Tax and Welfare Policy and Labour-Market Performance

Tax and welfare policies and home production:

In order to understand the wildly different rates of employment and labour-force participation that exists in industrialized countries, CEP macro program members Rachel Ngai and Chris Pissarides argue that it is essential to consider the incentives that tax and welfare policies create to shift certain activities that have been traditionally "home produced" (cooking, cleaning, child-rearing) to the market.

Rachel and Chris examine the implications of tax and subsidy policies for employment in the "three worlds of welfare", Anglo-Saxon, Continental European and Scandinavian. Anglo-Saxon low-support policies encourage more overall market employment. Continental transfer policies encourage more home production. Scandinavian policies give incentives to move home production in social services to the market but discourage other service activity. Once these differences are clearly understood it is possible to make sense of the different labour-market outcomes observed in the United States, Britain, France, Italy and Sweden.

Tax and welfare policies and the distribution of hours of work:

In recent work, Rachel and Chris extend this analysis to explain the distribution of hours worked across sectors. In particular, they observe that there is a marked difference in the share of total hours worked in sectors with home produced substitutes across countries. These sectors include the health sector and social work, and the authors observe a much higher share of hours worked in these sectors in Sweden than in the United States, and an even lower share in Japan. They argue that these differences cannot be explained by productivity differences, and point instead to tax and subsidy policies.

In Sweden taxes on market economic activity are much higher than they are in either the United States or Japan, but a large part of the revenue is used to subsidize the provision of social care. Thus consumption demand shifts away from the output of the taxed sectors to the subsidized social care sector and the untaxed home production. However, the scale of the shift in demand depends on the substitutability of these goods. One cannot easily substitute accounting and child minding services, nor easily produce many market bought goods at home. The key is home production, and the availability of substitution in to and away from it.

Thus Rachel and Chris identify two effects of the taxing of consumption goods and subsidization of social work: Firstly, a shift towards home production of goods for which this is feasible. Secondly, the subsidization of social care means that more of this is done in the market, and less is done at home. These effects then largely explain the differences in the distribution of hours worked in the health and social sectors across countries.

To read more about Rachel Ngai and Chris Pissarides's work on tax and subsidy policies and labour-market outcomes see:

• "Welfare Policy and the Distribution of Hours of Work" [Full document in Adobe PDF] (L. Rachel Ngai and Christopher A. Pissarides), CEP Discussion Papers 0962, December 2009
  
  
• "Employment Outcomes in the Welfare State" [Full document in Adobe PDF] (L. Rachel Ngai and Christopher A. Pissarides), CEP Discussion Papers 0856, February 2008