The Behavioral Economics of Welfare

by Vanessa Kosoy 2 min read22nd Dec 201720 comments

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Crossposted from Tumblr.

Epistemic Status: I offer some speculation, don’t really understand what is going on, would be glad to receive more insight.

You sometime hear libertarians say that welfare is unnecessary since private charity can replace it. IMO, it looks like the evidence doesn’t support this: only few people donate sizable amounts to charity, and historically, charity didn’t substantially ameliorate poverty during the early Industrial revolution (to the best of my knowledge). In fact, welfare developed precisely because the systems of poverty relief that existed in small rural communities became obsolete with mass industrialization and urbanization. 

This seems somewhat paradoxical. All Western-style democracies have welfare systems, which means that presumably the majority is interested in having a welfare system, despite that it is a financial net negative for most people (that is, most people pay more money in taxes for welfare than receive welfare, I think?) So, apparently most people care about the poor. In this case, why can’t charity replace the welfare system? 

Let’s consider several theories. These theories are not mutually exclusive, and the real explanation might be a combination of several (or something else altogether.)

Theory 1: People don’t trust charity funds. Normally, when you buy a commodity or a service, you can test its quality directly, and if it is found wanting you will not return to the same supplier. On the other hand, it is difficult to observe the effects of charity if you are not acquainted with the recipients. Therefore, verifying the trustworthiness of a charity fund is much more costly than verifying the trustworthiness of other suppliers, and most people aren’t sufficient altruistic to pay this cost.

This theory is somewhat supported by many explanations I heard people give for why they don’t donate to charity, although many times it sounds a bit like an excuse.

Theory 2: People indeed care about the poor, but only about the poor in their neighborhood or town. Therefore, acting against poverty requires either very local charities or coordination. Coordination is difficult (tragedy of the commons) and very local charities would face even greater trust issues (This theory is an extension of Theory 1.)

I liked this theory initially, but upon deliberation I find it difficult to believe. Most people who speak out in favor of helping the poor don’t seem to exhibit any geographic focus besides a focus on their own nation. Such a focus probably existed in societies that preceded the Industrial Revolution and the associated atomization (destruction of local communities). Today, to the extent local communities exist at all, they seem to be clustered by socioeconomic status, so those most able to help the poor are the most remote from them anyway.

Theory 3: People hardly care about the poor at all. The main reason they speak and vote in favor of welfare is because each person knows eir individual influence is very weak so this support costs them little. In other words, welfare exists because destroying welfare is a coordination problem: each individual would prefer not to pay it, but given that welfare exists, it is better to signal virtue by speaking and voting in favor of welfare (one may argue that the secret ballot would have removed this incentive, but actually people often deceive themselves in order to deceive others, not to mention that voting is constrained by positions on other policies as well.)

Theory 3 seems supported by Hanson’s philosophy of “X is not about X,” to the extent we believe this philosophy. It is the most cynical and also very ironic: here, Moloch turns out to be the good guy. I would rather live in a universe where this theory is false, but, [insert Litany of Tarsky here.]

I think it is very important to understand the real mechanism. Among other reasons, if we want to improve the world by charitable giving, we need to understand the incentives at work. Indeed, different explanations seem to suggest quite different strategies to improving the situation.

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