The Causes of Poverty (72): How Unemployment and the Incentive Theory Aggravate Poverty

Not all poor people are unemployed. Even in developed countries some of the poor are “working poor“, i.e. people who have an income that is below the poverty line. Hence, if some who work for a living can’t make ends meet, it’s obvious that the unemployed are even more at risk of being poor. At best, the latter only have a temporary replacement income in the form of unemployment benefits. This income is often lower than even the lowest wage income, and in most countries it’s also limited in time. Hence, poverty is the likely result of unemployment, even in wealthy countries.

To some extent, this result is intentional: governments want to “incentivize” people and “nudge” them into the labor market. High unemployment benefits that aren’t limited in time – combined with the fact that many jobs don’t pay enough to avoid poverty – may trap some people in unemployment. Low and limited unemployment benefits, on the other hand, invoke the horror of poverty which in turn may force people to look for work.

It’s obvious why many unemployed people are poor – their incomes are just too low, and intentionally so. But why are poor people unemployed? The incentive theory tells us that poor people shouldn’t be unemployed. The horror of poverty should drive them out of unemployment. While some people are probably “incentivized” in this way, this is not something that will work for all the unemployed poor. It will only work for all the unemployed poor if jobs are abundant, and indeed that’s what the incentive theory assumes. Of course, this assumption is wrong. There’s something called the natural rate of unemployment. Even in the best of economic circumstances, there’s always some level of involuntary unemployment, and during recessions, this level is higher than normal. During a recession (starting from 2008 in this case) more poor people than normal indicate that their unemployment is due to their “inability to find a job”.

So, there are no conceivable incentives that will push all unemployed poor into the workforce, not even at the best of times.

Notice how the inability to find a job is just one reason among many, and definitely not the most important reason why poor people don’t work. Choice (“home or family reasons”) is another reason. And that’s one which can sometimes be influenced by incentives. However, the reason that’s cited most frequently, namely “sickness or disability” cannot. The horror of poverty will not force you into employment if you can’t work for health reasons. Hence, even if we assume, unrealistically, that there is an abundance of jobs and no natural rate of unemployment, it’s unrealistic to assume that all poor unemployed people will one day join the workforce.

This has implications for the incentive theory. If you put too much emphasis on incentives, you’re likely to put unemployment benefits at a very low level with a strict time limit. After all, the closer the horizon of poverty, the more likely that people will act and look for a job. However, if there are not enough jobs or if people have other reasons why they won’t work, then they won’t work. And if unemployment benefits are stingy, then these people will become poor. Incentives don’t always work as intended. Sometimes they may even cause poverty.

Now, I do agree that work is important and that we should therefore try to get as many people in jobs as we can (and, by the way, improve the quality of those jobs; that’s also in the book). Not only because working people normally – although not always – are less at risk of being poor, but also because work is important in human flourishing. I also agree that incentives can play a role in getting people to find work, and that the specter of poverty can be used as an incentive. However, we should be careful with this particular incentive. It may work sometimes, but often it doesn’t.

More posts in this series are here.


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