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Wednesday, February 20, 2019

4 Observations on Elizabeth Warren’s Universal Child-Care Proposal

The presidential hopeful's plan would fundamentally change the types of care available or used in the sector.

Image Credit: Flickr-Edward Kimmel | CC BY-SA 2.0

Senator Elizabeth Warren is right: Child-care services in America can be extremely expensive.

In certain areas, child-care can be difficult to find at all. High prices have perniciously regressive effects on low-income families, causing them to miss job opportunities, use unlicensed relatives to care for their children, or else forego high amounts of their hard-earned income.

So the presidential candidate’s new promise of universal child-care subsidies will no doubt resonate with many families. She would have the federal government cover the costs of child-care from birth to school age entirely for any family earning below 200 percent of the federal poverty line, provided they use government-approved local providers. Federal funding would also be available above that, with a cap on out-of-pocket spending on child-care at 7 percent of any family’s income. According to Warren’s explanation, this would come coupled with providers being held to government educational standards and a desire to push up pay for child-care workers to levels seen for public school teachers.

This would have dramatic consequences for the child-care sector. A few observations:

  1. Warren’s plan will significantly reduce out-of-pocket costs for many families. It represents a huge new subsidy. Take care for four-year-olds as one example; at the moment, data from Child Care Aware of America show just two states (Alabama and Mississippi) have average full-time care costs below 7 percent of median income. For infants, no state has average costs below 7 percent of median income. For families with two or more children in these care settings, the subsidy will be massive. Such a large, universal subsidy will bring significant deadweight (people using the scheme who would otherwise have paid for their own care, anyway). But it is so generous that it will encourage many new users of child-care, too.
  2. This is significant because state-level government regulations—not least on staff to child ratios and qualification requirements for carers—currently make providing child-care more expensive. This reduces the number of child-care facilities available in low-income markets and increases prices for families. Warren’s subsidy response amounts to a classic case of government restricting supply through policy on the one hand and then labeling the resulting high prices a “market failure” that needs to be corrected. In fact, Warren’s plan would worsen the supply problem through its promise to raise pay rates for carers substantially. This would restrict supply further while the subsidies induce demand, raising underlying market prices—higher prices now overwhelmingly paid by taxpayers.
  3. In the U.K., child-care subsidies drove providers in some areas out of business. Why? The government-provided subsidy rates to deliver “free” care were often lower than market prices, meaning providers had to cross-subsidize government-guaranteed places by charging more for unsubsidized families. As “free” care expanded, the opportunity to engage in this cross-subsidization fell, and some companies found the government-funding rate uneconomic as it took over more of the sector.
  4. In the U.S., the average cost of child-care varies dramatically by state. For a four-year-old, the cost of full-time center-based care ranges from $5,061 in Alabama right through to $18,657 in D.C. Warren’s plan would cap the proportion of income any family paid on child-care. But no government would put taxpayers on the hook for a blank check for any family’s spending habits. Otherwise, providers would have every incentive to provide extremely luxurious care on the basis that taxpayers would foot the bill. Instead, the federal government would either likely try to fix rates to prevent over-spending (risking big distortions in certain markets through de facto price controls, as seen in Britain), control what services child-care facilities provide very prescriptively, or else cap the overall amount any family could spend while still benefiting from the subsidy.

In short, instead of reducing the costs of providing care through much-needed supply-side reform, this new demand-side scheme will further drive up the market price of child-care, with taxpayers on the hook now for increased use of formal care.

Given the cost implications of capping the per income amount spent by any family, the federal government would inevitably have to circumscribe the nature of care, fix the rates taxpayers would finance, or cap the total amount families could spend on child-care within the scheme. These would fundamentally change the types of care available or used in the sector.

This article was reprinted from the Cato Institute.