Labor Supply Effects of the Earned Income Tax Credit under Labor Supply Restrictions

Previous empirical papers find that single mothers respond to EITC changes through the labor force participation (extensive) margin, not through the hours (intensive) margin. This is not predicted by standard labor supply models. My paper investigates labor supply effects of the EITC with a structural model, augmented with two factors that limit workers’ hours choices: costs of working and different wage offers between full-time and part-time work. I estimate a discrete choice static model with restrictions on hours choices using indirect inference. Through simulations I find that single mothers increase hours worked in response to positive substitution effects of the EITC in the subsidy region, but show little responsiveness to negative effects of the EITC beyond the subsidy region. Without wage differentials between full-time and part-time work, I find that single mothers become more responsive to negative incentives of the EITC on hours worked in the phase-out region. These findings suggest that with higher wage offers in full-time work than in part-time work, workers are likely to retain full-time work, which leads to little responsiveness to negative incentives of the EITC on hours worked. ∗Email: [email protected]. I thank John Karl Scholz, Chris Taber, and Jesse Gregory for their helpful advice and comments. I am also grateful to seminar participants at the UW-Madison Public Economics workshops for helpful comments. All remaining errors are my own.