Subsidies and Jobs
10/27/20
When it comes to decisions relating to federal spending and taxation, it’s useful to keep in mind that either of two underlying considerations may be at work. First is simply the obvious need to finance the level of government services required, and second is the desire to achieve a particular social or economic objective. Often the two are related, but it’s still appropriate to make a distinction. In one case, the impact on society doesn’t disproportionately favor or punish one group over another, while in the second case, the action directly targets a specific segment of the population. For example, our standard income taxes are of the first type, while sin taxes — e.g., taxes on liquor or cigarettes — are examples of the latter.
I’m drawn to this topic after watching the second and last presidential debate. One of the issues covered was climate change. Biden embraces the scientific judgment that climate change is an existential threat, and as a consequence he supports a transition away from fossil fuels to renewable energy sources. Toward that end, over time he would seek to eliminate subsidies currently supporting oil, coal, and gas production. Undoubtedly, the counterargument against eliminating these subsidies is that they serve to support jobs.
The jobs argument is compelling, but it deserves further scrutiny. Federal policy can support job creation with two distinct approaches. The first subsidizes business owners, making some market activity more profitable, thereby attracting entry into the production process and stimulating or supporting employment in that sector. Our current subsides to fossil fuel producers is an example of this type. For the most part, these subsidies offer tax abatements and direct payments to these producers. The second approach subsidizes consumers. This type of subsidy provides buying power on the demand side. The resulting higher demand will stimulate additional market activity and thus higher employment. The demand-side subsidy will generally be broader based that that of the supply-side approach, and it will likely affect employment in a less concentrated way.
A key difference between the two approaches is that supply-side incentives accrue directly to the benefit of the owners and shareholders of the receiving companies; and while their workers enjoy the benefit of the program, theirs is a trickle-down effect. Unquestionably, the owners and shareholders are the bigger winners under this approach. In contrast, under a demand-side stimulus, the consumers or purchasers enjoy the direct assistance, and the business owners’ benefits are secondary effects.
Now that I’ve distinguished the two approaches to subsidizing market activity, let me come to the point: To my mind, one of the things that makes America great is its reliance on the free market as the primary mechanism for allocating resources — i.e., the ability of entrepreneurs to respond to profit opportunities that arise as a consequence of demands by consumers. Markets are not perfect, however, and in many situations, it’s appropriate for the government to intervene; but when the government does intervene, it should do so in a way that least disrupts normal market signals. Demand-side subsidy programs would generally be preferred in this regard.
Energy policies deserve to be viewed through this lens. We need to acknowledge that rolling back existing fossil fuel subsidies will discourage production in this sector. This outcome would be good for the environment, but the cost would be disproportionately borne by those who lose their jobs. We can — and should — more than temper these negative consequences by substituting federal support for the renewable energy sector for the existing subsidies currently going to fossil fuel producers. (In fact, by all indications, this substitution is one that the Biden administration would be endorsing.) In designing programs to promote greater reliance on renewable energy sources, however, I would hope that we do so in a way that lowers the price of renewable energy for consumers, as opposed to lining the pockets of the business owners, directly. An ancillary policy should also be implemented to ease the transition to alternative employment situations for those who bear the brunt of job cutbacks from curtailing the original subsidies.
This perspective transcends energy policy. Consider agriculture for example. The government provides direct subsidies to farmers, and it also provides food stamps to low income households. The former is supply-oriented; the latter is demand-oriented. The same goes for housing policy. In an effort to stimulate the production of affordable housing, we can prop up developers, or we can target support directly to low-income purchasers of housing services. And finally, on a macro level, the current economic situation is another case in point. The economic weakness we’re experiencing can and should be mitigated by fiscal policies. In all of these situations, my bias is that we should prioritize demand-side policies over supply-side policies. Better that the money goes to households and individuals rather than directly subsidizing private businesses that in many cases may likely prove to be unsustainable.
