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On Free Lunches and the Government Mandating Benefits
Mandating companies pay this or that benefit may seem like a free lunch to policymakers. Workers are helped, and taxpayers don’t bear the burden. Yet as Larry Summers wrote in “Some Simple Economics of Mandated Benefits” back in 1989: “If policymakers fail to recognize the costs of mandated benefits because they do not appear in the government budget, then mandated benefit programs could lead to excessive spending on social programs. There is no sense in which benefits become ‘free’ just because the government mandates that employers offer them to workers. … Mandated benefit programs can work against the interests of those who most require the benefit being offered.”
The Economist looks at this issue, in the context of part-timers, freelancers, and independent contract. Gig economy alert!
The main benefits associated with employment fall into three broad categories: public pensions, health care, and unemployment insurance. In the case of pensions, governments usually levy payroll taxes on firms in proportion to their workforce, and use the proceeds to support pensioners. Hire a worker as a contractor, and firms need not pay the levy; in America, the self-employed must instead pay it themselves. Workers’ advocates claim this means contractors face higher tax rates than employees.
However, conventional economics says the burden of a tax cannot be altered just by changing which party writes the cheque. America’s Congressional Budget Office considers payroll taxes part of a worker’s tax burden, even though employers pay them. Were Uber forced to pay social-security contributions instead of its drivers, it would presumably offset this extra cost by reducing the share of each fare that goes to drivers. Their take-home pay would remain the same. This argument cuts both ways: if it does not matter who pays, firms may as well cough up (though businesses may legitimately worry about the associated administrative costs of paying contributions).
Then there is health care, which is often tied to jobs in America. Again, there is no free lunch for workers when employers foot the bill. Numerous studies have found that the more firms pay for health insurance, the less they pay in wages. For instance, in 1994 Jonathan Gruber of MIT found that when some states began insisting on better coverage for childbirth, married 20- to 40-year-old women—whose insurance costs rose most on average—took an offsetting hit to their pay. …
If compulsory benefits are offset by lower wages, why should Uber’s drivers care how they are labelled? Accepted economic wisdom provides one possible answer: wages are “sticky”, or hard to cut in cash terms. If it takes time for pay to fall in real terms, workers who win more benefits in court would be better off for a short while. Workers may also recognise that there is one benefit attached to employee status—a minimum wage—that cannot be offset by lower pay.
Is that an argument for a minimum wage for contractors? Opponents point to its distorting effect on incentives. Workers would look to boost hours rather than output, requiring firms to monitor their effort closely. In Uber’s case, a driver could stay in a quiet area, take few passengers and still make money. What might tip the balance the other way is if firms have too much bargaining power over their workers. This should not apply to a traditional contractor, such as a plumber, who works for lots of clients. But were apps to dominate a whole market—as some suspect Uber eventually might—then contractors may feel outgunned. If that happens, they will need more protection.
I also hit this issue in a recent The Week column.
Published in Economics
Huh? This statement, taken to its logical conclusion, says that firms could have slave labor working for no pay.
There is an old Tennessee expression: “I was looking for a job when I found this one.” If an employee doesn’t like the terms for pay from an employer he can quit just as he can be fired if the employer doesn’t like or need him any more.
No such thing as too much bargaining power.
I’m not sure I understand this. I’ve been waiting for a master of supply and demand, an American school economist to sort this out for us. I’m too simple minded, or too old to get my mind around it, or too lazy to draw myself the curves and play with them, never had a small business, don’t use uber. But, it depends on the elasticities of demand and supply, the nature and cost of the mandate, and the circumstances of the contractors and contractees. Which may be meaningless statement on my part, but also says a lot. We can’t know what the total impact will be because we live in a very complicated world. For instance, an uber driver with car may want to be subject to the payroll tax as he may have retired from one place without SS but has quarters, as we all do, and wants to add to them, or lost his job before earning benefits. You name the circumstance and it will exist. Otherwise it’s just a tax that reduces his income and raises the cost of a ride and each driver will react differently in ways we can’t know and can’t even know after the fact. If he wants to save 14% of his income he can. The thing about defined benefits, mandated behavior is that it’s alway a rigid imposition on a complex fluid world the net impact of which we simply cannot know.
I enjoyed this post and it recalls to me another one of my dismal college memories.
Thinking that I should know something about economics in order to consider myself liberally educated, I signed up for a basic course back in 1980 with a prominent and popular professor. He promptly died and was replaced by a graduate student who struggled with instructing. I was bored, and I received a C in the course. That was the end of my formal education in economics. About the only thing I remembered was “there is no such thing as a free lunch – ever.” It’s not hard to grasp, even I understood it.
Although I later returned to reading economic theory, that single principle of “no free lunch” served pretty well for my decision-making in a variety of arenas. Public policy, however, is decision on economic trade-offs. Many of those decisions seem perfunctory in the sense that once policy drafters have dispersed or diverted the costs, it is no longer as central to the decision. At that point, persuasion and marketing persuasion become the primary considerations. I’ve learned not to interpret the marketing as insight to the analysis. As you mentioned Johnathan Gruber in your post, I’d argue that his example serves to highlight the deception-game common to a lot of public policy decisions.