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Could you pay that in cash, please?

  • Published at 12:25 am February 18th, 2018
Could you pay that in cash, please?
The Government of Bangladesh has decided to make the country poorer by raising the compensation of civil servants. This is not a good piece of public policy. This is not the usual, general grumbling about bureaucrats gaining more money at the taxpayers’ expense. Rather it’s a more technical – and true – complaint about the manner in which the pay rise is being designed. Civil servants will now get larger subsidized mortgages. This costs those who pay for it more than the benefit and value gained by those who receive it, which creates a net economic loss. It just isn’t the right way to do it. We can, however unlikely the thought might be, insist that those who work for government should be better rewarded, even if what they actually do falls far short of the things they attempt to do. And we’d like to have honest and competent people doing that job; thus we should offer a decent pay package to attract the right people. OK, maybe the bureaucrats should be getting more money? But if that’s so then we should simply raise their pay, not increase their allowances. Unfortunately, the government has decided to do this the wrong way around. They’ve upgraded an old system whereby mortgages for civil servants are subsidized. Civil servants can now borrow up to Tk75 lakh, up from Tk1.2 lakh, at a less-than-market interest rate. Government makes up the difference to the lenders.
This is a net economic loss - also known as a deadweight loss - as wealth just disappears into the ether as a result of how the system is designed
With elections coming up, it’s not all that much of a surprise that government workers get good treatment at this time. But it’s still the wrong way to do it. For a general truth about this world is that liquid money (cash, checks) is worth more than any form of limited money that can only be spent on a specific item.

Cash versus in-kind

Think about food stamps in the US. This is a poverty alleviation scheme for households below a certain income level who get to use the stamps to buy food only. Actually, now, the stamps have been replaced by electronic cards but the old name has stuck. This is called an in-kind benefit, as opposed to a cash transfer, which is when the government directly pays out cash to a target group, in this case, low-income groups. We don’t want the poor to actually starve, after all. But this limited money is worth less than real money (cash). We know this because there’s a black market in the stamps (well, cards). People will sell their money limited to only buying food in order to get real money which can be spent upon anything. The going rate is about 50 cents on the dollar (it’s often said that this is to buy drugs but the most common purchase after such scheming is nappies). This is a general point widely realized in the worlds of welfare scheme design and economic statistics. US Census rather sheepishly agrees that Section 8 (a benefit to rent housing) and Medicaid (health care for the poor) are valued by the recipients at less than it costs to provide those services. So in a cost-benefit analysis, the scheme would be deemed more costly than it is useful. This is a net economic loss -- also known as a deadweight loss -- as wealth just disappears into the ether as a result of how the system is designed. We could make the poor richer at the same cost to ourselves by giving them the money, not vouchers or health care. We could make the poor as well-off as they are at a lower cost to ourselves by giving a smaller amount of money. We could even make all of us better off at the same time by handing over an intermediate amount of cash, not goods and or services. That is a Pareto improvement, as in, a definite increase in economic efficiency. That’s also known as “making us all richer.” India has realized this recently. For decades their poverty alleviation system has been government purchases of food stuffs, distributed directly to poor households as a ration -- a ration which is too often stolen, rotten or late. But that’s not the real problem. The ration is valued at less than it costs to provide it. We can make those poor richer by giving them the money directly and they go buy what they want in the market. Which is what the Modi government is trying to do, it’s one of the justifications for the Aadhaar system of identity registration, so that the money can be more simply placed in the correct bank account. The unifying point here is that restricted money is worth less than unrestricted. Cash is worth more than the “same” value of goods or services. The reason being that we’ve all got different tastes and desires and we value the agency to be able to devote available resources to what we want, not what other people think we ought to want; which is exactly where the problem with this new Bangladeshi system for civil servants is.

A loss for all of us

The taxpayers will have to pay the full amount of the subsidy on the mortgages. But the recipients, the civil servants, will value the benefit at less than that amount, because what they are getting is restricted money which can only be used on housing (in-kind benefits). Sure, everyone needs housing of a sort, but the recipients in this case would rather spend the money on other things like education for the kids, foreign travel, better food, a nicer car, maybe even support a charity. We have here a destruction of wealth. Imagine that the taxpayers put Tk1,000 into the scheme and we are only getting perhaps Tk500 in value received. This just makes us all poorer. Well, yes, there’s the elections and government employees factor. But it’s still true that the way to give them higher wages is to give them higher wages. Raise their pay, so they can spend it as they wish, not a subsidy to one specific form of spending like a mortgage. This is also true of most welfare schemes and government handouts. If we want to make peoples’ lives better then give them cash, not things. It’s cheaper for us and they value it more.   Tim Worstall is a Senior Fellow at the Adam Smith Institute in London.