Labor Supply at the Extensive and Intensive Margins: The EITC, Welfare, and Hours Worked (WP-02-04)
Bruce D. MeyerIt is commonly asserted that labor supply responses at the extensive margin (participation) are much greater than at the intensive margin (hours). Nevertheless, this pattern has not been clearly documented. Furthermore, current models of labor supply used in estimation and simulation do not incorporate this response difference. This paper discusses these issues in the context of recent changes in the Earned Income Tax Credit (EITC) and welfare reform. The EITC unequivocally encourages single parents to work at least some hours during a year because it shifts out the budget set at all positive hours points. However, theory implies that the EITC will decrease hours worked among those already working. For the vast majority of recipients, it reduces or does not change the after-tax wage while at the same time discouraging work through the income effect of the credit payment. However, recent hours worked patterns for EITC-eligible individuals do not appear to fit these predictions. Hours worked per week and weeks worked among likely recipient groups have not fallen. This paper documents these facts and argues that alternative models of labor supply that recognize differential participation and hours responses should be used in both estimation and policy simulations.
Bruce D. Meyer, Department of Economics, Northwestern University