Tuesday, August 19, 2014

To tip or not to tip, that SHOULD BE the question

Tipped workers are more than twice as likely to be in poverty as the average worker. Yet tipping remains an accepted norm in America because people believe that tips reward hard work. Don't they? 

It turns out that tipping is only weakly correlated with good service. Michael Lynn has shown that it is more strongly associated with social norms and the appearance of the server themselves. White, 30-something, blonde, females receive the highest tips. Black people are less likely to both give and receive tips. So the likelihood of receiving a tip is more or less out of a server's hands, even though servers believe that better service is rewarded with higher tips. 

Tipping can also be confusing and uncomfortable. Tourists in America are often puzzled about how much to tip. Stories are told of patrons being chased out of restaurants by servers who were unsatisfied with their tip, claiming that they needed the money to survive. The obligation falls to the customer to pay the server enough.

Why are tips so important to the server? Because their base wage rate ($2.13 an hour, unchanged for 20 years) is set assuming that tips will be received. In theory, tipped workers should take home a minimum wage ($7.25) because employers are obliged to make up any difference between base wage plus tips and the minimum wage. In practice, the process appears complicated and reliant on employers acting promptly to pay the difference in the two, without error.

Source: Council of Economic Advisers available here.
Occupations shown are predominantly tipped.
But even the minimum wage ($7.25 an hour) is too low to meet a basic standard of living, as previous blogs have argued. So if a server wishes to earn above this level, the only way that they can do so is to earn tips to take their total wages over and above the minimum wage. But tips are irregular and never guaranteed. As a result, the median tipped wage ($10.64) is much lower than the median across all wages ($17.12) (Chart 1, left-hand diamonds). Tipping isn't working as a way to increase income. In poorer areas, where income of the clientele is itself low, tipped workers are even less likely to earn a decent amount.  

In addition, tipped jobs attract more women than men, exposing them to the irregularity of income streams that tipped work brings. Nearly three-quarters of tipped workers are women, even though they account for just under half of total employment (Chart 1, left-hand bars). Women may be attracted to these jobs because they offer flexible hours that allow them to work around childcare. But the low-paid nature of this work makes it more likely that women, particularly single mothers, will find themselves in poverty.

Given how inefficient, confusing and poverty-creating tipping can be, why not eliminate the practice altogether? Some restaurants have already instigated such a practice. Examples include increasing base salaries and making clear that tips are optional, or adding a service charge to all tables and taking the decision out of the customer's hands altogether. Bringing tipped workers onto the minimum wage would eliminate one obstacle in the path to ensuring better pay. The next would be to secure a substantial wage increase for all low-paid workers. In the meantime, customers can revert to tipping because they want to, not because they have to.  

Monday, August 11, 2014

I think, therefore I learn

Source: US Census Bureau
Minorities in the US have a much higher chance of living in poverty than Whites. This has not changed materially for 40 years (Figure 1). In other words, poverty persists.

To tackle the inequality debate head on, we need to address this racial divide, starting by shifting the mindset of minority children themselves. Children show a strong understanding of racial stereotypes from an early age. By 3, they are aware of ethnicity and gender. By 6, they begin to infer beliefs held by an individual. By 10, they are able to relate these beliefs to a more broadly-held stereotype (McKown and Weinstein, 2003). 
These stereotypes become self-fulfilling.

"Stereotype threat", as this is known, is a belief that an outcome is pre-determined by the student's background. Experiments have shown that reminding children that they are black before they sit a test reduces their subsequent score. The same is true for females and other minorities. It is no wonder then that Black and Hispanic students are more likely to drop out of high school, despite the overall improvement to completion rates (Figure 2). They think they are going to perform badly. Therefore, they do. 

Source: US Department of Commerce, Census Bureau,
Current Population Survey (CPS)
But children can be persuaded to change perceptions about themselves. This comes from a realisation that intrinsic ability is not fixed or pre-determined by their ethnic background. For example, middle-school minority students who were encouraged to believe that knowledge and intelligence are malleable - that they can be grown over time - showed an improvement in test scores (Good, Aronson and Inzlicht, 2003). First-year college students who received letters from older students about their initial struggles and the way in which they overcame them, in turn were less likely to fall behind. 

These interventions are not costly. They can be carried out within the school or college gates, by teachers or older students (as David Yeager at the University of Texas has shown). But they are exceptionally powerful. By breaking the perceived link between background and intelligence, it is more likely that minority groups will do better at school and develop the emotional and psychological tools they need to succeed in the workplace. In time, this could go a long way in breaking the inter-generational persistence of poverty. 

Tuesday, August 5, 2014

The Robin Hood method of tax and redistribution

Source: Spark Studio via Getty Images
Robin Hood famously took from the rich to give (back) to the poor, to the despair of the Sheriff of Nottingham. But could taxing high-earners actually increase economic well-being and decrease income inequality simultaneously? Could Robin Hood have been right? 

Economic theory tells us that our appetite is satiable. The first slice of pizza when you’re hungry is delicious but the fourth just gives you a stomach ache. And so it is with money. The marginal utility of money – the additional “happiness” we feel from an extra $1 in our pockets – falls as the total amount of money we have rises. $1 to the richest person means much less than $1 to the poorest. In fact, a 2010 study by Daniel Kahneman and Angus Deaton estimated that the average person requires around $75,000 to be happy. Additional income does not add to their emotional well-being.

Economic theory also tells us that those on lower incomes spend more of every $1 they earn than the rich. Their marginal propensity to consume is higher. All families need to meet basic needs. But for the poor, this takes up a higher fraction (if not all) of their income. This drives demand for goods and services. The rich, meanwhile, have a higher propensity to save.

Combining these two observations implies that taxing those on the higher incomes – say above $75,000 – and redistributing to those on the lowest could actually improve overall well-being. If the evidence is to be believed, those on high incomes would not be made worse-off.  And those on the lowest incomes would be made better-off.  

How might this redistribution occur, in a way that does not disincentive those on low incomes from working? One way is to make use of the negative income tax built into our system. Everyone who works has a tax-free allowance, the amount they can earn before they start paying income tax. But many people are unable to work sufficient hours or earn enough to meet their income tax threshold, so part of their benefit is unused. An income transfer could address this gap provided the person is working (the Earned Income Tax Credit effectively does this in the US on a smaller scale).

Opponents of higher taxes argue that those with a higher propensity to earn will have a lower incentive to work or invest in high-return activities because any income would be taxed away. As a result, economic growth would slow and we would all be worse-off. But a report by the Congressional Research Service, which provides unbiased research for the US Congress, found that there is little evidence of a relationship between income tax and hours, savings or investment. Furthermore, the IMF has demonstrated that lower inequality achieved through redistribution can in most cases produce more stable, durable growth rates. That is likely to be because it enables more of the population to participate fully in society. And neither Robin Hood nor the Sheriff could have argued that stable and durable growth was a bad thing.*