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January 22, 2006

Changing Incentives

Matt McIntosh offers an interesting proposal on some institutional changes to the federal government that would be likely to reduce the incentives for wasteful spending. Such proposals, if enacts, would create downward pressure on the budget and on pork projects which attract corruption such as that Washington is currently concerned about in the Abramoff scandal. The chances of Mr. McIntosh's proposals actually being enacted is very low, however, for the same reasons his proposals have a very good chance of reducing some of the problems we face with the federal government: the incentives to change are not there.

Economists long ago determined that incentives drive actions. If people are offered a chance to gain money or other benefits in exchange for certain activities, more of them will do those activities. This is a difficult concept to accept for many people. Just because the state will provide minimal income and health care benefits if you are poor, few of us would willingly become poor simply to gain those benefits. Where these incentives matter is on what is known as the margin: the group of people who are so inclined to change their behavior in response to the incentives.

Jason Deparle's excellent American Dream provides a valuable look into the margin of welfare, for example. Deparle follows three poor women in the Milwaukee area through the process of welfare reform. Each of them demonstrates clear responsiveness to incentives: when government money is available, they accept it. When government money dries up, they seek out other means of supporting themselves. This is not, as some would have it, a moral failing on the part of these women: it is a logical response to incentives. While it would not be impossible for these women to work their way out of poverty, the odds are clearly stacked very heavily against them. Further, because they are accustomed to living at a low level of income, remaining at that income level is not seen as a great hardship, but as the norm. It is then quite logical to choose welfare over work for these women. Work may provide a slightly increased income, but it also requires a significantly greater investment of time and effort. For these women existing at the margin, small changes to how welfare works can cause significant changes in how they act, while for the millions of middle-class Americans, no change in welfare is likely to alter their behavior. But changes at the margin can still have significant effects on the whole, as was demonstrated by President Clinton's welfare reform bill.

Because Congress is made up of human beings, they will also respond to incentives. While it is possible for a small number to resist the temptations placed before them by the system, the majority will react to the system as it is. And the system of government we have now is heavily biased towards incentives that increase the scope of the federal government. I have discussed this previously in more detail, so I will not repeat myself here. The facts have not changed: Congress has strong incentives to spend as much money as possible regardless of the effectiveness or propriety of the spending.

Congress also has little incentive to make the changes Mr. McIntosh proposes. Unless there is a sustained public outcry that leads to a wholesale change in the makeup of Congress, there is no incentive for Congress to reform. A few cosmetic changes should be sufficient to create the illusion of progress long enough for the media spotlight to move on to a new outrage. The only incentive Congress is going to respond to is the threat of losing thier jobs. If their options are keeping their jobs by making certain changes, or losing their jobs, they will change. Until that incentive exists, however, they will not make changes, because the incentives run in the other direction. A Congress that did not hand out favors and money would be a Congress that had fewer opportunities to dine out at Washington's finest restaurants and travel to exotic locales on lobbyist's nickels. That is a strong incentive to retain the status quo.