When policymakers create or expand regulations, they often assume that the cost of compliance falls on businesses. While businesses do shoulder many of the burdens of regulation, consumers ultimately end up paying for regulations through higher prices or decreased competition. But these costs do not affect all consumers equally—they disproportionately fall on low-income households. Mercatus Center senior research fellow Patrick McLaughlin testified on this point last month for the House Judiciary Committee. In what follows, he shares his finding from his latest research and explains why this undesirable effect of regulation occurs:
Jared Meyer: Why do the costs of regulation fall more heavily on low-income households?
Patrick McLaughlin: The regressive nature of regulations’ effects on prices is driven primarily by two factors: First, some industries are more regulated than others, and goods produced by those heavily regulated industries are more expensive as a result. Second, household spending patterns differ across income segments in a way that means that low-income households spend a greater proportion of their income on goods with high “regulatory premiums,” compared to high-income households.
“Households in the bottom 20% spend a 12% greater proportion of their incomes on goods produced by the 25 most heavily regulated industries.”
Heavy regulation is associated with higher prices, so we would expect to see goods made by heavily regulated industries bear relatively high regulatory premiums. In other words, the price effect of regulation differs across industries, because the level of regulation also differs. And whether by accident or otherwise, it just works out that those same goods with high regulatory premiums occupy more space, in percentage terms, on low-income households’ budgets than on high-income households’ budgets.
JM: Can you give some examples of goods that low-income households spend a much greater proportion of their incomes on than do high-income households? Do the industries that provide these goods tend to face higher levels of regulation?
PM: Low-income households typically devote relatively large proportions of their income to necessities such as housing and electricity. Telephone services also represent a relatively large percentage of low-income households’ budgets, as do automobiles and gasoline. Conversely, while high-income households also purchase these goods, they devote a larger proportion of their budgets to discretionary items.
And yes, these goods that take up more of low-income households’ budgets are more heavily regulated, but it is also the case that the least heavily regulated goods are purchased more by high-income households. Compared to the households in the top 20 percent of the income distribution, households in the bottom 20 percent spend a 12 percent greater proportion of their incomes on goods produced by the 25 most heavily regulated industries. In a near mirror image, high-income households spend a roughly 14 percent greater proportion of their incomes on the 25 least heavily regulated industries.
JM: You find that regulations also increase price volatility. Why does this harm low-income households more than high-income households?
PM: Regulations are also positively correlated with price volatility. This is a bigger problem for low-income households for a couple of reasons. For one, if you are making enough money to be able to spend with some discretion, price volatility does not harm you as much—you are able to adjust your discretionary spending on some items if others were suddenly costlier. But low-income households do not have as much flexibility.
Second, budget-constrained households have to plan their spending more carefully, and price volatility makes planning more difficult and uncertain. Low-income households are not only more budget constrained, but they also spend about 15 percent more of their budgets on goods with the highest price volatilities than do high income households.
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This piece originally appeared in Forbes