A Review of Static and Dynamic Models of Labour Supply and Labour Market Transitions

The authors are extremely grateful to Jude Hillary and Victoria Mimpriss from HM Treasury, who managed the research project, and to other named and unnamed officials in HM Treasury, the Inland Revenue and the Department for Work and Pensions who gave useful comments at various stages of the project's development. We would also like to thank the participants of the IFS seminar organised in November 2002 for very helpful advice and comments and to Mike Brewer at the IFS for his help in the final stages of the project. Howard Reed is now Research Director at the ippr, and Michal Myck is at Deutsches Institut fuer Wirtschaftsforschung (DIW, Berlin). The authors remain responsible for all remaining errors and omissions. Data from the Family Resources Survey was obtained from DWP and is used with permission; the FRS is also available from the UK Data Archive. Data from the Labour Force Survey, available from the UK Data Archive, is used with the permission of the ONS, and crown copyright material is reproduced with the permission of the Controller of HMSO and the Queen's Printer for Scotland. 3 Heckman-style selectivity adjusted wage equations 34 Entry wage measures 36 Which imputation method is best? 36 2.1.4 Accounting for non-participation 38 Non-participation and the hours equation 39 Non-participation and estimation of the utility function 39 2.1.5 The budget constraint 40 Figure 1.3 41 The budget constraint and the hours equation 41 Estimation of the utility function when modelling a non-convex budget constraint 42 Piecewise Linear Estimation 43 Figure 1.5. Budget constraint for piecewise linear estimation 43 Discretisation of the hours choice 44 The multinomial logit model and the independence of irrelevant alternatives 46 2.1.6 The problem of fixed costs 46 Figure 1.4: Fixed costs and the budget constraint 48 2.1.7 Modelling childcare costs and labour supply 49 Strategies for modelling childcare costs in the labour supply model 50 Table 2.2. A six-state model of childcare use and labour supply 52 2.1.8 Modelling take-up 54 A standard framework for thinking about non take-up 54 Economic models of non take up 55 Modelling labour supply and take-up jointly 56 Valuing the stigma costs 58