Abstract

Standard economic analysis suggests that when the budget for redistribution is fixed, income transfers should be targeted to (i.e. means-tested for) those most in need. However, both political scientists and economists long have recognized the possibility that targeting might undermine political support for redistribution. We formalize this recognition, developing a simple economy in which both non-targeted (universally received) and targeted transfers are available for use by the policymaker. When the budget can be taken as fixed, full use of the targeted transfer is optimal. However, when we allow the budget to be determined through majority voting (with the policymaker choosing the share of the budget to be spent on each type of transfer), the optimal degree of targeting is zero. More strikingly, we show that if the policymaker naively ignores political considerations, the resulting equilibrium actually minimizes not only social welfare, but also the welfare of poor and middle income agents. Thus political considerations cannot generally be regarded as simply another “small" extension of standard models. As a result, future models and actual policies advocating the use of targeting through means-testing should account explicitly for the role of political considerations.