Redistribution vs predistribution in the fight against poverty

Many policies are implemented to this very end, from progressive income taxation, to old-age and disability benefits, to minimum wages. Although these policies tend to be effective in curbing poverty, they come at a cost of reduced incentives to educate, work, innovate, or hire new workers. These distortionary costs of redistributive policies represent the perennial threat to the sustainability and appeal of the welfare state. It is therefore vital that welfare state policies are designed to achieve its redistributive aims at the lowest possible distortive costs. This insight motivates much of my research, which is aimed at improving our understanding of the optimal design of redistributive policies.

One particular line of research aims to understand whether a minimum wage (“predistribution”) is desirable if the government can also provide income support through progressive income taxes (“redistribution”). Traditionally, economists argue that income taxes are superior to minimum wages. Both policies would be able to achieve the same redistribution but minimum wages worsen the incentives for firms to hire low-skilled workers. As a result, minimum wages would be undesirable – even if the employment response to minimum wages are small, as suggested by much of the recent empirical evidence.

In my research project, however, I show that this type of reasoning is flawed because minimum wages and income taxes cannot in fact achieve the same redistribution. While minimum wages support individuals with low wages, income taxes can be used to support individuals with low income. Empirical evidence shows that wages and income are not one-to-one related. Indeed, individuals can be poor either because of low wages and productivity or because of a lack of labor supply. A government that cares about equality of opportunity should naturally be more concerned with the former than the latter source of poverty. As a result, the minimum wage may be better targeted at the most deserving poor than the income tax.

To guide actual policy, I derive conditions under which minimum wage policy is superior to progressive income taxation and empirically calibrate these conditions to the United States. Preliminary results suggest that minimum wage policy yields more redistributive benefits than income taxation for the same distortive costs. Hence, contrary to received wisdom, my research suggests that a binding minimum wage in the U.S. is optimal policy for a government that cares about equality of opportunity.