Transfers, social safety nets and economic growth

The role of social safety nets in the form of redistributional transfers and wage subsidies is analyzed using a simple model of criminal behavior. It is argued that public welfare programs act as a crime--preventing or disruption--preventing devices because they tend to increase the opportunity cost of engaging in crime or disruptive activities. It is shown that, in the presence of a leisure choice, wage subsidies may be better than pure transfers. Using a simple growth model, it is shown that it is not optimal for the government to try to fully eliminate crime. The optimal size of the public welfare program is found and it is argued that public welfare should be financed with income (not lump--sum) taxes, despite the fact that income taxes are distortionary. The intuition for this result is that income taxes act as a user fee on congested public goods and transfers can be thought of as {\it productive} public goods {\it subject to congestion}. Finally, using a cross-section of 75 countries, the partial correlation between transfers and growth is shown to be significantly positive.