The Effects of Taxes and Transfers (5): Status Quo of Life Cycle Labor Supply Models and Future Research

This post follows my previous two posts assessing the contributions and limitations of life cycle labor supply models.

Since its introduction in the early 1980s, life cycle labor supply models have taken on various forms in the economic literature on the effects of taxes and transfers, and the dynamic considerations for human capital acquisition. The literature has not reached a consensus on the magnitude of labor supply elasticities. While most studies find small elasticities for (prime working age) men, a few find large values that even exceed those in the macro literature. For women, most studies find large elasticities of labor supply, especially on the participation margin. In particular, Keane (2011a) finds that allowing for dynamic effects of wages on fertility, marriage, education and work experience leads to larger estimates for long-run elasticities.

More research remains to be done in the following areas. First, modeling human capital accumulation, labor force participation and progressive taxation jointly will allow us to assess how individuals make schooling and labor supply decisions under taxation. Second, modeling labor supply and consumption decisions within the family decision can shed light on how changes in taxes and welfare programs affect different household members differently. Third, the effects of transfer programs on the skill acquisition and occupation choice and marriage and fertility decisions of the low income population (especially women) need to be estimated more accurately. Such long term impacts are relevant to design a welfare system that provides work incentive as well as the skills required for work. Finally, the availability of longitudinal data on a greater array of individual responses, such as consumption and health (in PSID), makes it possible to assess the dynamic impact of tax and welfare programs on other fronts in addition to labor supply (Hokayem and Ziliak, 2014).

References are available upon request.

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