Chapter Three

Labour Supply and

Public Policy: Work
Incentive Effects of
Alternative Income
Maintenance Programs

3-1
Income Maintenance Programs

• Designed to supplement low incomes, which can arise from a various number of
reasons
• No single program can address the multiple reasons for low income

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 Income Maintenance Programs
Table 3.1 Government transfers received by Census Families in Canada, 2017
Benefits: Percent of families Average Amount
All government transfers
83.7% $12,750
(federal and provincial)
Federal Child Benefits 20.2% $6,314
Provincial Child Benefits 10.6% $1,941
Employment Insurance 14.0% $8,352
Social Assistance 11.3% $8,367
Workers’ Compensation 3.5% $9,820
Canada/Quebec Pension Plan 32.4% $10,092
Old Age Security 25.1% $8,566
Guaranteed Income Supplement 9.6% $6,634

3-3
Disposable income by income
quintile, average dollars per
household

Source: Statistics Canada

[Link]

3-4
Income Maintenance Programs

• Universal Programs vs. Targeted Programs

• Universal Programs
• Administratively simple
• Everyone receives the same transfer regardless of income
• Expensive
• Also benefits nonpoor

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Income Maintenance Programs

•Targeted Programs
• Cheaper method
• Individuals are given exactly enough of a transfer to reach the poverty line
• Only those below poverty line would receive transfer
• Creates a disincentive to earn income and, hence, may cause individuals to reduce
work effort

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Income Maintenance Programs

• Permanent or Transitory?
• Compensating low wages or shortage of hours worked?
• Low income may be due to the shortage of hours worked or low wage rate:
• Shortage of hours is mainly associated with the loss of transitory income (needs
transitory type policy)
• Low wage rate, on the other hand, may represent permanent low income (needs
permanent type policy)
• Difficult to isolate permanent from transitory

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Demogrants, Welfare, and Wage Subsidies

•Demogrants
•Lump sum transfer or income grant (universal)
•Specific to a demographic group
• Old Age Security (OAS): Providing monthly benefits to people aged 65 and over
• Former Universal Child Care Benefit (UCCB) program

3-8
Demogrants, Welfare,
and Wage Subsidies
• Figure 3.1 Work Incentive Effects of a
Lump-Sum Demogrant

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Demogrants, Welfare, and Wage Subsidies

• Work Incentive Effects of a Lump-Sum Demogrant

• No substitution effect
• Work incentives are reduced
• Pure leisure-inducing income effect
• Increase in income is less than the amount of demogrant (all or a portion of the
demogrant is used to buy leisure)

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Demogrants, Welfare, and Wage Subsidies

• Welfare
• Administered by the provinces
• Financed partly by the federal
government
• Benefits depend on:
• Needs of the family
• Assets
• Other sources of income

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Demogrants, Welfare, and Wage Subsidies
Table 3.2 Income of Welfare Recipients by Province, 2018 (lone parent, one child)
Province Annual Incomea ($) Income as % of Poverty Lineb
Newfoundland 23,436 85
Prince Edward Island 20,977 77
Nova Scotia 18,240 67
New Brunswick 19,978 78
Quebec 21,867 86
Ontario 21,463 72
Manitoba 21,764 82
Saskatchewan 21,087 77
Alberta 19,927 68
British Columbia 20,782 71
Average (unweighted) 20,952 76

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Two measures of low income:

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Total welfare incomes for
all example households in
each province, 2022

https:// [Link]/changing-systems/data-measuring/welfare-in-canada/
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Demogrants, Welfare,
and Wage Subsidies

• Figure 3.2 Work Incentive Effects of a

Welfare Benefit with 100 Percent “Clawback”

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Demogrants, Welfare, and Wage Subsidies

• Work Incentive Effects of a Welfare Benefit with 100 Percent “Clawback”

• Adverse effect on work incentives
• Work is not chosen because of the 100% tax on earned income

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Demogrants, Welfare, and Wage
Subsidies
• Possible Solutions to improve work incentive of welfare programs:
• Reduce the welfare benefit
• Increase the wage rate
• Reduce the implicit tax (clawback)
• Change the preference

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Demogrants,
Welfare, and
Wage Subsidies
• Figure 3.3 Other Work
Incentive Effects of Welfare
Programs

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Demogrants, Welfare, and Wage Subsidies

• Negative Income Tax

• Income guarantee
• Implicit tax rate of less than 100%
• Recipients receive more from the guarantee than they will pay out in taxes
• Guaranteed Income Supplement
• Y = G + (1 - t)E, where: G = Guaranteed Income, t = Implicit Tax Rate, and E = Labor
Market Earnings

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Demogrants, Welfare,
and Wage Subsidies
• Figure 3.5 Work Incentive Effects of a
Negative Income Tax

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Demogrants, Welfare, and Wage Subsidies

•Work Incentive Effects of a Negative Income Tax

• Work incentives will be reduced.
• The reduction in labour supply may have other desirable side effects.
• It may be used to replace some welfare programs that have even larger adverse
incentive effects.

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Demogrants, Welfare,
and Wage Subsidies
• Figure 3.6 Work Incentive Effects of a
Wage Subsidy

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Demogrants, Welfare, and Wage Subsidies

• Work Incentive Effects of a Wage Subsidy

• Theoretically indeterminate
• Adverse effects of wage subsidy are not as great as those of the negative income tax
• Disadvantage: does nothing for the income of those who are unable to work

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Demogrants, Welfare, and Wage Subsidies
• Refundable Tax Credit
• A new “income-tested” wage subsidy program used in both US and Canada to
reduce the cost associated with the pure wage subsidy programs
• It is a refundable tax credit or subsidy that is paid irrespective of other income
taxes paid by the individuals

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Demogrants,
Welfare, and
Wage Subsidies
• Figure 3.7
• Work Incentives of a
Refundable Tax Credit

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Demogrants, Welfare, and Wage Subsidies

• Work Incentives of a Refundable Tax Credit

• The phase-in section is similar to a standard wage subsidy. The substitution effect
increases work effort while the income effect reduces work effort. The overall impact
on work effort is ambiguous.
• In the flat range, the program exerts only an income effect and labour supply is
reduced, assuming leisure is a normal good.
• The phase-out section is like a negative income tax. The substitution and income
effect reduce work effort. While the net effects on hours worked may be ambiguous,
the effect on participation is clearer.

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Disability
Effect of a Disability
• Budget constraint or preference curve could be
altered
• Factors to be considered:
• hours able to work
• medical expenses
• reduced ability to earn wages
• disutility of labour market vs. other activities

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Disability
• Figure 3.8 Effect of
Disability

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Effects of Compensation
• Workers’ compensation programs generally support
individuals who are prevented from working as a
result of a work-related injury or occupational
disease
• Workers’ compensation is designed to support the
recipient’s income so it is not reduced by as much as
it would be in the absence of the compensation

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 What is the appropriate level of
compensation for a worker who has
suffered an injury?
Effects of
Compensation Workers’ compensation conventionally
compensates someone by assuming a
full disability and providing (for
example) disability benefits of two-
thirds of the pre-injury income
Disability and
Compensation

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Medical Bills
and Restoring
Income or
Utility

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