Exercises: The welfare state and redistribution

Explain what the welfare state is and name four services or benefits it guarantees (healthcare, education, pensions, unemployment benefit, care support). Describe one that you have used this week and another that someone in your family uses, even if you do not realise it.

Explain in your own words what redistribution is: how tax money comes more from some pockets than others and returns as services for everyone and support for those who need it most. Illustrate it with a concrete example (a school meal grant, an operation in public healthcare, a neighbor's unemployment benefit).

The figure shows the journey of money in the welfare state: households and businesses pay taxes and contributions, the State collects them and returns them as services and benefits. One of the outputs is unlabelled.

1. a) State two items that could go in the empty box (think about public services you know: roads, security, culture, justice) and explain why they fit.
2. b) Explain in your own words the complete circuit shown in the figure and in what sense this circuit "redistributes" income.

Household A earns $\$80\,000$ per month and pays $\$16\,000$ in total taxes and contributions; Household B earns $\$20\,000$ and pays $\$2\,000$. Both use state schools, healthcare, and public streets equally.

1. a) Calculate what percentage of its income each household pays.
2. b) Explain in what sense the system redistributes: who puts more into the common pot and who receives more relative to what they have.

In the imaginary country of Longevia, pensions operate on a pay-as-you-go basis: current workers' contributions pay for current pensions. There are $1,000$ workers who each contribute $\$4\,000$ per month, and $400$ pensioners.

1. a) Calculate the average monthly pension that the system can pay out.
2. b) Twenty years later, there are the same $1,000$ workers contributing the same amount, but $800$ pensioners: calculate the new average pension.
3. c) Explain the challenge of population ageing and name two possible responses (increasing contributions, working for more years, arrival of migrant workers, supplementing with private savings).

In $1990$, there were about $5$ working-age people for every retired person in Mexico; today there are about $3$ remaining, and this is expected to reach $2$.

1. a) Explain what this trend means for the pay-as-you-go pension system (where today's workers pay today's pensions).
2. b) Propose two measures to sustain the system and comment on a downside of each (raising taxes or contributions, raising the retirement age, attracting workers from abroad).

Two election manifestos: (A) raise taxes on high earners to hire more doctors and reduce waiting lists; (B) cut taxes for everyone and let whoever wishes pay for private health insurance.

1. a) Summarise what society gains and loses with each manifesto, and who benefits or suffers most in each case.
2. b) State your position using the unit's concepts: redistribution, universal services, and freedom of choice.

In the country of Desigualia, the $80/20$ ratio is $8$ (the richest $20\ \%$ earns $8$ times more than the poorest $20\ \%$). To reduce it, the Government is considering two alternative economic proposals:

• Proposal A: Increase the Minimum Interprofessional Wage by $25\ \%$ and keep current tax rates frozen.

• Proposal B: Maintain market-determined wages and implement a more progressive personal income tax (IRPF) brackets to fund a guaranteed subsidy for incomes below the poverty line and full study grants.

1. a) Predict the impact of Proposal A on inequality: what immediate positive effects and what possible economic risks (in low-skilled employment or prices) could it generate?
2. b) Analyze how Proposal B acts on inequality: why do economists distinguish between redistributing current income (in the short term) and leveling starting opportunities (in the long term)?
3. c) Justify which of the two proposals reduces the social gap more sustainably in the long term without jeopardizing public revenue collection.

A freelance professional who bills $\$75,000$ per year working from home on their computer claims: "I have private health insurance, I don't have children, and I work for foreign clients. Therefore, the State withholding $35\ \%$ of my income in taxes is robbery because I receive nothing in return from public services."

1. a) Rebut their argument by demonstrating how their economic activity and income depend, directly and indirectly, on public goods and institutions funded by taxes that they take for granted.
2. b) Use the principles of fiscal progressivity and economic capacity to justify why they should contribute a higher proportion of their income than a person with a salary of $\$16,000$.
3. c) State under what circumstances this citizen would have a legitimate economic grievance regarding the tax system (for example, in relation to tax fraud or the inefficiency of public spending) and analyze what effect that citizen perception has on a country's tax morale.