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Estimating LS and applications

Estimating LS and applications. Midterm. Mean: 46.8125 S.D.: 14.40934303 Answer kits will be posted on the website. Estimating Labour Supply Responses, take 1. Typical model: hours i = B 0 + B 1 w i + B 2 X i + e i

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Estimating LS and applications

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  1. Estimating LS and applications

  2. Midterm • Mean: 46.8125 • S.D.: 14.40934303 • Answer kits will be posted on the website.

  3. Estimating Labour Supply Responses, take 1 • Typical model: hoursi = B0 + B1wi + B2Xi + ei • But a $2 change in the wage rate might be a large change for some and a small change for others. • Better way…

  4. Labour Supply elasticity measures the percentage change in time worked from a percentage change in wages

  5. Estimating Labour Supply Responses, take 2

  6. Is there omitted variables bias?

  7. Problems with estimating supply elasticity • Unobserved skills, locations, tastes… • These factors could be related both to wages and hours • Can’t take log of 0 Another threat is “simultaneous bias”.

  8. A more useful approach:

  9. One example of natural experiment • In 1986, a reform of personal income tax system in the United States reduce tax rates from 50% to 28% for families with taxable incomes over $170,000. • The change was sudden. • The IE and SE combined is ambiguous. • One study compared labor supply increases, from 1984 to 1990, for married women in the 99th and 90th percentiles.

  10. One example of natural experiment • It found that the labor force participation rate for women in the 99th percentile rose by 19.4 percent and that, if working, their hours of work rose by 12.7 percent during that period. • In contrast, both labor force participation and hours of work for women at the 90th percentile rose only by about 6.5 percent.

  11. Application: Earned Income Tax Credit (EITC) • The EITC program makes income tax credits available to low-income families with at least one worker. • A tax credit of $1 reduces a person’s income taxes by $1, and in the case of the EITC, if the tax credit for which workers qualify exceeds their total income tax liability, the government will mail them a check for the difference. • Thus, the EITC functions as an earnings subsidy, and because the subsidy goes only to those who work, the EITC is seen by many as an income maintenance program that preserves work incentives. • In the US, it is now the largest cash subsidy program directed at low-income households with children.

  12. Earned Income Tax Credit (Unmarried, Two Children), 2009, US

  13. The Earned Income Tax Credit Encourages individuals not working to work 11,000 6,000 5,000 0 L

  14. May Encourage some individuals working to work less The Earned Income Tax Credit 11,000 6,500 5,000 0 L

  15. Estimating the effect of EITC • Eissa and Liebman – QJE 1996 • The EITC tops off work for low income individuals, up to a certain amount • Substantial expansion of EITC for single women with children in 1986

  16. Single moms with incomes between 11,000 and 15,432 became eligible for first time 1986 change affected single parents only 15,432 11,000 6,500 5,000 0 L

  17. Estimate average labor supply effect from introducing program

  18. Difference Single Mothers Can we simply compare average hours before and after? Average Hours worked EITC before 86 reforms EITC after 86 reforms Any factors that lead to change in hours will be attributed to reform change

  19. Alternative approach: compare change in hours for one group affected by reform and change in hours for another group not affected by reform Difference after change Average Hours worked Single women, no children Difference before change Single Mothers EITC before 86 reforms EITC after 86 reforms Estimate effect from ‘difference in the differences’ Since hours worked increased for group not affected by the same amount, estimate no effect from reform.

  20. What Eissa and Liebman Find

  21. Main Findings • EITC reforms increased single parent’s labor supply by 2.8 percentage points, and more for those with less than high school education • No evidence that reforms decreased hours worked among single parents already working

  22. Application: (Un)Employment Insurance in Canada • Must have worked minimum 420 – 700 hours in same job (12 to 20 weeks at 35 hours per week) • Can receive EI from 14 weeks to 45 weeks, depending on unemp. rate in region • Basic benefit rate is 55% of average insured earnings, up to maximum $413 per week ($21,476 annual rate). This amount is taxable income.

  23. Other points • Can’t get EI if voluntarily quit job without just cause • Can’t get EI if fired from job • If start new, long-term job (PT or FT), must notify by law, and payments stop • Otherwise, payments end after 45weeks, or EI maximum amount eligible paid

  24. Graphical Analysis of UI • Assume wage $500 per week • UI is 55% of previous annualized earnings, no maximum • Must work at least 10 weeks to qualify • Ignore contributions for now

  25. slope = -225 Budget constraint with UI $26,000 slope = -500 Y 52 weeks 0 42

  26. Sub. Effect induces less work Supply would go down if leisure normal good New Optimization with UI for someone working $26,000 slope = -225 slope = -500 Y 42 52 weeks 0

  27. UI induces some to work b/c earn more money for same hours worked New Optimization with UI for someone not working $26,000 slope = -500 Y 42 52 weeks 0 22

  28. Some problems with this analysis • Can’t choose whether receive UI or not – must be laid off by employer • This creates incentive to co-ordinate with employer – pay me less and lay me off over and over again (increases utility) • Does not take into account costs – UI contributions about 3% of salary for employer and 3% for employee

  29. Is UI worth it? Like insurance problem • Probability of losing job for 52 weeks: 2% • UI contributions 10% of salary • UI Benefit: 6,435 for one year • Utility U = CL • Wage is 500 per week • Budget Constraint without UI: • C+500L = 500*52

  30. Expected Utility without UI • MRS = w when C*/L* = 500 • C*=500L* • C* + 500L* = 26,000 • C* = 13,000 L* = 26 • Utility if don’t lose job = 338,000 • Utility if lose job = 0 (52*0) = 0 • Expected Utility = .98*338,000 + 0 = 331,240

  31. Expected Utility with UI • MRS = w when C*/L* = 500(1-.1) = 450 • C*=450L* • C* + 450L* = 450*52 = 23,400 • C* = 11,700 L* = 26 • Utility if don’t lose job = 304,200 • Utility if lose job = 52*(6,435) = 334,620 • Exp. U = .98*304,200 + .02*334,620 = 304,808

  32. Compare • E(Utility with UI) vs. E(Utility without) • Since 331,240 > 304,808, prefer not to participate in UI

  33. Who gains and who loses from EI? • Max: • 1-Pr(lose job)U(C,L) + Pr(lose job)U(UI(w),T) • Subject to: C+w(1-t)L = w(1-t)T • If E(Utility with UI) > E(Utility without), gain from UI • Benefits of UI depend on probability of losing job, and fraction of total annualized wage paid while not working • Costs of UI depend on contribution rate

  34. Who gains and who loses from EI? • The lower the probability of losing job, the lower the gain from UI (incentive to ‘manipulate’ probability) • The lower the UI benefit, the lower the gain • The higher the contribution rate, the lower the gain

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