Employment Effects of Welfare Reforms: Evidence from a Dynamic Structural Life-cycle Model

In this paper we develop a dynamic structural life-cycle model of labor supply behavior which fully accounts for the effects of income taxation and the transfer system. In addition to including a detailed depiction of the tax and transfer system, the model recognizes the demand side driven rationing risk that might prevent individuals from realizing their optimal labor supply state. We use this framework to study the employment effects of transforming a traditional welfare state, as is currently in place in Germany, towards a more Anglo-American system in which a large proportion of transfers are paid to the working poor.