A Universal Basic Income is a Payroll Subsidy, and Here's Why.

It’s not often that a policy idea comes along like the universal basic income—UBI.  It’s a disruptive policy idea that presents a philosophical debate between capitalism and socialism, challenges personally held ideologies of earned income and hard work, but also has the potential to solve the stickier problems of human existence: poverty and all of its ills.

There are great arguments on both sides of the dialogue. Might it lead to inflation, a decline in workforce participation, or government bankruptcy? No argument is particularly wrong, but the outcomes are difficult to predict.

UBI has ignited a conversation about whether we're willing to use public resources to guarantee a minimum income for every American adult and child. It also presents a question of whether we can accept the consequences of such a policy on the economic system.  We're engaged in the right dialogue, but the one outcome that hasn’t been explored sufficiently is the role of basic income as a payroll subsidy, which it is.

Here’s why:

Inflation erodes real income

This is why we have to raise the minimum wage a couple times every decade. The minimum wage is a fixed price floor, guaranteeing a minimum hourly wage. Inflation represents the purchasing power of a dollar.  As inflation goes up, which it typically does each year, your dollar doesn’t go as far.

Your ‘nominal’ income is what your paycheck says you make. Your ‘real’ income is the purchasing power of that income in the economy. Therefore, your nominal income needs to keep up with inflation in order to maintain your lifestyle. A common solution is the “cost of living adjustment” or COLA, a small raise to maintain the standard of living. 

The minimum wage doesn't have COLA; it isn't 'indexed' to consumer prices to maintain worker purchase power. If the minimum wage remains constant while inflation increases, low-wage workers can afford less with their income. This is why 12 presidents have raised the minimum wage 22 times over the past 80 years

UBI is not immune to inflation

Where the minimum wage sets a price floor for low-wage workers, the UBI sets a salary floor for every citizen, regardless of whether they work. The concept is simple: cut everyone a check. It has the potential to alleviate a lot poverty, but not all, such as poverty due to disability. It would allow workers who log 50 or 60 hours a week more time at home. It would allow single mothers to afford child care and return to work or higher education. It would send teenagers back to school to earn their diploma.

It's important to understand, however, that UBI is not a complete salary, it's a supplement. Proposals have ranged from $2,500 to $10,000 per adult. But as income, it's also not immune to inflation. We can visualize this. 

Let’s imagine you make $40,000 in a world with 2.5% annual inflation. If your employer doesn’t raise your salary by at least 2.5% each year, your real income will go down. You will notice it, and you won't like it. You may demand more money or find another job, and you have some leverage when you're underpaid compared to what the market will pay for your job.

The grey dashed line represents your $40,000 salary adjusted for inflation over 15 years. The red line represents your salary wirh only a 1% COLA, less than inflation. The difference between them is the net loss in real income, and a net increase in real profit for your employer.

Now let’s add UBI. If your salary instantly jumps to $50,000, you're now making more than your job is worth in the market. That's likely to make you very happy. But remember, there is usually always a downward pressure on the price of labor as an input to production. It’s the profit-maximizing model.

Under the minimum wage, employers just have to wait for inflation to erode real wages. While other production costs may be going up—along with prices—the cost of labor is going down. This equals a net profit gain. This model doesn't work as well with salaried employees who earn well above the minimum wage. The market determines prices, and experienced professionals can leverage their skills and irreplaceability for annual COLA, if not more. 

A UBI would now give employers the leverage to erode salaries unlike before. As long as your employer keeps annual raises less than inflation on average. If your new salary increases at 1% COLA—the blue line—you're still above your previous inflation-adjusted salary. But in less than 15 years, your employer made the UBI disappear—the yellow dot.

By result, a UBI is a payroll subsidy

If you are not convinced this would happen, just look at the past 80 years of minimum wage. Employers took advantage of the greater market forces—inflation—to transform real wages into real profit. Under a UBI scenario, they would transform a government-issued income supplement into real profit.

Source: CNN MoneyBLS; Note: Figures adjusted to 2015 dollars using the CPI-U; Updated November 3, 2015. CPI for 2015 uses H1 average.

They can do this by either increasing annual raises and COLA adjustments at a rate less than inflation on average, or hold flat starting salaries for new hires. Even if UBI is indexed for inflation, it's still only a portion of total income. It just pushes the yellow dot down the road. Eventually, inflation will catch up to UBI-adjusted salaries. 

At least with the minimum wage, we can raise the floor and shift the payroll burden back onto employers. We can't do that with UBI. Without the proper design or safety mechanisms, increasing UBI will only subsidize more payroll.

Salaries are about lifestyle

"It's not about the market value of a job; it’s about the lifestyle that a person wants from that job, and if the market can meet the demand for that lifestyle."

You seek the salary for the lifestyle you want. We all want million-dollar salaries. But in most parts of the United States, we know we don’t need more than a 10th of that to provide for our families. Plus, million-dollar jobs are hard to come by. We only want enough to feel comfortable and secure in our living and well-being. Every dollar above that is gravy; a lot above that is luxury and opulence.

From an economic sense, a salary or wage represents the purchasing power that a person wants for the time and labor they sacrifice intersecting with the value they bring to a job through their skills and replaceability. If you want a higher salary to fund an expensive lifestyle, you need to increase your skills and irreplaceability.  These give you leverage to demand more salary. 

But it goes in both directions. How often have you heard of the over-worked lawyer hanging up the scales to work for a non-profit for a third of the salary but with all the free time in the world to spend with family? Salaries are about lifestyle.

This matters a lot. If you want a $50,000 lifestyle, you're entering the market looking for a $50,000 job. If the government already provides $10,000, the market only needs to provide $40,000 to earn your labor. You may be unwilling to accept $40,000 for something that used to pay $50,000, but someone else will be. They, too, want the $50,000 lifestyle. 

There is always someone willing to do your job for less. Remember, it's not about the market value of a job; it’s about the lifestyle that a person wants from that job, and if the market can meet the demand for that lifestyle.

The result is the downward pressure on the price of labor to the lowest point the market will allow. This is not morally wrong; it’s economic efficiency. There are consequences, however. Wages can only go so low before families start to suffer. America witnessed this during the under-regulated industrial revolution and various economic depressions and recessions. The downward pressure on labor drives people into poverty. It reduces social mobility, increases debt, and decreases the percent of families that can afford higher education, purchase homes, or save for retirement.

This is why the wage floor was invented. It ensures workers can meet their basic needs to survive and save for the future. And when low-income workers make more money, they immediately inject it back into the economy. We always spend money up to lifestyle we can afford.

The 'Real income' BENEFACTORS

The demographic that sees the true benefit from UBI is the low-wage worker. Without reductions to the minimum wage, they can still work 40, 50, or 60 hours per week. They receive UBI on top of that, which is a larger percentage of their annual salary than those in higher income brackets. Greater income security will allow them to reduce their hours, or invest in their homes, health, or education. That is the point of this policy, and we shouldn't be concerned about workforce participation. People will always work where there is money to be made. Middle-income jobs will see a temporary boost in their real income, but as discussed, inflation will chip away at it until it's entirely absorbed as a payroll subsidy. 

The real policy question is, then, why not just raise the minimum wage?

A UBI of $10,000 represents $4.81 per hour for 2080 hours of full-time work per year. That reflects a new minimum wage of $12.06, which would be the highest in history. If we also index minimum wage to consumer prices, we protect it from inflation and never have to increase it again. This allows the economic value of a business to contribute to the livelihood of its workers, rather than through the use of collective public resources. And an increase wages would reduce welfare rolls, saving taxpayer money. 

AN Honest Dialogue

We should welcome these kind of policy conversations about labor, poverty, and the welfare trap. 

It should not be a conversation about whether a basic income aligns with our principles of hard work in a capitalist economy. A democratic nation has the prerogative to pool its resources through legal taxation and expend or redistribute it as it sees fit.

It should be a conversation about whether a basic income will be effective at achieving long-term, sustainable poverty reduction. It should be about the consequences of such policy, including the role of inflation, the payroll subsidy, and workforce participation, among others. And it should be based on the kind of evidence that may come out of modern basic income pilots, like Oakland, California and Finland.

If the goal is to redistribute wealth, a basic income is not the right tool if it also subsidizes payrolls and turns the government into a pass-through for income. 

If the goal is poverty reduction, a basic income is not the right tool if inflation grows every year and wages don’t.

There are other ways to fight the kind of income insecurity that breeds extreme political populism. We can raise and index minimum wage, and manage long-term inflation to avoid the erosion of real income. Or, we could execute a basic income that replaces existing welfare, but tapers off and caps at certain income levels at a rate less than 1:1 so as not to discourage work. Or, we could stop giving away public resources for pennies and establish social dividends fueled by rents collected on the private use of public goods.

In the end, we want an economy where the lowest-paying jobs still provide workers a lifestyle with dignity and security. We'll see if the basic income is the right tool.