Labor Market Responses to Payroll Tax Subsidies

In a high tax, high minimum wage labor market like France, payroll subsidies can reduce the minimum labor cost and expand employment opportunities for the low-skilled. Effects of these subsidies go beyond the directly affected. A particular concern is that high quality jobs may be replaced with lower quality ones, which hurts the employment opportunities of highly skilled workers and is costly for the aggregate productivity. We quantify the direct and indirect effects payroll tax subsidies using an equilibrium search-and-matching model estimated from the French administrative data. We find that concentrating payroll subsidies to minimum wage jobs has distributional advantages, but it has negative effects as job creation from low-productivity firms makes it harder for high-productivity workers to find suitable employment. Using our framework, we are able to determine which jobs should benefit from payroll subsidies. We also note that the nominal incidence of a tax subsidy affects equilibrium outcomes when a statutory minimum wage is present. However, our simulation shows that, when combined with an appropriate minimum wage reduction, an employee subsidy has similar effects as an employer subsidy.