with Virgil Henry Storr and Christopher J. Coyne

Writing recently in the Wall Street Journal (“How Big Government Co-Opted Charities,” July 17, 2013) James Piereson aptly suggests that one of the fundamental questions to consider in the coming fight over the charitable deduction is whether it is possible to wean the not-for-profit sector from its dependence on the welfare state.

Philanthropists of various stripes have been coming together in recent months around at least one shared conviction, that the charitable deduction is sacrosanct. There seems to be little will to launch a more serious reconsideration of the political, economic, and social rationales that gave rise to the existing law of the charitable deduction and whether reform is needed.

In fact, there is a new defensive effort afoot on behalf of the charitable status quo, which proposes that we need the charitable deduction because philanthropy is actually an engine of economic growth. The leader of this charge is the Johns Hopkins University Center for Civil Society Studies, headed up by Lester Salamon. For well over a decade, Salamon’s empirical research and his portrait of The State of Nonprofit America have been largely unchallenged and have lent themselves to the never ending call for government to increase social welfare spending, most of which, of course, is deployed by the same charitable sector Piereson is describing.

In 2012, just as the Obama administration was winding down the first spending flurry of the American Recovery and Reinvestment Act (2009), Salamon and his colleagues published a report that offered an account of nonprofit employment from 2000-2010, with “special focus on how nonprofit employment fared during the 2007-2009 recession.”

In the aftermath of stimulus spending reaching into the hundreds of billions of dollars, much of which went to services ultimately provided by nonprofit entities, the report claimed that “nonprofits have been holding the fort for much of the rest of the economy, creating jobs at a time when other components of the economy have been shedding jobs at accelerating rates.”

Other apologists for the charitable status quo are now picking up the theme. Numerous researchers are undertaking similar studies of nonprofit employment trends in other states, and as a 2012 report from The Philanthropic Collaborative put it: “the nonprofit sector is an economic force nationwide.”

We should not take such claims at face value. The Keynesian premises of these studies, which assume that government spending on social programs serves as an economic stimulant, are barely veiled, and they tell us much about the way our welfare state and its nonprofit arm work. Nevertheless, they don’t tell us much about why we need a charitable deduction, the preservation of which would seem on these premises to be merely to sustain an inefficient way of redistributing taxpayers’ dollars to the social welfare goals defined from Washington. Why keep up the pretense with this shell game?

Is there something deeper in the current defense of the charitable deduction, something that has to do with the very nature of a self-governing society? To find out, we have to ask whether conceptual frameworks that justify and seek to sustain expansive welfare state spending, such as Salamon’s theory of third-party government, can really tell us much by way of interpreting the importance of America’s long-standing traditions of charitable giving and voluntary association in contributing to human flourishing.

The question of philanthropy’s role in promoting economic prosperity is a practical question that is important to explore, but there are significant problems with the way this question is now being posed by defenders of the charitable status quo.

In the first place there is the problem that many of the recent efforts to analyze the relationship between philanthropic activity and economic growth have been motivated by a desire to convince lawmakers to sustain special privileges granted to not-for-profit entities through our tax code. The Philanthropic Collaborative (TPC), for instance, is a nonpartisan entity that focuses on demonstrating philanthropy’s economic impact. TPC makes the remarkable claim, based upon a recent study by Robert Shapiro and Aparna Mathur, that each dollar spent on charitable activity can generate over eight dollars in direct economic benefits to communities.

 Shapiro and Mathur review current efforts to calculate return on investment (ROI) from nonprofit activity and charitable giving and then undertake their own analysis. Admitting the difficulties of calculating such benefits, they nevertheless plow ahead to conclude: “based on our analysis of the jobs and incomes generated directly and indirectly by the activities of private foundations, these activities generate substantially greater revenues than those foregone by the tax-exempt status of foundations (3-4).”

Much more examination is needed to understand how these “social and economic returns on investment” are calculated and reported. For example, one way Shapiro and Mathur calculate benefits involves looking at how much foundation support a charity received and then how much revenue the charity earned from fees or tickets or other commercial operations. Another calculation involved comparing the service costs of charitable art instruction ($13) with the fee for such instruction at a nearby commercial institute ($150) and then utilizing the difference to calculate a 14.3:1 ROI on foundation investment.

Presuming we could accept such calculations at face value, which is profoundly problematic, we might conclude (as the authors imply) that these benefits may in fact derive mostly from the privileged, that is, tax-exempt, status of philanthropic entities.

If such community benefit can be derived from tax-exemption, might we argue that commercial entities generating economic growth should likewise be exempt from taxation? Or, if philanthropy is just that good at multiplying the value of the dollar, perhaps we should invest all our pension funds directly in philanthropy?

In the end, the fundamental shortfall of such studies is a failure to understand the social function of economic calculation itself, which is not primarily to rationalize how much return can be gleaned from a specific investment (which is primarily an accounting problem) but to provide information signals across society about the optimal use of scarce and specific resources given a wide array of alternative potential uses. “Calculating” that foundation investment in the arts generates a 9:1 return on investment can simply tell us nothing about whether arts funding is the best use of the philanthropist’s (or the capitalist’s) dollars relative to how else those resources may have been used.

To defend philanthropy through attempts to calculate direct and indirect benefits on the basis of such things as employment data and artificial price comparisons is rather like arguing that commodity agriculture enhances the economy because it increases the demand for sewage infrastructure and employment. In the end, Gross Domestic Product and its cousins are simply poor guides to economic investment or philanthropic giving and even poorer indicators of human flourishing.

The presumption that we can collectively plan social welfare and calculate the returns on our plans diverts us from grappling with better ways to understand the role of philanthropy in a free society. Such understanding will require us to bring to bear the economic way of thinking, but it will also invite us to reflect on what it means to be human. Humans are those beings who truck, barter, and exchange. We are also those beings who love, share, and give. To the extent that our philanthropic impulses exist in the modern world alongside our creative and acquisitive impulses, both markets and philanthropy may best be seen as realms of human action in which we may cooperate with one another to deepen community ties as well to grow more prosperous, more cosmopolitan and more like the Good Samaritan, capable of befriending and aiding strangers rather than waging war upon them.

Is the job of philanthropy in our society primarily to generate economic benefits? Is it to lobby in support of increased public expenditures—whether indirectly through tax deductions or directly through government grants and contracts—for charitable entities willing to align themselves with the ends of the welfare state?

Defenders of the charitable status quo have been quick to wave the banner of tradition— frequently appealing to Alexis de Tocqueville’s famous observation that “Americans of all ages, all conditions, all minds constantly unite.” Few have considered as seriously the cautionary tale that the French traveler was painting about the fragility of our beneficent democracy. We need to look more closely at the fascinating history of American philanthropy during the early Republic and antebellum eras, as well as at the troubling history of industrial-era foundation building and influence.

We must also consider more carefully the “tradition” of the charitable deduction itself through the lens of political economy, which can plausibly be construed as largely a Progressive concession to the shadow of liberty that remained once a federal income tax was declared constitutional. With taxpayer funds increasingly flowing into Washington, the proceeds of industrial wealth joined forces with the administrative state to pursue a form of social control that has largely fulfilled Tocqueville’s prophetic warning about the possibility of America’s new birth of constitutional freedom to attain only the stunted growth of soft despotism. Peter Buffett seems right to call for a more careful look at the “charitable-industrial complex” (New York Times, July 26, 2013).

The nonprofit sector today grasps both at its Tocquevillean heritage and at the charitable deduction as necessary to its sustenance. But this is to forget that the vibrant civil society Tocqueville described derived from the beneficent voluntarism of America’s people not from the largesse of big philanthropy or a centralized welfare state. It is also to yield to the schizophrenia of grounding itself on two incompatible analyses of the political economy of philanthropy.

The most important question before us is not the empirical question of whether our charitable sector presently survives on welfare state allocations—as both Salamon and Piereson observe, it largely does. What we need to understand whether there is value in the charitable deduction, and in tax-exemption of philanthropic enterprises in general, is to devote greater attention to the normative question of whether a charitable sector grown dependent on the welfare state can truly promote a free, humane, and prosperous society.

We have a long way to go, but we must recover a conviction that philanthropy’s primary role in the progress of liberty and prosperity is not to take over the role of markets in creating wealth but to help people pursue the broader journey to becoming fully human. This is a journey fueled, in the words of Walter Lippmann, by an “energy which has moved men to rise above themselves, to feel a divine discontent with their condition, to invent, to labor, to reason with one another, to imagine the good life and to desire it.” This is an energy that does not blindly defend the status quo, but holds it open for reexamination.

We must endeavor to understand how our exchange economy works, and we should explore how philanthropy can help it work better, but to reduce our defense of the importance of philanthropy to its role in promoting full employment or growing the GDP is to diminish the variety of higher aspirations in the dimensions of faith, hope, and love to which our liberty and our prosperity are best dedicated.


Virgil Henry Storr is a senior research fellow and the director of graduate student programs at the Mercatus Center as well as a research professor of economics at George Mason University. Christopher J. Coyne is the F. A. Harper Professor of Economics at George Mason University and associate director of the F. A. Hayek Program for Advanced Study in Philosophy, Politics, and Economics at the Mercatus Center.