Social assistance for individuals below retirement age, usually called
welfare, is mainly a provincial responsibility in Canada. The details of the
programs vary considerably across the provinces even though they are
partly financed by transfers received from the federal government under
the CST.
One important problem with welfare occurs with what are called poverty
traps. Poverty traps occur whenever the tax-and-transfer system results
in individuals having very little incentive to increase their pre-tax income
because such an increase would make them ineligible for some financial
benefits and might even make them worse off overall. Current research
on the Canadian tax system shows that some Canadian families with
incomes of approximately $20 000 are in this situation. The presence of
such poverty traps reflects a tax-and-transfer system that has been
modified in many small steps over many years, the result of which is a
plethora of programs often working at cross-purposes. The elimination of
poverty traps requires that the tax-and-transfer system be examined in its
entirety rather than on a piecemeal basis. Applying Economic Concepts
1 discusses one possible reform of the tax-and-transfer system that
maintains progressivity of the system while eliminating poverty traps.
This is the idea of the “negative income tax,” which embodies a
guaranteed minimum level of income.
Applying Economic Concepts 18-1
Poverty Traps and the Negative Income Tax