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Do Government Old-Age Support Programs Affect Labor Supply?

IPR associate Lee Lockwood examines the Old Age Assistance Program

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The Old Age Assistance Program, created under the 1935 Social Security Act, reduced the employment of older men.

The strain of massive baby boomer retirements on the bottom lines on Social Security and other old-age support programs will make some type of reform “almost inevitable,” according to economist and IPR associate Lee Lockwood. So, “having a good sense of how government programs affect labor supply is becoming more important than ever,” he said.

In an IPR working paper, Lockwood and Daniel Fetter of Wellesley College analyze how the Old Age Assistance Program (OAA), created under the 1935 Social Security Act, affected employment. 

Lee Lockwood
Lee Lockwood

In 1940, 22 percent of Americans who were 65 and over received OAA, making it bigger than Social Security at that time. States had different eligibility requirements and benefit levels, Lockwood said, and this variation made for a natural experiment that allowed for their comparison.

Based on the 1940 U.S. census, he and Fetter used a sample including men within ten years of the OAA eligibility age of 65. They examine whether the program led to declines in how many people worked as they got older. They also investigate how each of OAA’s key features—the funds provided to the elderly and the implicit taxation of their labor—contributed to the effects.

The number of people who worked up to age 65 was very similar in states with larger and smaller OAA programs, but this changed for those 65 and older, with participation dropping more in states with larger OAA programs. This divergence also continued at older ages.

Overall, Lockwood and Fetter found that OAA reduced the employment of men aged 65–74 by 5.7 percentage points, accounting for almost half of its decline between 1930 and 1940. A significant share of this reduction was due to the high implicit tax rates of OAA’s earnings test. Because benefits from the program were based on how much an individual earned, with those earning less money receiving larger benefits, it “essentially paid people not to work,” Lockwood said.

So what do their findings imply about the role of Social Security in the growth of retirement over the 20th century? The two researchers found that Social Security could account for between 50 and 70 percent of the large decline in late-life work between 1940 and 1960.

Lockwood said these results show that government old-age support programs, which are some of the biggest government programs in the United States, can have large effects on labor supply—a key finding in the face of reforms.

Lee Lockwood is assistant professor of economics and an IPR associate. The IPR working paper, “Government Old-Age Support and Labor Supply: Evidence from the Old Age Assistance Program” (WP-16-02), can be found here.

Published: June 27, 2016.