ObamaCare’s trap makes it harder to reach the middle class

I will give you, fresh from the oven, either a home-baked Toll House chocolate chip cookie or a Krispy Kreme donut. Your choice.

Let’s say you choose the donut.

Now I pour rancid ketchup on the donut and offer you the choice again.

You now choose the cookie.

Based on his press briefing yesterday, the President’s CEA Chairman, Dr. Jason Furman, would say I didn’t kill the donut option because taking the cookie was your choice.

The individual health insurance market subsidies in the Affordable Care Act do two things: they subsidize some low wage workers, and they make work less attractive for those workers by increasing the effective marginal tax rate on higher income.

Because the ACA premium subsidies depend on income, the higher your income, the smaller your premium subsidy. This makes sense if a policymaker has limited resources to spend and wants to help those who need it most. The problem is that it also means that as your income climbs you lose some of those government subsidies. It works the same way as a marginal tax rate increase: you get less net financial benefit for additional income. This is an unavoidable downside of a social safety net based on income.

This downside is independent of what the subsidies are used for. This same problem applies to food stamps, the Earned Income Tax Credit, low-income housing vouchers, and in fact any government benefit that gets reduced as one’s income climbs. The effect results from phasing out subsidies as income climbs, any kind of subsidies.

ObamaCare’s defenders are taking two tacks today. First, they are emphasizing the significant financial benefits of those subsidized premiums to the people who receive them. That’s totally fair. They are also trying to argue that, when people choose not to work after the government increases their [fusion_builder_container hundred_percent=”yes” overflow=”visible”][fusion_builder_row][fusion_builder_column type=”1_1" background_position=”left top” background_color=”” border_size=”” border_color=”” border_style=”solid” spacing=”yes” background_image=”” background_repeat=”no-repeat” padding=”” margin_top=”0px” margin_bottom=”0px” class=”” id=”” animation_type=”” animation_speed=”0.3" animation_direction=”left” hide_on_mobile=”no” center_content=”no” min_height=”none”][effective] marginal tax rate, that’s OK because it’s the person’s choice not to work. That is Orwellian.

Here is CBO:

For example, some provisions will raise effective tax rates on earnings from labor and thus will reduce the amount of labor that some workers choose to supply.

If you choose to work less because you want to spend more time with your kids, that’s a good thing. If you choose to work less because the government raised your marginal effective tax rate and made work less financially rewarding, that’s a bad thing.

Here is an example:

• A family of four with one wage-earner has $35,300 of income this year and no health insurance through work. Because of the significant Affordable Care Act subsidies, this family can buy health insurance for only $1,410/year.
• The other spouse wants to take a part-time job to supplement their family income. This part-time job would earn them an additional $12,000 per year (gross).
• But this additional income would reduce their ACA premium subsidy, so they would now have to pay $2,970/year for the same health plan.
• This reduced subsidy, a direct result of the spouse’s part time work and higher family income, reduces the value of the $12,000 of added income by $1,560 (=$2,970 — $1,410). That subsidy reduction is 13 percent of the gross income increase.
• So maybe this spouse chooses not to take the new part time job because the net financial benefit of additional paid work just isn’t worth it.

My back-of-the-envelope calculation, using H&R Block’s tax calculator, is that the ACA increases this moderate income family’s marginal effective [federal] tax rate by 13 percentage points, from about 37% to about 50%. The 37% includes very little income taxes, but a lot of reduced EITC and reduced refundable child credit, as well as higher employer and employee-side payroll taxes. The ACA subsidy phaseout adds another 13 percentage points, getting this family up to about a 50% marginal effective tax rate. I doubt State taxes change it much for a family with this moderate level of income. I may be understating the base 37% rate because I’m not looking at other in-kind benefits for which this family might be eligible. I’m confident in the 13 percentage point increase number for this income change.

Do the ACA premium subsidies help this family afford health insurance? Absolutely.

Is that a good thing for this family? Yes.

Does the 13 percentage point increase in this family’s effective marginal tax rate harm them? Everyone except the Obama Administration and a few of its doublethink allies would say yes.

Does the spouse take a part-time job? It depends. The higher marginal tax rate could cause her [him] to work more to get a higher net income, or less because the additional work just isn’t worth the additional pay. Economists call the first the income effect and the second the substitution effect. CBO’s analysis says that, on net, the second effect dominates, and the premium subsidy phase-outs as income rises will cause people to work less.

A lot less.

Finally, the hard one: Do the benefits of the premium subsidy to this family outweigh the costs of trapping this family at this income level by killing the financial benefit they receive from more work, education, training, or other professional advancement? I say no, but that’s a value choice where others might differ.

Team Obama and their allies don’t want to debate it, though, and for good reason. They’d lose. Nobody wants to trap people and discourage further economic advancement, even if they do so by helping that family with generous subsidies. Unfortunately you can’t have one without the other, and so Team Obama obfuscates.

For the past month elected officials have been talking about making sure the “bottom rungs of the ladder of opportunity” are strong. If, however, you raise the safety net so high that it is above those bottom rungs, then people would be irrational to start climbing the ladder at the bottom. That’s the unavoidable downside of the generous income-targeted premium subsidies in the Affordable Care Act. Choose your poison: give these people less immediate assistance, or punish them more as they try to improve their own lot. President Obama and ObamaCare’s supporters chose the latter course.

Note also that this subsidy phaseout doesn’t only discourage additional work, it discourages anything that increases one’s income, including additional job training, education, or even a promotion to a better-paying job. The marginal benefit one gets from any of these income-increasing opportunities is smaller because the government “claws some of it back” by reducing the generous ACA premium subsidies as one’s income grows.

Yes, many ObamaCare critics were imprecise yesterday when they said “2 million jobs” would be lost. CBO actually said the ACA would reduce “the number of full-time-equivalent workers” by about 2 million in 2017, rising to about 2.5 million in 2024. Some of that will be people choosing not to work at all (like maybe our example spouse), while the rest will be people choosing to work less. Both are reductions in the labor supply, and both are indisputably bad when they result from government making work less financially rewarding. This is, however, a minor language error, not a core flaw in the argument being made by ObamaCare’s opponents.

Now is it fair to say that ObamaCare “kills jobs?” I think it is. Some on the Left argue that since the reduced employment comes from workers “choosing” not to work rather than employers choosing not to hire them, it’s somehow not a lost job. That’s silly. There will be fewer people employed and fewer hours worked because of this law. Jobs result from the interaction of supply and demand curves for labor. If policy moves the demand curve down or the supply curve left, the number of jobs will decline and jobs will be “killed” by the policy change. And please don’t tell me that it’s OK because these workers are choosing to work less, unless you also think that me pouring rancid ketchup on your donut didn’t make you worse off because you then chose the cookie.

But the new policy vulnerability revealed by CBO does not rely on the phrasing “killed X jobs.” If my semantic argument is too confusing, there are plenty of other simple ways to make the same underlying point and explain the damage this law does to employment, income, and opportunity, especially for those with moderate incomes who are trying to improve their economic situation.

What should opponents of ObamaCare say? Here are a few variants of the same concept.

• ObamaCare contains a big hidden [effective] tax rate increase on moderate income workers and families trying to climb the economic ladder to the middle class.
• ObamaCare encourages moderate income people to work less, and drives some out of the workforce entirely, by effectively raising their taxes. (hat tip: Charles Blahous)
• ObamaCare will shrink our economy by driving millions of moderate income people to work less, and discouraging some of them from working at all.
• ObamaCare pairs generous premium subsidies for moderate income individuals and families with a massive hidden tax rate increase on additional work.
• ObamaCare punishes additional work, especially for those who want to climb into the middle class. A family of four with income in the mid 30,000 range would face about a 50 percent effective tax rate.
• ObamaCare punishes additional work, education, job training, and professional advancement, anything that generates additional income, for those trying to climb into the middle class.

Finally, I think Paul Ryan nailed it today with the word trapped. Yes, these new subsidies benefit the families who receive them. They also trap these workers and families by killing much of the economic benefit one gains from additional hard work. Elected leaders across the policy spectrum have been stressing the importance of making it easier for people to improve their own lot. This law undermines that goal for millions of people.

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