class: center, middle, inverse, title-slide # Welfare and Work Incentives ## EC 350: Labor Economics ### <a href="https://kyleraze.com">Kyle Raze</a> ### Winter 2022 --- # Welfare and Work Incentives 1. Understanding worker responses - Wealth and substitution effects - Individual labor supply curve 2. Policy analysis - Aid to Families with Dependent Children (AFDC) - Temporary Assistance for Needy Families (TANF) - Earned Income Tax Credit (EITC) --- class: inverse, middle # Understanding worker responses --- # Understanding worker responses **Q:** What happens when your hourly wage increases? -- **A.sub[1]:** Your opportunity set expands. **A.sub[2]:** The opportunity cost of leisure increases. -- To better understand how workers respond to changes in market conditions, we will decompose changes in labor supply into a **wealth effect (WE)** and a **substitution effect (SE)**: .center[**Net effect (NE)** .mono[=] **WE** .mono[+] **SE**] --- # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-1-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How will this worker respond to an increase in non-labor income? ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-2-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How will this worker respond to an increase in non-labor income? ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-3-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How will this worker respond to an increase in non-labor income? **A:** The worker will work fewer hours. - **Why?** Leisure is a normal good, and the worker's wealth just increased. ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-4-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How will this worker respond to an increase in non-labor income? **A:** The worker will work fewer hours. - **Why?** Leisure is a normal good, and the worker's wealth just increased. Holding wages constant, the impact of an increase in wealth on hours worked is known as a **wealth effect**. ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-5-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How will this worker respond to an increase in non-labor income? **A:** The worker will work fewer hours. - **Why?** Leisure is a normal good, and the worker's wealth just increased. Holding wages constant, the impact of an increase in wealth on hours worked is known as a **wealth effect**. ] --- # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-6-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-7-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-8-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? - **Step 1:** Re-optimize .mono[-->] net effect ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-9-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? - **Step 1:** Re-optimize .mono[-->] net effect ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-10-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? - **Step 1:** Re-optimize .mono[-->] net effect - **Step 2:** Remove the wage increase, then "compensate" the worker ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-11-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? - **Step 1:** Re-optimize .mono[-->] net effect - **Step 2:** Remove the wage increase, then "compensate" the worker - **Step 3:** Hypothetical "compensated" bundle .mono[-->] wealth effect ] --- count: false # Understanding worker responses .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-12-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Q:** How do we decompose the effect of a wage increase into a wealth effect and a substitution effect? - **Step 1:** Re-optimize .mono[-->] net effect - **Step 2:** Remove the wage increase, then "compensate" the worker - **Step 3:** Hypothetical "compensated" bundle .mono[-->] wealth effect - **Step 4:** Difference between "compensated" bundle and actual bundle .mono[-->] substitution effect ] --- # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-13-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-14-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-15-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-16-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-17-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-18-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-19-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-20-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-21-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-22-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-23-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-24-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-25-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-26-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-27-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-28-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-29-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-30-1.svg" style="display: block; margin: auto;" /> ] --- count: false # Individual labor supply .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-31-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-32-1.svg" style="display: block; margin: auto;" /> ] --- class: inverse, middle # Policy analysis --- # Tuttle (2019) ## **Discussion** **Q.sub[1]:** What is the research question? **Q.sub[2]:** What data does the study bring to bear? **Q.sub[3]:** What does the study find? **Q.sub[4]:** Should we believe the findings? Why or why not? **Q.sub[5]:** What are the policy implications? --- # Policy analysis **Policy question:** How can we increase living standards for the least well-off? - There are numerous state and federal .pink[social assistance programs] that provide cash or in-kind benefits. - **Examples:** .pink[Medicaid], .pink[SNAP] ("food stamps"), .pink[WIC] (benefits for young mothers and their children), .pink[free school lunches], .pink[public housing], .pink[Section 8] (housing vouchers), .pink[TANF] (cash "welfare"), .pink[EITC], *etc.* -- **Q:** How well do these programs work? What are the tradeoffs? - Do the intended beneficiaries actually receive benefits? - Do people adjust their behavior when benefits become available? - Do particular programs have the intended consequence of reducing poverty? --- # AFDC **Aid to Families with Dependent Children (AFDC)** provided cash benefits to (mostly) single mothers with incomes below a certain threshold. - Known colloquially as "welfare" - Created by the Social Security Act of 1935 (part of the [New Deal](https://en.wikipedia.org/wiki/New_Deal)) - Replaced with a less-generous program in 1997 as a consequence of the [Personal Responsibility and Work Opportunity Act](https://en.wikipedia.org/wiki/Personal_Responsibility_and_Work_Opportunity_Act) ("welfare reform").super[.hi-pink[<span>†</span>]] .footnote[.super[.hi-pink[<span>†</span>]] For an engaging illustration of the motivations behind welfare reform and how it impacted the lives of recipients, check out [season 1](https://www.marketplace.org/shows/the-uncertain-hour/introducing-uncertain-hour/) of the [*Uncertain Hour*](https://www.marketplace.org/shows/the-uncertain-hour/) podcast.] --- # AFDC .pull-left[ .center[**Hypothetical benefit schedule**] <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-33-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ State and federal governments would determine how much money a family of a certain size would "need" to secure basic necessities. While specific income floors varied across household size and time, the general structure of the program was to **close the gap between need and income** until needs were met: .center[.hi-green[Benefit = Need .mono[-] Income]] ] --- # AFDC .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-34-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ The AFDC benefit schedule **inserts a kink** into the budget constraint. ] --- count: false # AFDC .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-35-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ The AFDC benefit schedule **inserts a kink** into the budget constraint. - **Q:** What is the level of need in this example? ] --- class: clear-slide **Q:** How would this worker respond to the introduction of AFDC benefits? <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-36-1.svg" style="display: block; margin: auto;" /> --- class: clear-slide **Q:** How would this worker respond to the introduction of AFDC benefits? <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-37-1.svg" style="display: block; margin: auto;" /> --- # TANF .pull-left[ .center[**Hypothetical benefit schedule**] <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-38-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ **Temporary Assistance for Needy Families (TANF)** also provides "cash welfare" to low-income families. Beyond being less generous, on average, **TANF benefits "phase out"** so that the additional income from working longer is not completely offset by a reduction in benefits: .center[.hi-green[Benefit = Need .mono[-] Rate .mono[×] Income]] ] --- # TANF .pull-left[ <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-39-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ The TANF benefit schedule also **introduces a kink** in the budget constraint. - In this example, the phase-out rate is 50 cents on the dollar. ] --- class: clear-slide **Q:** How would this worker respond to the introduction of TANF benefits? <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-40-1.svg" style="display: block; margin: auto;" /> --- # EITC The **Earned Income Tax Credit (EITC)** is currently the largest cash benefit program in the United States. - First established in 1975; expanded several times thereafter - Allows individuals who file a tax return to collect a refundable tax credit if their income is below a certain threshold - By design, only those who work are able to receive the credit --- # EITC .pull-left[ .center[**Hypothetical benefit schedule**] <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-41-1.svg" style="display: block; margin: auto;" /> ] .pull-right[ The EITC benefit schedule features a **phase-in** region and a **phase-out** region. Phase-in rates and maximum benefit levels vary by household size, marital status, and state. ] --- class: clear-slide **Q:** How do we visualize an EITC budget constraint? <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-42-1.svg" style="display: block; margin: auto;" /> --- count: false class: clear-slide **Q:** How do we visualize an EITC budget constraint? <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-43-1.svg" style="display: block; margin: auto;" /> --- class: clear-slide **Q:** How does the EITC affect labor supply? (Case 1) <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-44-1.svg" style="display: block; margin: auto;" /> --- class: clear-slide **Q:** How does the EITC affect labor supply? (Case 2) <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-45-1.svg" style="display: block; margin: auto;" /> --- class: clear-slide **Q:** How does the EITC affect labor supply? (Case 3) <img src="07-Work_Incentives_files/figure-html/unnamed-chunk-46-1.svg" style="display: block; margin: auto;" /> --- # Housekeeping **Assigned reading for Monday:** [Effective policy for reducing poverty and inequality? The Earned Income Tax Credit and the distribution of income](http://jhr.uwpress.org/content/early/2017/07/05/jhr.53.4.1115.7494R1.abstract) by Hilary Hoynes and Ankur Patel (2018). - Reading Quiz 4 due by Monday, January 31st at 12pm (noon). - Non-technical sections and main figures (see quiz instructions) **Problem Set 1** due by Friday, January 28th at 11:59pm. - Office hours today 4-5pm (via Zoom or in 522 PLC).