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Wednesday, September 17, 2014

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Cascade: No. 72, Fall 2009

Spotlight on Research: Will Income Inequality Be Reduced by the American Recovery and Reinvestment Act of 2009?

The financial crisis and the current recession have caused widespread hardship throughout the economy. In addition to unprecedented measures undertaken by the federal government to quell the turmoil in the financial markets, the government has also implemented the multi-billion-dollar American Recovery and Reinvestment Act of 2009 (ARRA), which, according to the administration, "will lay the foundation for a robust and sustainable 21st century economy."1 A key objective of the ARRA is to save as well as create several million jobs. The income from the jobs (and other provisions in the ARRA) will provide much needed assistance to millions of households. This will be welcome news especially for those at the lower end of the income scale, where the performance of family income has lagged behind those at the top of the income distribution. In the absence of corrective economic measures, the recession would likely exacerbate the unequal distribution of incomes among households. But given the actions taken by the current administration, at issue is what impact the ARRA will have on household income inequality. This concern is the subject of a study by Ajit Zacharias, Thomas Masterson, and Kijong Kim.2 The following is a summary of their findings.

Marvin M. Smith, Ph.D., Community Development Research AdvisorMarvin M. Smith, Ph.D., Community Development Research Advisor

Background

The authors point out that average growth in output and employment levels during the 2000s is much lower than that from 1950 to 2000; moreover, the average growth rate in median family income is even lower than the levels for output and employment between the same two periods. Thus, it is unlikely that any improvement will occur in the unequal distribution of income. To complicate matters, the financial crisis and the onset of the recession could serve to increase income inequality.

Among the measures to address the economic situation, the government has employed a package of expenditures and tax cuts under the ARRA. In addition to creating millions of jobs, the act is expected to "provide relief to low-income and vulnerable households especially hurt by the economic crisis and, at the same time, support aggregate demand."

The authors analyze the effects of the ARRA. More specifically, they "provide a preliminary assessment of the Act in terms of its likely impact on median household income, gaps between advantaged and disadvantaged population subgroups, and income inequality." They hasten to underscore the preliminary nature of their analysis. They note that a great deal of money under the ARRA remains to be spent and the decisions regarding the manner of allocation are still to be determined. Thus, their analysis is tentative and subject to change with the refinement of their methods and the availability of better data.

Methodology

The analytical approach taken by the authors includes "constructing a baseline scenario; estimating the increase in employment by industry and occupation due to ARRA; and simulating the accompanying effects of changes in earnings on the distribution of money income." The authors used data from the 2008 Annual Social and Economic Supplement (ASEC) to construct a baseline of labor conditions and distribution of income against which to measure the effects of the ARRA. Since these data cover the experiences of individuals and households in 2007, they adjusted the data to reflect labor force conditions in January 2009 and total income for adults in 2008.3

The effects of the ARRA are assessed only through its creation of new employment and the resulting effects on earnings. The authors refer to this approach as "comparative-static," since they do not "take into account how other changes in the economic environment would affect employment and income distribution in the current and future years." Given the prospects that unemployment will be relatively high in the next few years, the authors consider their simulated effects of the ARRA a "best-case scenario" for employment.

The authors undertake their derivation of the fiscal stimulus from the ARRA over the 2009-2011 period by first estimating the impact of tax cuts, transfers, and subsidies on gross domestic product (GDP) and the resulting change in employment, and then estimating the employment effect of government purchases of goods and services. In the former case, they use a "set of multipliers that convert an additional dollar of government expenditure (or tax cut) into an increase in GDP." They draw on the "low" and "high" values for the multiplier used by the Congressional Budget Office (CBO). While the authors use the CBO's high value, they use the midpoint of the range as their "medium" value.4 In the latter case, the authors use two alternative assumptions. Under the first assumption, they distribute the increase in government purchases among various government industries, which is referred to as the "government" assumption. The second assumption calls for distributing the final demand (from government purchases) primarily across private industries (with a limited amount to government industries) and is known as the "private" assumption.

The authors also assume that the "additional demand for labor created by the stimulus would be met by an increased supply of labor from the pool of 'employable' individuals in the ASEC."

Findings

Combining the employment estimates generated from government tax cuts, transfers, subsidies, and purchases of goods and services under their various assumptions, the authors wind up with four scenarios: Government High, Government Medium, Private High, and Private Medium.

Estimates of Job Creation

The authors compare their estimates of jobs created under the ARRA from 2009-2011 under the four scenarios (which range from 6.1 million to 8.8 million) with those of the CBO and the administration's Council of Economic Advisors (CEA). They note that there is a "remarkable coincidence" that the new job estimates under their two "medium" scenarios (6.1 million under Government and 6.3 million under Private) are almost identical to the CEA's estimate (6.2 million).5 Nonetheless, given the decline in employment stemming from the recession and the likelihood of more job losses in the near future, the authors conclude that the "job creation effect of ARRA is primarily a (partial) replacement of lost jobs."

Effects on Earnings and Household Income

The authors find that the impact of the ARRA will have little effect on overall income inequality. More specifically, "the bottom 60 percent of households are unlikely to see any notable improvement in their money income as a result of ARRA," while the incomes of the top 40 percent will probably not be adversely affected.

They also find that "it is unlikely that the ARRA will have any palpable effect on redressing the substantial gaps in money income that exist between nonwhites and whites, single-female headed families and married couples, and less-educated and college graduates."

In light of their analysis, the authors suggest that a "comprehensive employment strategy that goes well beyond the ARRA" be implemented. They further indicate that public employment should play a key role in this alternative strategy.