California's Good Intentions Won't Yield Prosperous Results

Most people want to help the poor, but that doesn't mean intentions yield results. To illustrate, let's take two Californians, Ashley and Betsy. Ashley is 18, working retail, about to go off to UCLA, and both of her parents are educated professionals living in Santa Monica. Then, there is Betsy, a 32-year old single mother from San Bernardino, who only has a high school diploma and works full-time as a waitress.

Both Ashley and Betsy are earning the minimum wage and on July 1, they received a raise, not because of their employers' generosity or because they are doing better at their job, but rather because of state law - AB 10. The latter will incrementally raise California's minimum wage from $8 per hour to $10 per hour by 2016, with the first raise (to $9 per hour) having occurred at the beginning of July.

In a state such as California, where the poverty rate ranges from between 16% and 24%, individuals like Betsy would benefit from effective anti-poverty programs. But for a policy to help the poor it has to actually affect the poor.

Based on the 2013 Current Population Survey, 47% of minimum wage workers are in the middle to highest household income quintiles, compared to just 22% who are in the lowest household income quintile. Looking at the federal poverty line instead of income quintiles yields a similar story. Just 21% are under the federal poverty line, while almost one-third are over 300% of the poverty line, which is roughly $69,000 for a family of 4 (or almost $8,000 higher than California's median household income). If the goal of increasing the minimum wage is truly to help California's poor, then it is awfully inefficient.

But the news for Betsy gets worse. Almost half of minimum wage workers are employed in industries with unemployment rates above the national average. In fact, a plurality works in the leisure and hospitality industry, which as of June 2014, has an unemployment rate of 8.6%, over 2 points worse than the national average. This means employers in industries with the highest concentration of minimum wage workers can be the most discerning in their hiring, helping higher-skilled applicants (Ashley) at the expense of lower-skilled ones (Betsy).

For Californians like Betsy, however, there is another alternative. To actually and efficiently reduce poverty, California could join 25 other states in creating a state earned-income tax credit (EITC), a refundable tax credit for the working poor with children. The state programs supplement the federal program by setting the credit as a percentage of the federal EITC amount.

Since the EITC is a function of income, those in high-earning households like Ashley would be ineligible; thus, unlike the minimum wage, the EITC only assists the financially disadvantaged like Betsy. The EITC not only encourages work, but also is a transitory program, helping individuals to successfully end the poverty cycle. For instance, in 2013, the EITC lifted about 6.5 million people out of poverty.

In California, without the federal EITC, of which roughly 3 million Californians are eligible, the Golden State's poverty rate would be 3 points higher. In the long run, EITC recipients tend to become active market participants. And just as importantly, the EITC shifts the cost burden from a small group (i.e. businesses) to a broad group (i.e. the entire tax base), another efficiency compared to the minimum wage.

The Betsys of California thank Sacramento for the minimum wage hike, but so too do the Ashleys. Instead, if Sacramento focused on efficient and actual anti-poverty measures, like the EITC, only the Betsys would be thankful and then, California's poverty rate would start to improve.