“Who will take care of the poor?” – the answer of economic theory

One of the most frequently put forward arguments in favor of government redistribution through the so-called “welfare state” is: “If there are no state institutions to collect money in the form of taxes and then direct it to those in need (i.e., the poor), the latter will not be able to survive.” When we delve into this logic, we easily discover the implicit assumption that the relatively poor would be redundant if they had to rely solely on the free market for their livelihood; yet if individuals who empathize with the poor saw the market as a reasonable alternative, they would not insist on redistribution. In this article, we will examine this argument in favor of the intervention of social government institutions and transfer payments.

First, we need to make some important clarifications. Since the relatively richer have a higher standard of living because they are more economically productive, our definition of “poor” is: individuals who have relatively low (including extremely low) labor productivity. [1] In the article, we will not consider marginal and rare causes of a decline in the standard of living, such as severe natural disasters, wars, and various other types of catastrophes that lead to a decline in productivity due to the destruction of capital resources in a given territory. In addition, we abstract from various notions of “human nature” and morality; that is, we do not present acting people either in the light of the idea that “man is a wolf to man,” or as optimally empathetic individuals, or as something in between these two extremes. The focus of the material is not to assess the effects of existing social policies; some of them have been considered elsewhere. [2]

Economic models in defense of the poor

One of the first lessons that all students of economics learn is the lesson of the division of labor. In short, it states that when individuals specialize in the production of different things or processes, the material well-being of the whole mass of people improves. Perhaps at this point someone might ask: "Okay, but what does this mean for people whose labor productivity is low, even though they are likely to remain unemployed even in a market with a high level of labor specialization?"

Let us consider an abstract example in which we have two individuals: one represents a productive person with a high standard of living (α) and the other a low-productivity worker with a low standard of living (Ω). In this economy, we have two goods – good A and good B. We assume that both can produce either good, the only difference being the time it takes them to do so. Their productivity (i.e. the quantities they can produce in 1 hour) is shown in Table 1.

The data in the table show that in 1 hour of work α can produce 160 units of good A or 80 units of good B (or some combination of the two), while Ω is capable of producing 20 units of good A or 20 units of good B (or 10 of each, for example). And with the naked eye it is clear that with respect to good A α is 8 times more productive than Ω, and with respect to good B – 4 times. In front of these data, perhaps everyone would exclaim: “Although there is de facto no basis for comparison between α and Ω, it is clear that there is no place in the market for such an unproductive employee as Ω.”

However, things are not exactly the same from the perspective of α and his potential employer. Yes, in absolute terms α is incomparably more productive than Ω. But let's look at productivity from the perspective of α. If he wants to produce good B, within 1 hour he will have to sacrifice (i.e. not produce) 2 units of good A. Therefore, the opportunity cost of α for each produced unit of good B is two unproduced units of good A. It is for this reason that he will turn to the production of what he is relatively better at, namely - good A. In relation to it, his opportunity cost is much lower and amounts to 0.5 units of good B, which are not produced.

The same logic applies to Ω. He produces little, but in return for this, producing 1 unit of good B costs him the sacrifice (non-production) of 1 unit of good A. If we compare the productivity of the two, despite the absolute advantage of α Ω still has a comparative advantage in the production of good B. It is precisely comparative, not absolute, advantages that are what create the division of labor in human evolution. Because of comparative advantages and low labor productivity, children have also worked in the past, although in a single type of hard work, almost any adult has an absolute advantage in terms of productivity over any child. [3] If the above logic were not correct, then in the past many children might not have been used for labor and, respectively, would never have lived to adulthood.

Let us return from the abstract example to the real economy, in which there are not just two goods, but tens of thousands, and in which skills are not just two, but also extremely diverse. In it, specialization does not extend only to some producing one good and others producing another. In reality, the greatest professionals are extremely specialized in a narrow and specific field, while at the same time they are very likely to be laymen in other areas of life. In such an economy, the role of people whose productivity is lower stands out even more. For a nuclear physicist, the opportunity cost of cleaning the lecture hall after each lecture is extremely high. The president of an international company could not spend two hours a day cooking for his family, because the cost (measured in business analyses, strategies and assessments of his company) is colossal. Here, individuals who have low productivity in absolute terms but comparative advantages in the production of specific goods or in the provision of certain services appear on the scene; i.e. those who, according to the generally accepted definition, we define as "poor." Suddenly they are not only valued, but even their labor is of great importance to the economy. Therefore, we can conclude that the more the division of labor and narrow professional specialization increase, the more those who today we define as poor will be in demand.

We will end this section with some important clarifications. First, low productivity is the state in which we are born by default. Second, no one is born a rocket engineer; specialization is acquired through learning and experience. In this line of thought, even recent college graduates are less productive in absolute terms than experienced specialists. If someone does not have the ability to produce a large absolute amount of goods today, they still have the chance to develop their career, and in the process of accumulating experience they also improve their productivity. In other words, poverty and wealth (respectively productivity) are dynamic categories. Therefore, when looking at data on the distribution of wealth, we should not forget that today's poor are very often not the same individuals who were defined as "poor" in the previous compilation of statistics.

"Who will take care of the poor?"

Economic science is categorical: people whose labor productivity for some reason is relatively low are not, by definition, thrown out of the labor market. Quite the opposite – their labor is valuable to everyone else, because thanks to it, all of us (including them) can enjoy a more comfortable standard of living. This is due to the fact that thanks to their labor, other, much more productive individuals than them, can take up the production of more complex capital and consumer goods. In fact, although many do not notice it, we witness this phenomenon every day – it manifests itself in the form of outsourcing, including in Bulgaria, and the migration of people with different labor productivity between countries.

So the answer to the question, “Who will take care of the poor?” is: the poor do not need the special protection of the state or the resources it directs to them. This statement is valid if there are no restrictions on the labor market (such as a minimum wage), if there are no obstacles to companies investing in relatively poorer regions of the world or individual countries, and if there are no restrictions on trade. In other words, the poor can take care of themselves quite well if governments let them.

[1] We proceed from the logic of the economist and former professor at the London School of Economics Peter Bauer (1915-2002), whose famous quote reads: “There are no causes of poverty; there are causes of wealth.” Since wealth in the economic sense of the word is achieved only through production, it logically follows that the lack of wealth is due to low productivity. As Thomas (Tom) Palmer adds in his essay Poverty, Morality, and Liberty: “Poverty is what follows if the production of wealth does not take place, while wealth is not the consequence of the absence of the production of poverty.”

[2] On the effects of social policies on individuals and the economy as a whole, see: Martin Tarpev, “ Does State Policy in Bulgaria Bring Independent Living to People with Disabilities”; Stoyan Panchev, “ The Bankruptcy of the Welfare State”; Prof. Alex Tokarev, “ On the War on the Poor”; Metodi Tsanov, “ Why We Don’t Have a Flexible Labor Market or How the Poor Are Getting Poorer”; Daniel Vassilev, “ Policy for Increasing Youth Unemployment”; Robert Higgs, “Nineteen Neglected Effects of Income Redistribution” ( Part 1 and Part 2 ); Georgi Vuldjev, “ The Direct Economic Effects of the Minimum Wage”.

[3] Children today do not work, not because for some reason people in the past were less caring parents, but because labor productivity allows us to live at a higher standard of living while doing less and more specialized labor (especially in physical terms).

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