Macroeconomic Consequences of German Basic Income Proposals

CONTENT

1 Introduction

2 Solidarisches Bürgergeld by Althaus (2007)
2.1 Budget Neutrality
2.1.1 Results on National Budget: Althaus Concept
2.1.2 Budget Neutral Alternatives by Horstschräer et al. (2010)
2.2 Labour Market Effects
2.2.1 Supply Effects: Theoretical Considerations
2.2.2 Supply Effects: Microeconomic Simulation
2.1.3 Demand Effects: Theoretical Considerations
2.3 Distributional Effects

3 HWWI Proposal by Hohenleitner & Straubhaar (2007)
3.1 Labour Market Effects: Theoretical Considerations
3.2 Labour Market Effects: Microeconomic Simulation

4 Conclusion

REFERENCES

APPENDIX

List of Figures

Figure 1: Tax- Transfer Scheme for Singles Without Children

Figure 2: Marginal Burden for Singles Without Children

Figure 3: Disposable Income for Singles Without Children

Figure 4: Household Net Income for Couples Without Children - Alternative 1

Figure 5: Household Net Income for Couples Without Children - Alternative 2

Figure 6: Income Distribution Effects - Alternative 1

Figure 7: Income Distribution Effects - Alternative 2

List of Tables

Table 1: Effects on National Budget

Table 2: Parameters of the Original Reform Proposal and the Two Alternatives

Table 3: Labour Supply Effects - Alternative 1

Table 4: Labour Supply Effects - Alternative 2

Table 5: Simulated Labour Market Effects in the Low Pay Sector

List of Abbreviations

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1 Introduction

Recently, the idea of implementing a basic income system in terms of negative income tax (NIT) or unconditional basic income (UBI) is considered as conceivable alternative to the status quo. The purpose of this thesis is to give an objective illustration of current German UBI proposals, especially concerning labour market effects and distributional consequences. Through economic key figures, I compare the depicted concepts in order to assess their suitability for the German case. What features does a UBI need to be “perfectly customised“? Actually, is it possible to achieve all ambitions or are there goals that cannot be accomplished simultaneously? With regard to the different objectives, which proposition is the best?

The idea of basic income goes way back to 1943 when Lady Rhys-Williams firstly proposed a system that integrates taxation and social benefits. In the 1960s the Nobelist and famous economist, Milton Friedman carried on promoting the proposal of a NIT.¹ Four field studies with a NIT, that were conducted in the United States between 1968 and 1982 showed that labour market participation only diminished slightly (Widerquist, 2005). Nevertheless, because every labour market is individual and depends on various features, numerous critics point to the unpredictability of labour market effects, especially on the supply side. Although Alaska, Brazil and Namibia recently introduced an UBI scheme², it still remains an unknown field from a practical perspective, which is why further theoretical considerations and simulations are requiered to develop a suitable concept for the German case.

Owing to structural transformations as decreasing economic growth rates, demographic changes and alterations in traditional family patterns, the current German welfare system, whose foundations have been laid one century ago, no longer meets the requirements of a social federal state (Hohenleitner & Straubhaar, 2007, p. 7). Although an empirical evidence for the success of the currently imposed Hartz IV³ does not exist, it is verifiable that the labour market reform does not achieve the objective to create working incentives for all people, especially in the low- pay sector. In 2013 the unemployment rate for all employees amounted to 7.4% and a vast rate of long-term unemployed still remains (Statistisches Bundesamt, 2014a). Opielka repeatedly criticised the current welfare system, which relies on the idea that people naturally need an activation to create working incentives.⁴ Thus, long-term unemployed are obligated to accept every job offered from Federal Employment Office or unemployment benefits will be dropped up to 30%. “This pressure to provide cheap and compulsory labour“ (Trube and Wohlfahrt, 2004, p. 8) leads to a growing number of working poor⁵ and a continuously increasing quantity of people who have to live under the at-risk-of-poverty threshold. In numbers 16.1% in 2012 (Statistisches Bundesamt, 2014b). Simultaneously, labour supply disincentives are generated for low-skilled workers by withdrawal rates up to 100%. The proximity of guaranteed minimum income in terms of social assistance and the salary of full-time employment does not make it profitable to sacrifice leisure for a mean additional income (Broeters et al., 2006, p. 364).

Advocates of UBI argue that a “decoupling of productivity and entitlement to income“ (Opielka, 2008, p. 73) induce more social justice by a redistribution of income for the bottom. Without any means-testing every citizen would have the right to an UBI which enables a decent livelihood and access to social assistance. Besides a basic income scheme could stimulate labour supply through lower withdrawal rates especially for low-income earners and overcome the problem of the unemployment trap.⁶

Although a certain unpredictabilty of the market exists, the increasing call for more social justice and the continuing downward mobility of the German middle class are igniting a new debate about basic income. Hence, various social and political groups as well as individual thinkers and economists have developed different basic income concepts adapted to the German society.

In the context of this study I merely focus on propositions which refer to basic income that is paid unconditionally and without any means-testing to “individuals rather than households; irrespective of any income from other sources; and without requiring any present or past work performance, or the willingness to accept a job if offered“ (Van Parijs, 1992, p. 3).⁷

According to this definition very few German basic income schemes come into consideration for a comparative analysis. Two of the most common and actually discussed proposals are: “Solidarisches Bürgergeld“ by Prime Minister of Thüringen, Dieter Althaus (2007) and the HWWI basic income model by Straubhaar & Hohenleitner (2007). In the first part of the study I exhaustively depict these concepts and additionally, I add some independent literature. Subsequently, I point out some macroeconomic consequences with a view to labour market effects and income distribution for each concept. Furthermore, I compare the depicted UBI proposals with the help of critical economic key figures, for instance the Gini coefficient⁸ and the unemployment rate. As some original reform proposals yield a budget deficit, for the macroeconomic analysis I only use adjusted proposals that meet the criteria of budget neutrality in order to ensure comparability.⁹

2 Solidarisches Bürgergeld by Althaus (2007)

The concept‘s main objective is to provide every German citizen with a basic income payment that secures a decent livelihood. It is determined by the sociocultural minimum subsistence, which amounted to 595 euro for persons over the age of 18 and 304 euro for children under 18 years old for 2008 (Deutscher Bundestag, 2006).¹⁰ Thus, the original concept proposes a basic income guarantee of 600 euro for adults and 300 euro for children. Additionally, every person, adults and children, receive a credit note for health and care insurance in the amount of 200 euro. As a result the total basic income rises to 800 euro for adults and 500 euro for children.

Every single euro, earned additionally to the basic income is liable to taxation. In this case, Dieter Althaus suggests a two-stage-flat-tax system. Thus, people who derive a gross income under the threshold of 1,600 euro pay a flat tax of 50%. This flat tax for lower incomes can be seen as a withdrawal rate, as the tax payments are to offset with basic income transfer. In other words, every single euro earned aditionally lowers the basic income level by 50 Cents. For all gross incomes exceeding the threshold of 1,600 euro the net recipients become real net payers, as the basic income cannot cover the full amount of taxes that have to be paid. Moreover, from the threshold basic income decreases to a level of 400 euro, consisting of 200 euro basic income and 200 euro health insurance. In exchange, all incomes exceeding 1,600 euro pay a lower flat tax of 25%. Consequently, the basic income transfer of 400 euro is to consider as an additional benefit in terms of a tax credit (Althaus, 2007, p. 3-4).

An other main component of the Althaus proposal is the abolishment of all social security contributions (SSCs), for both employers and employees. In return, all employers are obligated to pay a payroll tax between 10 and 12%, which is considerably less than the burden of the status quo¹¹ (Althaus, 2007, p. 3). Furthermore, the reform concept includes a restructuring of the German pension scheme. Contrarily to the current pay-as-you-go system¹², the Althaus concept proposes that every citizen from the 67th year of life has the right to a basic pension in the amount of 600 euro plus an additional transfer up to 600 euro, whose exact amount depends on previous employment (Althaus, 2007, p. 3).

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Figure 1: Tax-Transfer Scheme for Singles Without Children (Figure from Horstschräer et al., 2010, p. 5).

Figure 1 shows the gross income per month and the resulting income tax for the status quo and for the Althaus concept. It clearly illustrates that the basic income line lies under the line representing the status quo (Tax and SSC) for all gross incomes. Furthermore, it shows a flatter slope of the basic income line for all incomes more than 1,600 euro. That is caused by the flat tax of 25%, which is considerably less than current tax rates in that income range. With regard to these calculations, the reform scenario improves the situation for all employees due to higher disposable incomes.

From an economical point of view, for low income recipients the Althaus system is nothing else but a generous wage top-up scheme (Kombilohn), which balances out a drop in earnings by state financed subsidies (Bonin & Schneider, 2007, p. 1). However, the reform proposal follows the egalitarian and libertarian ideal and it clearly differs from the actually existing scheme. The basic principle of “Solidarisches Bürgergeld“ is its unconditional nature. Due to the fact that basic income is paid without any means- testing and the amount is oriented to the minimum subsistence level, it improves social justice and eliminates poverty (Strengmann- Kuhn, 2007, p. 4).¹³

Nonetheless, the division into “großes Bürgergeld“ (800 euro) for all income recipients below the threshold of 1,600 euro and “kleines Bürgergeld“ (400 euro) for all gross incomes more than 1,600 euro creates doubts about the unconditional nature of the proposal. However, although the amount of basic income depends on additional income of employment, to say that the Althaus concept is not a genuine unconditional basic income scheme appears unreasonably exaggerated. Instead, the distinction between “kleines Bürgergeld“ and “großes Bürgergeld“ has to be understood as a feature that enables a standardised basic income. Otherwise, to realize a higher basic income for gross incomes above 1,600 euro, they would be subject to higher tax rates in addition to finance the basic income scheme and the net result would be the same (Franzmann, 2012, p. 360- 361).

Of particular note is the simplicity of the concept due to an integrated transfer and income tax system, that is based on the idea of negative income taxation (Flassbeck et al., 2012, p. 24). Besides, all welfare payments in terms of social benefits, that actually are paid on a means testing basis can be replaced by the UBI. With the abolition of unemployment assistance, unemployment benefits and benefits for housing, children and education a major part of state bureaucracy can be eliminated (Horstschräer et al., 2010, p. 4). Another positive aspect is the reduction of indirect labour costs for employers, caused by decreasing SSCs to only 12%. Hence, costs for human working power decrease and demand for labour goes up. That implies that the financial advantage will not be offset by charging companies with a corporation tax.¹⁴

2.1 Budget Neutrality

Particularly because the original Althaus concept places every participant in a better position due to higher disposable incomes, it is necessary to pass a critical eye over the situation and scrutinize whether the Althaus model is financially feasible.¹⁵ When restructuring the current welfare and taxation system, one major goal should be to achieve a neutral public balance sheet. Especially from a political point of view budget neutrality is an essential condition for considering an implementation of an basic income scheme.

2.1.1 Results on National Budget: Althaus Concept

On the basis of data from the Socio-Economic Panel (SOEP), Opielka and Strengmann-Kuhn (2007) carry out a microsimulation in order to proof whether the chosen parameters in the reform program fulfil the requirement of budget neutrality and how they have to be adapted in case of default.

Since all basic income related transfers are fully funded by revenues from income tax, Opielka and Strengmann-Kuhn make the assumption that the original reform program “is financially feasible precisely when the simulated revenues from the new income tax are approximately equal to the simulated expenditures for basic income“ (Opielka & Strengmann-Kuhn, 2007, p. 20-21). As changes in individual behaviour on the labour market are not predictable and exactly measurable, consequences of labour supply and demand effects are not taken into consideration. The results show that the proposed tax rates of 25% and 50% lead to revenues from income tax of 408 billion euro a year, which exceed the revenues of the current system by 200 billion euro. On the other side, for the new basic income scheme incur costs of 597 billion euro, which are composed of 400 billion euro for the basic income guarantee and 197 billion for health and care insurance.¹⁶ Consequently, there is a negative deviation of 189 billion euro between revenues and expenditures, which is approximately the same amount as the costs for health and care insurance. Hence, in order to fund the flat-rate health contributions Opielka and Strengmann-Kuhn suggest to adjust tax and withdrawal rates to an adequate level. They give two proposals how withdrawal rates and tax rates can be modified in order to accomplish the goal of budget neutrality. Option 1 implies a withdrawal rate of 80% and a tax rate of 35% and option 2 includes a withdrawal rate of 70% and a tax rate of 40% (Opielka & Strengmann-Kuhn, 2007, p. 19-22).

Table 1: Effects on National Budget (Data from Horstschräer et al. (2010), p. 10).

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A microsimulation carried out by Horstschräer et al. (2010), comes to similar results on national budget. Subsequent to their calculations in Table 1, an implementation of the Althaus proposal leads to a negative balance sheet of 259.1 billion euro and a deviation from the status quo of 246.1 billion euro (Horstschräer et al., 2010, p. 9-10). Hence, to meet the condition of budget neutrality and close the financial gap either the basic income level needs to be dropped to diminish public expenditures or/and withdrawal and tax rates need to be increased in order to enhance public revenues.

In the following sub-chapter I introduce two budget neutral alternatives proposed by Horstschräer et al. (2010), which serve as basis for the further macroeconomic analysis.

2.1.2 Budget Neutral Alternatives by Horstschräer et al. (2010)

As highlighted in chapter 2.1.1 the originally proposed reform scenario yields a high budget deficit and is not financially feasible. Thus, Horstschräer et al. (2010) provide two budget neutral alternatives with adjusted tax and withdrawal parameters, and examine their consequences on labour supply and income distribution. For both alternative reform scenarios Horstschräer et al. (2010) hold basic income payments constant at 800 euro for adults and 500 euro for children. For the first alternative the tax rate is adjusted to 61.3% and the withdrawal rate remains at 50%. For the second alternative the withdrawal rate is increased to 80% and the tax rate goes slightly up to 34.9% (Horstschräer et al., 2010, p. 12-13).

The general equation for the two stage flat tax system can be written as (see Horstschräer et al., 2010, p. 4):

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¹ For further information, see, for instance Rhys-Williams (1943) and Friedman (1962).

² In 2005 the new legislation “basic income as civil right“ entered into force in Brazil. To date a practical implementation only was realized partially. From 2008 to 2009 the BIG Coalition has implemented the pilot project of a basic income guarantee in Otjivero in Namibia. Only Alaska introduced an UBI for the entire country with the so called Permanent Fund Dividend Program. The program is in force since 1982 and is financed by public oil extraction. For further information, see www.grundeinkommen.de.

³ Through the labour market reform “Hartz IV“, which was imposed in 2005 the German welfare state combined unemployment benefits and social benefits to the so called “Unemployment Pay II“.

⁴ For further information, see, for example, Opielka (2004) and Opielka, (2008, p. 77 ff.).

⁵ “Working poor“ are people who are working and come under a certain threshold of income. Mostly used as indication is the poverty line.

⁶ Unemployment trap is a situation created by social security or unemployment benefits which erode any motivation on the part of the unemployed to take up a job.

⁷ Although Van Parijs‘ definition implies that the here described UBIs have equal socio-political orientation, each proposal is an individual theoretical construct. Firstly they distinguish in the sources of funding, secondly they vary in the individual parameters, especially the amount of basic income and the adjusted extent of taxation.

⁸ The Gini coefficient is a number between zero and one that is a measure of inequality (e.g. distribution of income). The Gini index of zero represents perfect equality and the Gini index of one means perfect inequality.

⁹ This version refers to the status of 2007. Recently Dieter Althaus adjusted some parameters, but the core of the concept is unchanged. For further information, see, www.solidarisches-buergergeld.de.

¹⁰ To ensure the original main idea that no citizen has to live at risk of poverty the basic income must be adjusted by every new calculation of the subsistence level. In accordance with the “Neunter Existenzminimumbericht“ the actual subsistence level is 696 euro. For simplicity reasons I stick to the original proposal with the calculations from 2006.

¹¹ For the status quo SSCs yield approximately 20% for employers and 20% for employees.

¹² Pay-as-you-go systems are systems that pay pensions out of current contributions or taxes. They are usually run by governments from current tax revenues, and the amounts of the benefits are based on commitments, or promises, made by the governments.

¹³ Especially hidden poverty is a serious problem in Germany. A research study by Institut für Arbeitsmarkt und Berufsfirschung (IAB) found out that for 2008 between 33.8 and 43% of all indigent people in Germany did not make demand on public social assistance by reasons of ignorance, language problems or just shame (see IAB, 2013, p. 11). With a basic income distribution without any means-testing hidden poverty would be eliminated.

¹⁴ In order to make a precise statement on labour market effects it is necessary to consider the system as a whole and include labour demand effects, labour supply reactions and other market restrictions. In chapter 2.2 I discuss labour market effects in detail.

¹⁵ See Figure 1: In comparison with the status-quo the Althaus reform concept leads to higher net incomes for nearly all gross income levels. Only from 1,600 to 2,400 euro the status-quo reaches higher net incomes due to lower taxation. Adding SSCs to the status quo the basic income model provides lower taxation plus conributions and therefore higher net incomes for all participants.

¹⁶ Expenditures for the basic pension are not mentioned here, since Opielka and Strengmann-Kuhn calculated that the proposed pension scheme can completely be funded by the introduced payroll tax for employers of 12%. Therefore the net result is zero and has no effect on the balance sheet.