Hours of work and the long-run effects of in-work transfers

Abstract

Policymakers have increasingly turned to ‘in-work transfers’ to boost incomes among poorer workers and strengthen work incentives. One attraction of these is that labour supply elasticities are typically greatest at the extensive margin. Because in-work transfers are normally subject to earnings-related phase-outs, they tend to most strongly incentivize part-time work, weakening incentives to increase hours beyond that. But if part-time work generates relatively little in the way of human capital and career progression, then policy design should factor in the longer-term consequences of labour supply choices along the intensive margin. To that end, we use a dynamic model of female labour supply with endogenous human capital accumulation, and study actual and hypothetical welfare reforms in the UK. We show that for a given expansion in the government budget, those reforms that incentivize full-time work can do considerably more to increase incomes, including among poorer households, and to raise welfare. Our results suggest that in-work transfers could be refined by paying greater attention to the intensive margin effects through the design of their phase-outs.