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Child Cash Benefits, Hidden Unemployment, And 401(k) ‘Leakage’

inthepapersEvery Monday, the National Bureau of Economic Research, a nonprofit organization made up of some of North America’s most respected economists, releases its latest batch of working papers. The papers aren’t peer-reviewed, so their conclusions are preliminary (and occasionally flat-out wrong). But they offer an early peek into some of the research that will shape economic thinking in the years ahead. Here are a few of this week’s most interesting papers.

Title: “Child Cash Benefits and Family Expenditures: Evidence from the National Child Benefit”

Authors: Lauren E. Jones, Kevin S. Milligan, Mark Stabile

What they found: Families receiving cash benefits from the government see their children’s health and educational outcomes improve, both because they spend more on items like food and books and because they spend more on things that reduce stress, such as on recreation. One further consequence of this stress reduction is that recipients spend less on alcohol and tobacco.

Why it matters: Cash benefit welfare programs — like the Earned Income Tax Credit in the U.S. — provide unconditional cash benefits to families and have been linked to improved math and reading scores for children, as well as to better physical and mental health outcomes. But economists are divided over what causes these improvements. Some give the credit to a “resources channel,” the direct benefit of having more money to spend on tuition, food, books and health care — items directly related to the outcomes later measured. Others argue the improvements are created through the “family process channel” — meaning the benefits come from spending on items that are not direct inputs to a child’s health and education, such as housing, transportation and recreation. In this theory, the idea is that more money leads to reduced stress and fosters an environment that helps the child succeed. This paper looked at Canadian data tracking families for over a decade and found evidence supporting both channels. What’s more, families receiving cash benefits from the government were less stressed and spent 6 cents less on tobacco and 7 cents less on alcohol for every dollar received.

Key quote: “Our results fit well with several recent papers that show that alcohol and tobacco consumption may be tied to financial hardship. … A decrease in spending on alcohol and tobacco products is certainly consistent with a decline in the overall stress levels in the household as both alcohol and tobacco are often used to relieve stress.”

Data they used: Twelve years of data from two Canadian expenditure surveys: the Survey of Household Spending and the Survey of Labor and Income Dynamics.

Title: “Labor Market Slack and Monetary Policy”

Authors: David G. Blanchflower, Andrew T. Levin

What they found: The “true” unemployment rate should be viewed as closer to 7.5 percent, not 5.5 percent, if underemployment (part-time workers wanting more hours) and “hidden unemployment” (individuals who quit looking for work) were included.

Why it matters: The unemployment rate has been steadily declining in recent years, down to 5.5 percent in March 2015. That is not far off from the long-term “natural rate of unemployment” — the level most economists project to be consistent with healthy economic growth and stable prices. But the narrowing of the “unemployment gap” — the difference between the actual and optimal jobless rate masks two big problems in the labor market. First, the millions of workers who have left the labor force are excluded from the unemployment rate calculation, and their numbers have grown as the unemployment rate has declined. And second, many workers are underemployed — working part-time jobs when they really want full-time work. Factoring these workers in produces a “true” employment gap that totals 3.3 million full-time jobs as of 2015, which would make the unemployment rate nearly 2 percentage points higher, or about 7.5 percent. A higher unemployment rate would likely affect monetary policy: The Federal Reserve’s interest-rate policy is based in part on the labor market. The authors demonstrate that if the Fed were to use this more comprehensive employment tally to guide its policy, it would be more inclined to keep interest rates lower.

Key quote: “Macroeconomists have generally focused on the gap between the conventional unemployment rate (that is, the incidence of people who are out of work and actively searching for a job) and the ‘natural rate of unemployment’ judged to be consistent with the balanced-growth path. In the wake of a severe recession and a sluggish recovery, however, the conventional unemployment gap can be a relatively poor or even misleading indicator of labor market slack.”

Data they used: Data on unemployment, wages, and other labor-market metrics from the Bureau of Labor Statistics and the Congressional Budget Office.

Title: “Borrowing from the Future: 401(k) Plan Loans and Loan Defaults”

Authors: Timothy (Jun) Lu, Olivia S. Mitchell, Stephen P. Utkus, Jean A. Young

What they found: One in five individuals with a 401(k) has an outstanding loan from the account. Total “leakage” due to 401(k) loan defaults totals about $6 billion per year.

Why it matters: While the primary purpose of retirement savings accounts is to save for — wait for it — retirement, people also tap into them to cover short-term financial needs. Drawing on a massive administrative data set, this paper shows that, at any given time, 20 percent of employer-provided 401(k) accounts have an outstanding loan balance. And over a five-year period, 40 percent of account-holders will tap into their savings for a loan. While 90 percent of these borrowers eventually repay, those who quit a job while they have an outstanding loan almost always default. And this “leakage” — defaults on 401(k) account loans — totals about $6 billion annually, much more than previous studies have estimated. The situation varies widely depending on the employer’s rules, however; when employees are allowed to take out multiple loans from their 401(k) fund, their probability of doing so doubles. This suggests that tweaking employer policies — by limiting borrowing to a single 401(k) loan, for example — could prevent leakage.

Key quote: “We do, however, find that limiting the number of loans to a single one would be likely to reduce the incidence of borrowing and the fraction of total wealth borrowed, thereby reducing the impact of future defaults. Another option might be to limit the size and scope of loans in an effort to reduce the total dollars of loan default leakage.”

Data they used: Restricted data from Vanguard on individual firms and 401(k) plan participants, with identities masked.

Andrew Flowers wrote about economics and sports for FiveThirtyEight.