Social Desirability of Earnings Tests

Abstract. In many countries, pension systems involve some form of earnings test; i.e. an individual's benefits are reduced if he has labor income. This paper examines whether or not such earnings tests emerge when pension system and income tax are optimally designed. We use a simple model with individuals differing both in productivity and in their health status. The working life of an individual has two 'endings': an official retirement age at which he starts drawing pension benefits (while possibly supplementing them with some labor income) and an effective age of retirement at which professional activity is completely given up. Weekly work time is endogenous, but constant in the period before official retirement and again constant (but possibly at a different level), after official retirement. Earnings tests mean that earnings are subject to a higher tax after official retirement than before. We show under which conditions earnings tests emerge both under a linear and under a non-linear tax scheme. In particular, we show that earnings tests will occur if heterogeneities in health or productivity are more significant after official retirement than before.     

Optimal tax progressivity in unionised labour markets: What are the driving forces?

In labour markets with collective wage bargaining higher progressivity of the labour income tax creates a trade-off. On the one hand, wages are lowered and unemployment decreases, on the other hand, the individual labour supply decision is distorted at the hours-of-work margin. The optimal level of tax progressivity within this trade-off is determined using a numerical general equilibrium model with imperfect competition on the goods market, collective wage bargaining and a labour-supply module calibrated to empirically plausible elasticity values. The model is calibrated to macroeconomic and institutional parameters of both the OECD average and a number of individual OECD countries. In most cases the optimal degree of tax progressivity is below the actual level. A decomposition approach shows that the optimal level is increased by high unemployment and by the general tax level.     

Competing for capital when labor is heterogeneous

This paper investigates the impacts of capital mobility and tax competition in a setting with imperfect matching between firms and workers. The small country attracts less firms than the large one but accommodates a share of the industry that exceeds its capital share—a reverse home market effect. This allows the small country to be more aggressive and to set a higher tax rate than the large one, thus implying that tax competition reduces international inequalities. However, the large country always attains a higher utility than does the small country. Our model thus encapsulates both the “importance of being small” and the “importance of being large”. Last, tax harmonization benefits to the small country but is detrimental to the large one.     

The fiscal impact of high-skilled emigration: Flows of Indians to the U.S.

What are the fiscal consequences of high-skilled emigration for source countries? This paper develops methodologies for inferring these consequences and applies them to the recent sizable emigration of high-skilled workers from India to the U.S. This wave of emigration from India to the U.S. is shown to be unusually concentrated amongst the prime-age work force, the highly educated and high earners. In order to calculate the fiscal losses associated with these emigrants, estimates of their counterfactual earnings distributions are generated using two distinct methods and integrated with a model of the Indian fiscal system to calculate fiscal consequences. Conservative estimates indicate that the annual net fiscal impact to India of high-skilled emigration to the U.S. is one-half of 1% of gross national income (or 2.5% of total fiscal revenues). The sensitivity of these results to the method of predicting counterfactual incomes and the implications of these estimates for other developing countries is discussed in detail.     

Permanent versus transitory wage differentials and the inequality-hours hypothesis

This paper disentangles the effect of inequality in permanent and transitory wages on hours worked by, first, estimating the two components for Swedish industries and, second, using the resulting estimates as explanatory variables in an hours-worked equation. Consistent with Bell and Freeman’s (2001) inequality-hours hypothesis, permanent wage differentials are found to have a positive effect on individuals’ hours of work while transitory wage differentials have no effect. However, the analysis also shows that, in estimated hours-worked equations, inequality in observed wages is potentially a good approximation for inequality in permanent wages.     

Why is child labor illegal?

We present a theory of the emergence of laws restricting child labor or imposing mandatory education that is consistent with the fact that poor parents tend to oppose such laws. We find that if altruistic parents are unable to commit to educating their children, child-labor laws can increase the welfare of higher-income parents in an ex ante sense. On the basis of an empirical analysis of Latin-American household surveys, we demonstrate that per capita income in the country of residence has the predicted effect on child labor supply, even after controlling for other household characteristics.     

Employment shifts, economic reform and the changes in public/private sector wages in Mexico: 1987–1997

Over the last decade, the public sector in Mexico experienced substantial fiscal reform, divestiture of public enterprises, and the elimination of many regulations affecting pay and employment. This study analyzes the changes in the public/private sector differences in wages during the 1987–1997 period. The results from analyzing microdata from the Encuesta Nacional de Empleo Urbano show that relative public sector wages increased from 1987 to 1997. Most of the relative wage increase in the public sector can be explained by increases in the price of skills and by changes in sorting across sectors. The results have important public policy implications since they suggest that public sector workers earn more and their wages have grown faster than those of their private sector counterparts. As such, policies contemplating public sector reform should take into account the effect of these measures on the inter-sectoral income distribution and the overall economic growth. First version received: April 2000/Final version received: December 2000     

Transatlantic Differences in Labour Markets: Changes in Wage and Non-Employment Structures in the 1980s and the 1990s

Abstract. Rising wage inequality in the United States and Britain and rising continental European unemployment have led to a popular view in the economics profession that these two phenomena are related to negative relative demand shocks against the unskilled, combined with flexible wages in the Anglo-Saxon countries, but wage rigidities in continental Europe ('Krugman hypothesis'). This paper tests this hypothesis based on seven large person-level data sets for the 1980s and the 1990s. I use a more sophisticated categorization of low-skilled workers than previous studies, which exhibits differences between German workers with and without apprenticeship training, particularly in the 1980s. I find evidence for the Krugman hypothesis when Germany is compared with the United States. However, supply changes differ considerably between countries, with Britain experiencing enormous increases in skill supply explaining the relatively constant British skill premium in the 1990s.     

Optimal taxation in the extensive model

We study optimal taxation under extensive preferences: the agents? utilities are constant for positive actions up to a maximal productivity level. Utilities may be discontinuous at the origin, reflecting fixed costs of participation. Allowing for general distributions of work opportunity costs and productivity and for income effects, we characterize optimal, incentive-compatible tax schedules. We then give sufficient conditions for society to desire redistribution. When these conditions hold, upward distortions of the financial incentives to work can only occur for low-skilled workers. Such upwards distortions are indeed always present when the fixed participation costs are pecuniary.     

A study on the role of guanxi in entrepreneurship and employment

This paper examines the role of guanxi in influencing the decision of an individual to be an entrepreneur facing a risky technology or to become a worker facing an unemployment rate. Individuals are assumed to vary in terms of the strength of their established guanxi that could be utilized either to lower the set-up cost as entrepreneurs or to secure jobs as workers. Compared with the case where guanxi can only be used to reduce the individual's set-up cost to become an entrepreneur, it is shown that if guanxi can also help a worker find a job, then whether the employment rate might be improved or worsened will depend on the absolute risk aversion that is increasing or decreasing in income.     

Education, segregation and marital sorting: theory and an application to the UK

This paper presents a model of the intergenerational transmission of education and marital sorting. Parents matter both because of their household income and because their human capital determines the distribution of a child's disutility from making an effort to become skilled. We show that an increase in segregation has potentially ambiguous effects on the proportion of individuals that become skilled in the steady state, and hence on marital sorting, the personal and household income distribution, and welfare. We calibrate the steady state of our model to UK statistics. We find that an increase in the correlation of spouses in their years of education will bring about a small increase in the proportion of skilled individuals when the relative supply of skilled individuals is variable at the family level and a decrease when this supply is fixed. Ex-ante utility (of an unborn individual) increases in the first case and decreases in the second. The welfare effect of increased sorting is negative for unskilled individuals and positive for skilled individuals. Increased segregation always leads to an increase in welfare inequality between skilled and unskilled individuals.     

APPRENTICES AND YOUNG WORKERS: A STUDY OF THE NORWEGIAN YOUTH LABOUR MARKET

Apprenticeship programmes are in many countries important stepping stones into the labour market. However, recruitment of apprentices seems to follow the business cycle. This pattern may be caused by firms' contemporaneous demand for labour, but may also be consistent with an investment hypothesis. A model, in which the tightness in the labour market is taken into account, is tested on a sample of Norwegian quarterly firm‐specific data. The empirical findings give moderate support to an investment hypothesis. The apprentices substitute to some degree for skilled labour but are recruited primarily based on the labour market situation. The wage level plays a minor role for recruitment of apprentices.     

Why did wage inequality increase? Evidence from urban India 1983–99

Since the start of the economic reform in 1991, there have been serious concerns regarding the increasing income inequality in India. However, no studies have analyzed how and why the inequality has been accelerated. This study aims to fill these knowledge gaps. The main findings are: (1) The wage inequality in urban India started increasing before 1991; (2) The increase in the wage inequality was mainly attributable to increases in the returns to skills; (3) The accelerating skill premium was due to increases in the demand for skilled labor. The demand shift is attributed to skill-biased technological changes within industries.     

Social Security Earnings Test and the Labour Supply of the Elderly: New Evidence from Unique Survey Responses in Japan

This study proposes an alternative approach of utilizing direct responses to a survey on the social security earnings test for the elderly to provide new evidence on the sensitivity of the labour supply decision of workers aged between 60 and 64 with respect to the test. Our empirical results show a discouraging effect on working in a large proportion of these workers in Japan, even after correcting for the observed attributes of individuals who reported being either affected or unaffected.