The Economy

The Mythical Aggregate Demand Effect of Redistribution

(Michael Burrell/iStock/Getty Images Plus)
The CBO's "model" of aggregate demand is flawed.

When you subsidize something, you get more of it. Unemployment is no exception. Subsidizing unemployment will result in more unemployment, both by increasing the number of layoffs and by increasing the duration of time that people remain unemployed.

The Congressional Budget Office has said that unemployment subsidies reduce unemployment in the short run because of an assumed increase in aggregate demand. The theory is that the income augmentation from enhanced unemployment insurance spurs consumption, thereby increasing the demand for workers. CBO is mistaken because aggregate demand consists of a lot more than consumption of the unemployed. Its report fails to keep track of all of the parties to a subsidy transaction, including taxpayers and lenders to the government (an oversight that could have been prevented by using an equilibrium model).

Instead, CBO analogizes unemployment checks to government purchases of goods and services, such as roads or military bases. But government purchases directly increase employment by paying people to work and produce something, whereas unemployment subsidies pay people not to work. Unemployment assistance and government purchases are antonyms when it comes to behavioral effects.

Research has shown that the unemployed “spend” their unemployment benefits, often on necessities. But this observation is at best a red herring when it comes to aggregate demand, for three reasons. First, an alternative to spending is saving, which creates demand for investment goods (it is sometimes said that consumer spending is much bigger than investment, but still, a dollar of consumption is worth no more or less than a dollar of investment!). Aggregate demand consists not only of consumption, but also of investment, so a subsidy that increases consumption may alter the composition of demand, but it does not increase it in the aggregate.

Second, the unemployed person would likely spend even more if he had a job, which the unemployment subsidy discourages. While an unemployed individual receiving a subsidy spends more than one not receiving a subsidy, neither spends more on average than an employed individual. The effect of incentivizing unemployment, therefore, reduces consumption. This is the channel through which unemployment benefits reduce aggregate demand.

Third, the taxpayers and lenders to our government finance these benefits and therefore have less to spend and save on other things. Even a foreign lender who decides to lend that extra $1 million to our government may well be lending less to U.S. households and companies. At best, redistribution from workers to the unemployed reallocates demand rather than increasing its total.

Finally, it is worth noting that if CBO is correct, it did the U.S. a disservice in March.  The March 2020 CARES Act unemployment benefits were partly justified as a means of reducing COVID-19 transmission by keeping people out of work. With CBO’s “model” saying that unemployment benefits actually increase work in the short run, the same benefits were increasing COVID-19 cases and ultimately deaths.

Casey B. Mulligan is a professor of economics at the University of Chicago, and served as the chief economist of the White House Council of Economic Advisers in 2018–19. His book You’re Hired! Untold Successes and Failures of a Populist President, which details conflicts between President Trump and special interests, is forthcoming in September.

Most Popular

Elections

On Kamala Harris

Joe Biden has named his 2020 running mate: authoritarianism. American prosecutors wield awesome and terrible powers that lend themselves easily to abuse, and Senator Kamala Harris, formerly the attorney general of California, is an enthusiastic abuser of them. Harris was a leader in the junta of Democratic ... Read More
Elections

On Kamala Harris

Joe Biden has named his 2020 running mate: authoritarianism. American prosecutors wield awesome and terrible powers that lend themselves easily to abuse, and Senator Kamala Harris, formerly the attorney general of California, is an enthusiastic abuser of them. Harris was a leader in the junta of Democratic ... Read More
Elections

Kamala Harris’s Anti-Catholic Bigotry

Someone might want to remind Joe Biden, who’s just picked progressive California senator Kamala Harris as his running mate, that his vice-president-to-be believes Catholics are unfit to serve in our nation’s courts. (Biden, of course, as I considered at length on the homepage today, has spent his entire ... Read More
Elections

Kamala Harris’s Anti-Catholic Bigotry

Someone might want to remind Joe Biden, who’s just picked progressive California senator Kamala Harris as his running mate, that his vice-president-to-be believes Catholics are unfit to serve in our nation’s courts. (Biden, of course, as I considered at length on the homepage today, has spent his entire ... Read More
U.S.

Bloc Heads

Welcome to The Tuesday, a cheery little weekly newsletter about the existential despair Irving Kristol indicated when he noted that Western civilization is collapsing “but it’ll take a long time, and, meanwhile, it’s still possible to live well.” The Bloc Party Right-leaning writers hawking books about ... Read More
U.S.

Bloc Heads

Welcome to The Tuesday, a cheery little weekly newsletter about the existential despair Irving Kristol indicated when he noted that Western civilization is collapsing “but it’ll take a long time, and, meanwhile, it’s still possible to live well.” The Bloc Party Right-leaning writers hawking books about ... Read More
Immigration

Did the DACA Ruling Bury Constitutionalism?

In reacting to President Trump's recent executive orders, Jim Geraghty asks “Do Americans Even Care If There's a Constitution?" He reluctantly suggests that the answer is “no.” This didn't happen all at once -- Woodrow Wilson was probably the first notable to explicitly express the progressive ... Read More
Immigration

Did the DACA Ruling Bury Constitutionalism?

In reacting to President Trump's recent executive orders, Jim Geraghty asks “Do Americans Even Care If There's a Constitution?" He reluctantly suggests that the answer is “no.” This didn't happen all at once -- Woodrow Wilson was probably the first notable to explicitly express the progressive ... Read More
Elections

Wait, Joe Biden Picked That Kamala Harris?

Kamala Harris? Joe Biden picked Kamala Harris? Out of all of Biden's options, he chose the rival whose presidential campaign is best remembered for her attack on him, contending he opposed busing? The rival who said the way he described his relationship with old segregationists was “hurtful”! The woman ... Read More
Elections

Wait, Joe Biden Picked That Kamala Harris?

Kamala Harris? Joe Biden picked Kamala Harris? Out of all of Biden's options, he chose the rival whose presidential campaign is best remembered for her attack on him, contending he opposed busing? The rival who said the way he described his relationship with old segregationists was “hurtful”! The woman ... Read More