Treasury Dept. Report Highlights Market Failures in America’s Child Care System and How Build Back Better Can Help

The Department of Treasury released the Economics of Child Care Supply, a report analyzing America’s existing child care system that demonstrates how the private, market-based system fails to meet the needs of many families. Under the current system, parents are unable to afford high child care costs, providers operate on razor-thin margins maintaining slim profits, and child care workers earn low wages and have high turnover. Furthermore, underinvestment has worsened families’ access to high-quality child care options and resulted in a bleak current state of affairs, in which early childhood education is unaffordable, inaccessible, and of low quality for many families. After an examination of the child care market and its inefficiencies, the report concludes by highlighting how policies within the Build Back Better Act can mitigate market failures and build a child care system that truly works for the families who need it. 

Significant Benefits Yet Insufficient Investment 

The benefits of high-quality and inclusive early childhood education are well documented and have lasting impacts on the lives of children, parents, and the economy at large. Investments in early education are an investment into the vitality of the American economy as children who participate have healthier development, do better in school, and are less involved in crime, all of which decrease healthcare and criminal justice expenditures. Even despite the well-documented and widespread benefits of early care and education, however, the U.S. reports among the lowest amount of investment compared to other nations. The U.S. invests fewer public dollars in early childhood education and care relative to gross domestic product (GDP) than almost all developed countries – ranking 35th out of 37 countries tracked by OECD. 

Likewise, early education is an investment that benefits parents. High-quality programs allow parents the option to work, generating positive nationwide economic benefits. A 2018-2019 National Survey of Children’s Health reported that the parents of two million children under the age of five “had to quit a job, not take a job, or greatly change their job because of problems with child care.” Difficulty accessing child care can influence whether mothers stay in the labor force. Aggregate U.S. female workforce participation has remained flat since 2000, while other OECD countries have advanced, and child care clearly plays a key role in supporting their participation. COVID-19 has worsened such child care disruptions, and a recent FFYF poll found that one out of every three respondents said they knew someone who had to cut work hours or forgo work entirely because of the cost and/or availability of child care. 

The Market for Child Care and Early Childhood Education in the U.S.

In 2016, 40% of children under age 6 were cared for solely by their parents, and the remaining 60%– nearly 13 million children – received on average 30 hours of care weekly from a non-parent. The child care services market in the United States is significant. 1 in every 110 workers and 1 in every 55 female workers make a living in early childhood education and care, and the total value of the sector was estimated to be $60 billion in 2019 – about 0.25% of GDP, although many children were cared for by unpaid nonparental adults. 

According to the report, the child care system is a “highly fragmented industry populated by small, single-establishment non-profit and for-profit firms, most of which struggle to make ends meet.” This decentralized patchwork of providers ranges from family, friend, and neighbor care, to child care centers, to family child care homes. While there are some for-profit chains, the 10 largest providers care for less than 6% of the children. Young children are therefore cared for in a variety of settings, such as through home-based care and center-based care.

Home-Based Care 

• 65% of children under age 3 are in home-based child care, including 42% in relative care. 
• 31% of 3-5-year-olds are in home-based care. 

In home-based care, children receive services from a caregiver operated out of a private home. Home-based care tends to offer more flexible hours, which is conducive to parents who work nontraditional hours. In 2019, 5.2 million child care providers cared for 12.3 million children under the age of 13 in their homes. Of the home-based child care providers, 91,000 were listed providers (such as a licensed family child care home), 1.1 million were unlisted paid providers (such as nannies), and 4 million were unlisted unpaid providers (such as family or friends who may or may not live with the children they care for). 

  The vast majority of home-based child care providers are unlisted and unpaid (such as family and friends)

Child Care Centers 

• 35% of children under age 3 are in center-based care. 
• 69% of 3-5-year-olds are in center-based care. 

Many children attend child care centers, which include non-profit and for-profit child care centers, school programs, summer camps, private preschools, and programs operated by religious organizations. Child care centers are usually larger and more expensive than home-based care. 

Public Programs 

A number of federal programs provide child care funding streams or direct services aimed at providing assistance to low-income households and children with disabilities or developmental delays. These include the Child Care and Development Block Grant (CCDBG), Head Start, and the Individuals with Disabilities Education Act. Additionally, many states offer early care and education programs.

Basic Economics of Child Care Supply

The structure of the U.S. child care economy is crumbling. There are several “market failures” that can help explain why the current system fails to provide adequate child care options for many families. 

1. One major market failure is that parents are asked to pay for child care when they can least afford it, a phenomenon economists label as “liquidity constraints.” On average the costs of child care are largest in the five years after the birth of a family’s first child. This prevents many parents from being able to invest in child care, even when it will produce significant long-term benefits. In fact, the median family will have over three times as much wealth once their first child turns sixteen than in those early years. While some parents may desire taking out loans to pay, there are no known loans available for child care, even though, like paying for college, it is likely to have a return on investment in the form of higher earnings. 

When Families are Asked to Pay for Child Care They Have Relatively Low Net Wealth

2. The second market-based failure relates to the positive individual and societal benefits of providing early education. Just as the government incentivizes favorable activities, the widespread benefits of early education should justify the government subsidizing child care. In purely economic terms, child care produces positive externalities, as healthier and academically engaged children grow up to impose fewer financial burdens on the health care and criminal justice systems. Fundamental economic principles argue that goods that have positive externalities should be subsidized to support a healthy, thriving economy and population. 

3. The third market failure relates to the workforce as a positive externality. Given the majority of the workers are women and many are women of color, the child care sector likely benefits from existing labor market discrimination. Many workers are unable to find higher-paying jobs because of discrimination, so the system is able to unfairly profit off of qualified individuals by paying less than they deserve. As the report states: “This suggests that the economics of the industry would be even more untenable without the structural unfairness. While government funding for child care will not solve the larger systemic issues, it may help a number of providers earn a better living.” 

Low Pricing Power Creates Slim Profits: The Problems in the Current System 

Unlike other industries that can be automated or outsourced, providing child care is a labor-intensive activity, and wages account for at least 50-60% of a provider’s expenses.

Most for-profit child care facilities operate on razor-thin profit margins that are usually less than 1%. Therefore, given most providers are relatively small, many live in a precarious existence and work to minimize debt and maintain full enrollment, meaning a month or two without full enrollment can cause detriment and erase the provider’s margin. Some child care facilities are operated as non-profits or are affiliated with religious or community organizations and receive direct or indirect subsidies for facilities such as free space or below-market leases. 

Labor comprises a significant share of expenditures, particularly among infants as they require more oversight and smaller children-to-teacher ratios.

Because child care providers rely upon revenues from lower- and middle-income families, for whom child care costs are high and unaffordable, providers are constrained to charge the lowest prices possible to keep services affordable. Therefore, this low pricing power forces cost frugality and the need to rely on low-wage, non-unionized workers. Many also have to rely on non-profit donations and public funding in order to keep costs low. The report argues that “[t]he diffuse and unconcentrated nature of the industry may be an outcome of the low margins: if profits are low and there are few economies of scale (i.e., few advantages to operating a large chain compared to an individual establishment), there is little incentive for individual firms to grow.” 

Low Wages and High Provider Turnover: The Negative Effects of the Market-Based Structure 

Because providers have no pricing power, the consequential negative effect is that they also have a limited ability to increase wages. According to the Center for the Study of Child Care Employment, child care workers have an average annual pay of $24,230 and are in the second percentile of all occupations. Despite this low pay, these workers are educated and highly skilled in the classroom as 87% of center-based teachers serving 3- to 5-year-old children had at least some college education. 

In addition to low wages, this structure creates negative outcomes for children and families. Despite the critically important and intensive work that they provide, early childhood workers experience significant amounts of turnover, likely due to the low wages, lack of benefits, and reports of burnout and stress. National estimates suggest that between 26 and 40% of the workforce leaves their job each year. High turnover rates can have serious negative effects on young children given consistency and routines are key to children’s learning and formative experiences.

Lack of Access, Affordability, and Quality

Access

Over half of Americans live in a child care desert, which is defined as having more than three young children for every one licensed child care spot. Low-income and rural families are more likely to live in underserved areas. In addition to accessible spaces, the cost of the care, proximity to a parent’s workplace, hours of operation, services for children with different abilities, cultural and language fit, and other dimensions all influence parents’ child care access and choices. Unlike K-12 education, transportation is not typically provided as part of the child care service, resulting in many parents struggling to find options near them that fit their needs. Additionally, on-site or near-site child care at workplaces is only available at 7% of employers, with larger 1,000+ employee companies more likely to offer on- or near-site child care. 

Access to Child Care is a Problem Across Urbanicity and Income Groups

Affordability

In addition to child care being inaccessible, it is unaffordable for many families, who must weigh the cost of care with what the parent (typically the mother) would earn working. While the U.S. Department of Health and Human Services (HHS) considers child care affordable if it costs no more than 7% of a family’s income, the average family with children under age 5 that pays for child care spent 13% of their income on child care expenses in 2017. Low-income families spend considerably more, as those who may not have access to federally-funded programs and must pay for care spent approximately 30% of their income on child care.

However, not all families maintain the same levels of access and affordability as inequities are persistent in the current child care system. For example, in 2017, the largest source of federal funding for child care assistance, the Child Care and Development Fund (CCDF), served just 14% of children eligible under federal rules, and in most cases, the subsidy amount is too low to support the cost of high-quality child care. That funding has declined in real terms since 2001 is one factor in explaining why so few eligible children are served. Further, in 2019, preschool enrollment rates for 3- and 4-year-olds in households below the poverty threshold were 12 percentage points below enrollment rates in households above 185% of the poverty threshold.

Quality

Another key aspect of an effective child care system is quality. In addition to care being inaccessible, and unaffordable, this report highlights how child care facilities can be unsafe for many children. According to a 10 state investigation from The U.S. Department of Health and Human Services Office of the Inspector General, 96% of child care programs receiving CCDF dollars had one or more potentially hazardous conditions, such as broken or unlocked gates, water damage, or chemicals within reach of young children.

Build Back Better

The Build Back Better Agenda proposes significant investments to make high-quality early learning and care affordable and available to families in a mixed delivery system. It would directly address these market failures and include key policies that would help lower child care costs by building the supply of high-quality child care, including:

• Cutting spending in half for most American families, including providing low-and middle-income families with subsidies so that they pay no more than 7% of their income on child care.
• Permanently expanding the Child and Dependent Care Tax Credit (CDCTC) and making it fully refundable. This would enable all families earning up to $125,000 to recover as much as half of their child care expenses for children under age 13, a total of $4,000 for one child or $8,000 for two or more children.
• Extending the American Rescue Plan’s (ARP) Child Tax Credit (CTC) increases from $2,000 per child to $3,000 per child 6 and above, and $3,600 for children under 6, and making it fully refundable.
• Providing high-quality, free, inclusive, and mixed-delivery preschool services for all three- and four-year-old children on a voluntary basis.
• Instituting paid family and medical leave, which would make it easier for parents to care for their children under extraordinary circumstances. 
• Increasing the compensation of child care workers to ensure they earn a wage commensurate with their skills and experience, as well as increasing professional development and training opportunities. 

The House and Senate are currently considering the Build Back Better Act through the reconciliation process. Recently both the House Education and Labor Committee and Ways and Means Committee held markups. See here for the House Education and Labor Committee markup and Ways and Means Committee markup. Learn more about the budget reconciliation process here.