Will Obama’s New Plan to Help the Middle-Class Succeed When $1.5 Trillion in Redistribution Has Not?

January 20, 2015

In his State of the Union speech tonight, President Obama is said to propose $320 billion in new taxes on high-income Americans to finance tax cuts for the middle-class and free community college tuition for students. The White House says that this redistribution is an equitable way of stemming the rise of inequality in America while helping the middle-class whose incomes have stagnated in recent years.

While it is commonly acknowledged that Obama’s plan has little hope of being enacted, it should prompt a larger debate over how much government policies are already redistributing income from upper-income families to low and middle-income families, and why these policies aren’t succeeding in controlling inequality or making middle-class Americas feel better off.

Recent research by the Tax Foundation (here) and the non-partisan Congressional Budget Office (here) has shown that federal tax and spending policies are very progressive and redistributive. These studies compared the amount of federal taxes we pay of all kinds (income taxes to excise taxes) to the amount of federal spending that we receive of all kinds (from welfare programs to national defense). From that simple family “fiscal accounting” economists can then measure how much government tax and spending policies redistribute income from some Americans to other Americans.

The CBO study looked at prerecession 2006 data for non-elderly households. Not surprisingly, they found that households in the lowest fifth, or quintile, received more back from government than they paid in taxes—in fact, $9.62 for every $1 they paid in taxes. It is surprising, however, that CBO found that households in the middle quintile, the so-called middle-class, received $1.19 in federal spending for every $1 they paid in total taxes. At the other end of the income spectrum, households in the top quintile received 17 cents in government spending for every $1 they paid in taxes.

The Tax Foundation study analyzed post-recession 2012 data for all American families (as opposed to the CBO’s households) and determined that federal tax and spending policies redistributed more than $1.5 trillion that year from the top 40 percent of households to the bottom 60 percent. The study also found that state and local governments contributed another $500 billion worth of redistribution from the top to the bottom earners.

The table below shows how much typical families in each quintile either receive or lose in income due to redistribution. The typical “middle-income” family, with a market income of $56,884 in 2012, received a total of $9,715 in net benefits from federal and state governments above what they paid in taxes. On paper, this redistribution lifted their income by 13 percent to $64,260.

This table raises a lot of questions. Such as: If middle and lower-income families are the beneficiaries of this much redistribution, why aren’t they better off? Do they not perceive the benefits of the money that is being spent on their behalf or is it not effectively reaching them? Because government programs are spending this money on taxpayers’ behalf whether they perceive those benefits or not.

And here is the question the Obama administration needs to answer: If $1.5 trillion worth of redistribution per year is not effectively raising the living standards of the bottom 60 percent of American families, then what makes them think this new redistribution plan will succeed?

Table 1: Distributional Effects of Government Fiscal Policies on Average Families in 20121
Item All Families Bottom 20% $0> Second 20% $17,104> Middle 20% $37,065> Fourth 20% $67,456> Top 20% $119,695> Top 10% $165,328> Top 5% $235,047> Top 1% $564,511>
Family Level Averages
Average market Income before redistribution $81,602 $9,561 $31,053 $56,884 $100,242 $311,405 $469,228 $713,599 $1,992,095
Average Taxes Paid3 $31,824 $6,331 $11,913 $20,429 $35,325 $122,217 $189,281 $295,210 $867,473
Federal $21,293 $2,967 $6,854 $12,848 $23,668 $86,975 $135,420 $210,820 $608,285
State & Local $10,530 $3,365 $5,059 $7,581 $11,657 $35,242 $53,861 $84,390 $259,188
Average Spending Received4 $31,824 $33,402 $30,052 $30,144 $31,122 $35,141 $38,258 $41,700 $55,078
Federal $21,293 $24,125 $20,266 $20,225 $19,579 $21,402 $23,840 $26,479 $37,407
State & Local $10,530 $9,278 $9,786 $9,920 $11,542 $13,739 $14,417 $15,222 $17,671
Average Redistribution $0 $27,071 $18,139 $9,715 -$4,204 -$87,076 -$151,023 -$253,510 -$812,395
Federal $0 $21,158 $13,412 $7,376 -$4,089 -$65,573 -$111,580 -$184,342 -$570,878
State & Local $0 $5,913 $4,726 $2,339 -$115 -$21,503 -$39,443 -$69,168 -$241,517
Average Income after-
$81,602 $36,632 $49,192 $66,599 $96,038 $224,329 $318,205 $460,090 $1,179,700
Average income after federal redistribution $81,602 $30,719 $44,465 $64,260 $96,153 $245,832 $357,648 $529,258 $1,421,217
Percent Change in Income due to Redistribution 221% 43% 13% -4% -21% -24% -26% -29%
Family Ratios: Spending Received to Taxes Paid
Spending to Taxes (Total) $1.00 $5.28 $2.52 $1.48 $0.88 $0.29 $0.20 $0.14 $0.06
Federal $1.00 $8.13 $2.96 $1.57 $0.83 $0.25 $0.18 $0.13 $0.06
State & Local $1.00 $2.76 $1.93 $1.31 $0.99 $0.39 $0.27 $0.18 $0.07

Notes: 1. Percentiles contain equal numbers of persons. Negative income famillies excluded from bottom quintile but included in totals. Taxes and spending are adjusted proportionally to close government deficits, thereby making spending equal to taxes.

2. Market income is a broad definition of income from market sources (excludes transfers) that aggregates to BEA income totals.

3. Taxes total above includes some non-tax revenue sources. Refundable portion of tax credits are included in spending totals.

4. Cost-of-services approach allocates public goods equally to households or in proportion to their family size (i.e., per person). Source: Author calculations based on multiple data sources, primarily Census Bureau, IRS and Bureau of Economic Analysis.

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