needs of many households. In effect, it allo ws more households to become eligible for greater benefits than otherwise necessary of the food stamp program by targeting benefits more carefully.

There are, however, still other reforms that could be enacted The Administration's proposals improve the cos t-effectiveness First, the purchase requirement, which was eliminated by Congress in 1977, should be restored. Under the purchase require ment, food stamp recipients would have to contribute some of their own money for food stamps representing a larger va lue.

Currently, the food stamp program has become a generalized income transfer program, which allows recipient households to substitute their limited incomes for other nonfood purchases, some of which may be unnecessary in meeting basic needs. Requiring a ll but the very poorest food stamp beneficiaries to pay a portion of the costs would instill incentives to allocate their limited funds in a more efficient manner. In short, it would discourage the marginally needy from participating in the program 16 Sec o nd, stricter eligibility restrictions should be placed These people should not be subsidized at the on strikers and workers who have voluntarily quit their jobs without good cause. expense of the taxpayer because they have voluntarily decided to pursue in terests other than work.

Third, able-bodied recipients should be required to work for their benefits. Such a system as I'wor.kfare" would also discourage the marginally needy from applying for aid.

MEDICAID Medicaid is an open-ended entitlement program that was enacted in 1965 under Title XIX of the Social Security Act to provide medical care for the needy It is financed as a federal state matching program, with states administering the program subj e ct to federal guidelines. Benefits are available to low income persons who are aged, blind, and disabled, and members of families with dependent children when one parent is absent, incapacitated, or unemployed, i.e those eligible for assistance under SSI a nd AFDC. Some states also extend Medicaid benefits to the llmedically indigent This class includes people how have incomes large enough to cover basic living expenses apart from medical care. The federal government's contribution rate to medical expenses i s determined by a formula that is inversely related to the per capita income of a state. rates range from 50 to 78 percent. There is, however, consider able variation among states with respect to eligibility require ments and benefit levels Federal contri b ution Health care costs have risen alarmingly over the past fifteen years, thereby increasing the burden of maintaining programs such as Medicaid, the services of which themselves have been growing at a rate of more than 15 percent annually for the last f i ve years. The cost to taxpayers now averages more than 1,300 per Medicaid recipient. One of the principal causes of escalating health care costs has been the increasing tendency for third parties to pay medical expenses. Currently, about 90 percent of hos p ital bills, and 60 percent of medical expenses in general are paid by someone other than the patient.13 artificially inflate the demand for health care because covered patients perceive such services as being free. This not only drives up the price of med i cal care, but also results in vast inefficiencies by encouraging people to use health care services beyond a level commensurate with costs. Moreover, providers of health care have every incentive to provide excessive care because they know that it often i s costless to the consumer and they will be rewarded with greater revenues. As a result Third-party payments l3 M. Stanton Evans The Medical Nightmare," National Review, March 20 1981, p. 294. 17 excessive costs will be imposed upon taxpayers and consumers of insurance. Furthermore, high federal matching rates for Medicaid give states incentives to raise benefit levels and ease eligibili- ty requirements beyond levels necessary for adequate care.

Eligibility errors alone account for an estimated $1.2 billion in overpayments annually.

To slow the rate of growth of Medicaid costs, the Administra- tion proposes to cap open-ended federal expenditures as an interim measure until a long-range plan of comprehensive health reform can be de.veloped to reduce acceler ating cost inflation and improve Medicaid. These changes would be effected some time between 1983 and 19

86. The level of federal expenditures would be reduced 100 million below the current base estimate for 1981, then allowed to increase by 5 percent in 1982, and would subsequently be increased by the rate of inflation as measured by the GNP deflator. Each state would retain its present relative share of total federal.Medicaid spending In addition, states would be given greater latitude in operating thei r own programs. would allow them to modify their eligibility and benefit require- ments to provide medical care in an improved and more cost effective manner. These changes would save approximately 1 billion in 1982 This The proposed limiting of federal ex p enditures on Medicaid would encourage state adminstrators to reduce fraud, waste, and mismanagement awarded the state to restructure their programs to meet the needs of their population in a more cost-effective manner This goal would be enhanced by greate r flexibility The cap may not reduce inefficiency, but instead result in arbitrary cuts in coverage and services provided. In addition inequities among states could be exacerbated because funding decisions would be based on past, rather than present, econo m ic conditions. tion views the proposed cap as only an interim measure until comprehensive reforms are developed It is therefore important to note that the Administra PUBLIC SERVICE EMPLOYMENT The public service employment (PSE) program is run by state and local governments under the Comprehensive Employment and Training Act (CETA). The program is financed by federal funds to help participants adjust to labor market conditions by providing them with temporary jobs (not to exceed 18 months). PSE was original l y intended to provide low-income, structurally unemployed workers with training to prepare them for unsubsidized jobs in the private sector. During the 1974-75 recession, Congress expanded the role of the public jobs program by a counter-cyclica l as well as counter-structural tool ing either goal, the Administration proposes to eliminate PSE by Because the program has been viewed as ineffective in achiev18 phasing out the two CETA programs that provide it with funds Title 11-D, which deals with s tructural unemployment, and Title VI, which addresses cyclical employment problems. This would be done by the end of 19

81. Under the Adminstrationls proposals, the Secretary of Labor would be directed to phase out both PSE programs by placipg a freeze on hiring, and permitting those currently enrolled (about 300,000) to Ifcontinue in their jobs and be absorbed into the regular State and local government payroll be placed in an unsubsidized job in the private sector, or have to seek employment elsewhere.t' Unemployment compensation, however would be available to those who would lose their jobs. These actions would reduce outlays by 0.6 billion in 1981 and $3.6 billion in 1982 Recent evidence suggests that PSE has been a poor counter cyclical device. Title V I of CETA was originally enacted to use PSE employment as a measure to combat the high unemployment rates experienced during the 1974-75 recession. High levels of PSE employment, however, were only attained in 1977-78, when the unemployment rate had alread y fallen appreciably. shifts insthe business cycle may be exacerbated if government policy cannot accurately coordinate PSE employment levels to meet the constantly changing economic conditions. In other words, it may not be possible to continuously create or destroy such jobs at will. Moreover, if PSE employment generates an artificial demand for the services they provide, it may make it increasingly difficult to reduce the number of these jobs in the future. If such a trend were to continue it could resul t in an inefficient allocation of labor between the public and private sectors. This would be especially true if the PSE jobs were not aimed at provid ing for worker entry into subsequent unsubsidized employment.

Further, the. job creation abilities of the PSE program are highly suspect. State and local governments may be using PSE funds to replace their own revenues to hire employees that would have been hired anyway tution and it further discredits PSE as an effective counter cyclical instrument In fact T his phenomenon is called Ilfiscal substi As a counter-structural tool, PSE jobs have an equally dismal record effective than PSE jobs in improving the employability of their participants employment find jobs after leaving the program. Furthermore, the ave r age cost of finding employment for a person from the PSE program is two to three times as great as under the training programs. This apparent failure can primarily be attributed to the llmake-workll jobs the program creates. PSE jobs prepare participants f or positions that often have no counterpart in unsubsidized employment. If such positions did exist, the market would have already created them. Furthermore, the easy availabil ity of PSE employment may actually delay worker assimilation into long-term un s ubsidized employment Current training programs have been far more Only about one-third of the participants in PSE 19 Proponents of PSE argue that the make-work and fiscal substi tution concepts are "mutually contradictory If PSE jobs are make-work and ser v e no useful purpose, then state and local governments would not have hired these individuals in the absence of federal funding. On the other hand so the argument goes, if PSE workers are substituted for regular public employees, then they must be worthwhi l e. These beliefs, however, are not mutually contradictory at all satisfy the make-work criteria, while another set may qualify for the fiscal substitution group. The sum of these two separate factions may make up most of the PSE enrollment a proportion of all PSE employees may Another argument advanced in support of public jobs is that elimination of the program would result in a curtailment of valuable community services. However, if these services are really important, then the public's demand for them w ould be revealed through the political process. Otherwise, dollars spent on these projects would be considered to outweigh the benefits.

George Gilder asserts that each CETA job may actually destroy more than one private sector job for the poor.14 claim, he cites a GAO report that estimates the cost of creating a CETA job at over $20,000, including overhead expenses. This amount, it is noted, may be nearly double the cost of employment in small businesses, which tend to be labor intensive and would be the most likely source of hiring in the absence of a public jobs program. Moreover, eliminating PSE would reduce the tax burden on all businesses and restore greater competition in the labor market by paying wages commensurate with the value of work pe r formed. Both effects would stimulate the economy in the direction of more real jobs creation in the private sector To support this CONCLUSION The Administration's proposed budget cuts are necessary and an important step in reducing uncontrolled growth.of g overnment spending. A recent nationwide poll Sindlinger and Company, Inc. for The Heritage Foundation revealed strong support for the Reagan economic program, particularly in the area of spending cuts. In fact, a substantial number of those p o lled believed that the Administration's proposed reduction in govern ment spending was too low. Several programs now considered luntouchablefI by the Administration often award large unearned benefits to recipients regardless of need. Social Security reti r ement benefits and Medicare, for example, were largely exempted from budget cuts because they provide assistance for the elderly. As a result, many of the beneficiaries of these programs l4 George Gilder, Wealth and Poverty (New York: Basic Books, Inc 198 1 p 161.


Peter J.

Distinguished Fellow