Purchasing Power, Taxes, and Wal-Mart

In order to make meaningful comparisons of standards of living in different countries, economists typically adjust incomes for purchasing power. For example, China's per-capita GDP is (if we put aside certain doubts for the moment) on the order of 10,000 yuan, or $1,240. But simply converting yuan to dollars at the market rate doesn't tell the whole story. Because prices are so much lower in China, the standard of living of a person in China making $1,240 per year is much higher than that of a person in the US making the same amount (for one, the person in China can put a roof over his head).

On a purchasing power parity (PPP) basis, China's per-capita GDP is about $5,600. Still not great, but it keeps people eating and indoors at night.

Of course, cost of living isn't necessarily uniform within a given country, and it varies quite widely within the United States. According to CNN Money's cost of living calculator, a bit over $20,000 will take you as far in Conway, Arkansas as $50,000 will take you in Manhattan. The biggest difference is housing, and the gap may narrow a bit if and when the bubble pops, but the fact remains that any given salary will give you a much higher standard of living in Conway than in Manhattan.

However, the Federal Government frequently fails to take this into account when designing policies. The income tax brackets aren't adjusted for purchasing power, nor are a great many deductions and tax credits. The mortgage interest deduction is factored in automatically, but this accounts only for differences in housing costs. The so-called "poverty rate" doesn't take into account purchasing power differences, nor, as far as I know (though I may be wrong in some cases) is eligibility for federal welfare programs based in any way on cost-of-living considerations.

The net result of all this is that measures currently in use tend to overstate poverty in areas with low cost of living and/or understate it in areas with high cost of living. Furthermore, those living in cheaper areas tend to receive better treatment from the Federal Government in terms of tax rates and welfare benefits, relative to what they would receive in a more expensive area with the same PPP-adjusted pre-tax income. A single person with no dependents making $20,000 per year and taking standard deductions faces a 4.6% effective tax rate compared to the 12.6% rate he'd face making $50,000 per year. I suspect that there are similar issues at the state level. Although intrastate purchasing power differences are probably narrower, they still exist, and I doubt that many states take these into account when determining tax liability and welfare eligibility.

So where does Wal-Mart come in? Well, opponents of Wal-Mart claim that Wal-Mart lowers wages in communities where it opens stores. And defenders of Wal-Mart argue that this isn't true, or that if it is, this is compensated for by reductions in cost of living. Let's suppose, for the sake of argument, that the latter is true, and that on average the two effects cancel each other out on a pre-tax and pre-welfare basis. If so, the net local effect of Wal-Mart entering a community is not neutral, but positive, because it reduces tax rates and increases eligibility for welfare benefits. Of course, at a national level this is a zero-sum game at best.

That said, I'm not at all convinced that this is true, mostly because I'm not sure about the premise that the presence of a Wal-Mart store lowers nominal wages.

Another thought related to Wal-Mart and purchasing power: Is Wal-Mart underrepresented in areas with high cost of living? If so, how much of the difference between Wal-Mart's wages and the industry average is due to this? It would be interesting to compare Wal-Mart's wages to other retailers' on a PPP basis.

Also, I used Conway, Arkansas in the example above because Arkansas is the state with the lowest cost of living. It's also the home of Wal-Mart's corporate headquarters. Coincidence, or another component of Wal-Mart's culture of cost-cutting?

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On the downside, Conway is

On the downside, Conway is in a dry county (I spent one of my collegiate years there). So everything has tradeoffs.

The most important change is

The most important change is to fix zoning laws so more housing units can be built for less money in the expensive areas.