Why the Introduction of a Universal Basic Income is Problematic

Financing such an action would lead to major financial disruption in Germany

Michael Frenkel - February 15, 2022

Tips for practitioners

The concept of a universal basic income has already existed for 200 years and continues to be a relevant topic in academia, at political debates, and during electoral campaigns. The idea of adopting such a concept has entered the discourse both in and outside of Germany.

Arguments for introducing a universal basic income

Those advocating a universal basic income emphasize that its adoption would be the catalyst for a large number of positive developments: For example, a basic monthly income of 1,200 euros per adult (with roughly half this amount calculated for minors) would lead to a reduction in poverty, a more humane treatment of those in need, and a reduced crime rate. It could lead to an improvement in physical and mental health and an increased sense of satisfaction for people who previously earned a rather limited income. Additionally, a universal basic income would allow people to take more risks, e.g., starting one’s own business. It would also lessen the effects of the job losses expected to be caused by artificial intelligence and robots.

Potential financial consequences after the introduction of a universal basic income

In Germany, for example, it is apparent that the introduction of a universal basic income would come with several problems, whether financial or otherwise. In the amount requested by the measure’s advocates, it would require a considerable redistribution of income, which could have negative effects on the labor and capital markets.

When asked about the possible ways to finance such an undertaking, advocates often argue that the introduction of a basic income would allow for the elimination of several current social benefits. This, in turn, would reduce the need for financing. The study outlines three scenarios, each varying in the extent to which existing social benefits are reduced.

In the first and least extreme scenario, long-term unemployment benefits, child benefits, and payments made to students are eliminated. In the second, more comprehensive scenario, the basic personal income tax allowance is additionally removed. The final, rather drastic scenario witnesses the cancelation of all pension payments, thus reflecting a complete elimination of all social benefits.

No matter how radical the measures taken, in none of these three scenarios could the basic income be fully financed through the elimination of social benefits. As a result, massive tax increases would be unavoidable. The study examines the extent to which income tax, value-added tax, wealth tax, financial transaction tax, and environmental taxes would need to be increased to generate the necessary funds. Depending on the government’s choice of scenario, financing the introduction of a basic income of 1,200 euros per adult (and half per minor) would require a tax increase between 50 and 100% over the current standard. This would lead to a substantial redistribution of income. Additionally, depending on its design, a basic income could lead to inflation, which would significantly erode its purchasing power. The consequences could be even more problematic if its introduction were to motivate people to work less.

Alternatives to a universal basic income

But then, what alternatives to a universal basic income exist? One alternative would be to simply set the basic income lower. Assuredly, this raises the question of whether recipients would then be able to live a dignified life, i.e., that which advocates are calling for. At any rate, this would make its implementation easier to finance, as previous model calculations have shown. Regardless, this softened approach would also be inefficient. A second alternative would be to avoid a universal transfer of funds, instead opting to develop programs designed specifically to reduce poverty. In this case, there would be fewer transaction costs and fiscal distortions. This would mean that such transfers come with conditions. Notably, those conditions would render the transfers more economically efficient. They would also be more politically accepted and perceived as fair by the general public. From an economic standpoint, a preferable alternative would be to have the government issue funds to society’s most affected by poverty and, simultaneously, further invest in public education, infrastructure, and healthcare. This would be a more market-oriented way of improving the living standards of those in need while also promoting economic growth.

Tips for practitioners

  • As an active political decision maker, make sure that any universal basic income introduced is set at a standard lower than advocates initially demand. Otherwise, society may see significant financial disruption and income redistribution.
  • Support calls for the proposed concept to become less universal and more focused on people who are truly in need.
  • Emphasize that increased spending on education, research, infrastructure, and healthcare is a suitable way of achieving a long-term reduction in poverty—and that efforts made in that direction would also improve the living situations of those in need.

Literature reference

  • Frenkel, M. (2022): Why an Unconditional Basic Income is Problematic in Germany, in: Journal for Markets and Ethics, forthcoming.

Author of the study

Professor Michael Frenkel

Professor Michael Frenkel is Associate Dean for International Relations and Professor of Macroeconomics and International Economics at WHU – Otto Beisheim School of Management. He is also the Director of the Center for EUropean Studies (CEUS) at WHU. His extensive international experience stems from working for several years as a consultant with the International Monetary Fund and from visiting professor positions held at Harvard University among others. Professor Frenkel also worked as a consultant to the World Bank and the European Commission. For many years, he was responsible for the economic education of young German diplomats with the Ministry of Foreign Affairs. Professor Frenkel has more than 100 publications in the fields of macroeconomics and international finance, and he serves on the editorial board of the Global Finance Journal, the International Journal of Business, the Journal of Economics and Statistics, and the Journal of Markets and Ethics.