IDEAS home Printed from https://ideas.repec.org/p/rif/dpaper/1008.html
   My bibliography  Save this paper

Labour Market Institutions and the Effectiveness of Tax and Benefit Policies in Enchancing Employment: A General Equilibrium Analysis

Author

Listed:
  • Alho, Kari O. E.

Abstract

The paper aims to shed light on the relationships between labour market institutions with respect to wage formation and the effectiveness of economic and labour market policies in enhancing employment and overall economic performance. We evaluate tax and benefit policies under four alternative specifications of wage formation : fixed, market determined, and bargained wages. In the latter, we also distinguish between the short- and long-run effects, and between uncoordinated and coordinated (nation-wide) bargaining. To this end, we build a computable general equilibrium model which is calibrated using data on the Finnish economy and labour market, distinguishing workers of three skill categories by the level of their education. Evaluating policies under various possible labour market institutions, the paper also seeks relevance in a wider EU perspective. Overall, the model simulations show that labour market institutions with respect to wage formation influence to a large extent the effectiveness of many policies aiming at enhancing employment. When wages are allowed to react, policies expanding the demand for labour, which work well under fixed wages, turn out to be quite inefficient in the short run. The reverse emerges with supply side policies such as reducing benefits so that wage reactions reinforce the positive effects of these policies. The reduction of marginal taxes interacts with labour market institutions in quite a sensitive way. Under wage bargaining, tax reductions should be channelled to low-income earners, while the reverse holds under flexible wage formation. Policies directed at raising labour demand for a targeted group, typically the low skilled, are able, on the other hand, to lower unemployment amongst this group of workers also under coordinated wage bargaining. However, if the group concerned enters in a new wage bargaining round unilaterally, the effect of this policy can even be quite negative in terms of its impact on employment due to the rise of compensatory wage claims through the wage-wage links. We also consider a hypothetical, fully flexible labour market and find the extent of the widening of the wage distribution, but also the magnitude of clear economic gains, related to a low rate of unemployment reached through the assumed wage adjustment process. The most effective policy in terms of employment, labour supply and unemployment is the curtailment of social security benefits while out of work. Also a neutral policy of compensating the cut in unemployment benefits by a tax reduction leads, under bargaining, to an expansion in the economy. The results call for coordination in tax and benefit policy measures, so that incentives to work and to stay out of work are not created simultaneously

Suggested Citation

  • Alho, Kari O. E., 2006. "Labour Market Institutions and the Effectiveness of Tax and Benefit Policies in Enchancing Employment: A General Equilibrium Analysis," Discussion Papers 1008, The Research Institute of the Finnish Economy.
    • Handle: RePEc:rif:dpaper:1008
    as

    Download full text from publisher

    File URL: http://www.etla.fi/wp-content/uploads/2012/09/dp1008.pdf
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Giuseppe Carone & Aino Salomäki & Herwig Immervoll & Dominique Paturot, 2003. "Indicators of unemployment and low-wage traps (marginal effective tax rates on labour)," European Economy - Economic Papers 2008 - 2015 197, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.
    2. Bovenberg, A. Lans & Graafland, Johan J. & de Mooij, Ruud A., 2000. "Tax reform and the Dutch labor market: an applied general equilibrium approach," Journal of Public Economics, Elsevier, vol. 78(1-2), pages 193-214, October.
    3. Alho, Kari, 2002. "The Equilibrium Rate of Unemployment and Policies to Lower It: The Case of Finland," Discussion Papers 839, The Research Institute of the Finnish Economy.
    4. Alho, Kari, 2004. "The Finnish EMU Buffers and the Labour Market under Asymmetric Shocks," Discussion Papers 914, The Research Institute of the Finnish Economy.
    5. Lassila, Jukka & Valkonen, Tarmo, 2001. "Ageing, Demographic Risks, and Pension Reform," Discussion Papers 765, The Research Institute of the Finnish Economy.
    6. John C. Driscoll & Steinar Holden, 2004. "Fairness and Inflation Persistence," Journal of the European Economic Association, MIT Press, vol. 2(2-3), pages 240-251, 04/05.
    7. Petri Böckerman & Roope Uusitalo, 2005. "Union membership and the erosion of the Ghent system: Lessons from Finland," Labor and Demography 0508008, University Library of Munich, Germany.
    8. Emmanuel Saez, 2002. "Optimal Income Transfer Programs: Intensive versus Extensive Labor Supply Responses," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 117(3), pages 1039-1073.
    9. Bean, Charles R., 1994. "European unemployment: A retrospective," European Economic Review, Elsevier, vol. 38(3-4), pages 523-534, April.
    10. Sinko, Pekka, 2004. "Progressive Taxation Under Centralised Wage Setting," Discussion Papers 349, VATT Institute for Economic Research.
    11. Asplund, Rita, . "Education, Human Capital and Economic Growth.A Survey of Theories and Empirical Evidence with Special Reference to Finland," ETLA B, The Research Institute of the Finnish Economy, number 71.
    12. repec:zbw:bofrdp:2001_019 is not listed on IDEAS
    13. Arntz, Melanie & Boeters, Stefan & Gurtzgen, Nicole, 2006. "Alternative approaches to discrete working time choice in an AGE framework," Economic Modelling, Elsevier, vol. 23(6), pages 1008-1032, December.
    14. Thomas Aronsson & Karl-Gustaf L–fgren & Tomas Sj–gren, 2002. "Wage setting and tax progressivity in dynamic general equilibrium," Oxford Economic Papers, Oxford University Press, vol. 54(3), pages 490-504, July.
    15. Sinko, Pekka & Holm, Pasi & Tossavainen, Pekka, 1999. "Labour Market Policy and Unemployment - A Job Flow Model of Finland," Discussion Papers 210, VATT Institute for Economic Research.
    16. Holmlund, Bertil & Lundborg, Per, 1999. "Wage bargaining, union membership, and the organization of unemployment insurance," Labour Economics, Elsevier, vol. 6(3), pages 397-415, September.
    17. Bohringer, Christoph & Boeters, Stefan & Feil, Michael, 2005. "Taxation and unemployment: an applied general equilibrium approach," Economic Modelling, Elsevier, vol. 22(1), pages 81-108, January.
    18. G. Carone & A. Salomäki, 2001. "Reforms in tax-benefit systems in order to increase emplyoment incentives in the EU," European Economy - Economic Papers 2008 - 2015 160, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.
    19. Marit Hinnosaar, 2004. "The Impact Of Benefit And Tax Reforms On Estonian Labor Market In A General Equilibrium Framework," University of Tartu - Faculty of Economics and Business Administration Working Paper Series 31, Faculty of Economics and Business Administration, University of Tartu (Estonia).
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Alho, Kari E. O., 2008. "Tax/benefit Systems and Growth Potential of the EU," Discussion Papers 1122, The Research Institute of the Finnish Economy.
    2. Alho, Kari & Nikula, Nuutti, 2007. "Productivity, Employment and Taxes - A SVAR Analysis of Trade-offs and Impacts," Discussion Papers 1074, The Research Institute of the Finnish Economy.
    3. Alho, Kari O.E. & Nikula, Nuutti, 2006. "Productivity, Empoyment and Taxes - Evidence on the Potential Trade-offs and Impacts in the EU," Discussion Papers 1054, The Research Institute of the Finnish Economy.
    4. Alho, Kari E.O., 2006. "Structural Reforms in the EU and Political Myopia in Economic Policies," Discussion Papers 1050, The Research Institute of the Finnish Economy.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Stefan Boeters & Michael Feil & Nicole Gürtzgen, 2007. "Discrete Working Time Choice in an Applied General Equilibrium Model," Computational Economics, Springer;Society for Computational Economics, vol. 29(3), pages 427-427, May.
    2. Arntz, Melanie & Boeters, Stefan & Gurtzgen, Nicole, 2006. "Alternative approaches to discrete working time choice in an AGE framework," Economic Modelling, Elsevier, vol. 23(6), pages 1008-1032, December.
    3. Arntz, Melanie & Boeters, Stefan & Gürtzgen, Nicole & Schubert, Stefanie, 2008. "Analysing welfare reform in a microsimulation-AGE model: The value of disaggregation," Economic Modelling, Elsevier, vol. 25(3), pages 422-439, May.
    4. Melanie Arntz & Stefan Boeters & Nicole Gürtzgen & Stefanie Schubert, 2006. "Analysing Welfare Reform in a Microsimulation-AGE Model," Computing in Economics and Finance 2006 109, Society for Computational Economics.
    5. Alho, Kari E. O., 2008. "Tax/benefit Systems and Growth Potential of the EU," Discussion Papers 1122, The Research Institute of the Finnish Economy.
    6. Alho, Kari & Nikula, Nuutti, 2007. "Productivity, Employment and Taxes - A SVAR Analysis of Trade-offs and Impacts," Discussion Papers 1074, The Research Institute of the Finnish Economy.
    7. Andreas Peichl, 2009. "The Benefits and Problems of Linking Micro and Macro Models — Evidence from a Flat Tax Analysis," Journal of Applied Economics, Taylor & Francis Journals, vol. 12(2), pages 301-329, November.
    8. Albert Jan Hummel & Bas Jacobs, 2018. "Optimal Income Taxation in Unionized Labor Markets," Tinbergen Institute Discussion Papers 18-064/VI, Tinbergen Institute.
    9. Boeters, Stefan & Savard, Luc, 2011. "The labour market in CGE models," ZEW Discussion Papers 11-079, ZEW - Leibniz Centre for European Economic Research.
    10. Stefan Boeters & Nicole Gürtzgen & Reinhold Schnabel, 2006. "Reforming Social Welfare in Germany: An Applied General Equilibrium Analysis," German Economic Review, Verein für Socialpolitik, vol. 7(4), pages 363-388, November.
    11. Peichl, Andreas, 2008. "The benefits of linking CGE and Microsimulation Models - Evidence from a Flat Tax analysis," FiFo Discussion Papers - Finanzwissenschaftliche Diskussionsbeiträge 08-6, University of Cologne, FiFo Institute for Public Economics.
    12. Mouez Fodha & Patricia Le Maitre, 2007. "Demographic Transition, Involuntary Unemployment and Intergenerational Redistribution: simulations in an AGEM framework [Transition démographique, chômage involontaire et redistribution intergénéra," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) halshs-00144652, HAL.
    13. Hummel, Albert Jan & Jacobs, Bas, 2023. "Optimal income taxation in unionized labor markets," Journal of Public Economics, Elsevier, vol. 220(C).
    14. Antón, Arturo & Boyd, Roy & Elizondo, Alejandra & Ibarrarán, María Eugenia, 2016. "Universal social insurance for Mexico: Modeling of a financing scheme," Economic Modelling, Elsevier, vol. 52(PB), pages 838-850.
    15. Ruud de Mooij, 2007. "Reinventing the Dutch tax-benefit system; exploring the frontier of the equity-efficiency trade-off," CPB Discussion Paper 88, CPB Netherlands Bureau for Economic Policy Analysis.
    16. Mouez Fodha & Patricia Le Maitre, 2007. "Transition démographique, chômage involontaire et redistribution intergénérationnelle : simulations dans un cadre d'équilibre général à générations imbriquées," Documents de travail du Centre d'Economie de la Sorbonne v07011, Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne.
    17. Alho, Kari O.E. & Nikula, Nuutti, 2006. "Productivity, Empoyment and Taxes - Evidence on the Potential Trade-offs and Impacts in the EU," Discussion Papers 1054, The Research Institute of the Finnish Economy.
    18. Stefan Boeters & Michael Feil, 2009. "Heterogeneous Labour Markets in a Microsimulation–AGE Model: Application to Welfare Reform in Germany," Computational Economics, Springer;Society for Computational Economics, vol. 33(4), pages 305-335, May.
    19. Claudio Socci & Francesco Felici & Rosita Pretaroli & Francesca Severini & Renato Loiero, 2021. "The Multisector Applied Computable General Equilibrium Model for Italian Economy (MACGEM-IT)," Italian Economic Journal: A Continuation of Rivista Italiana degli Economisti and Giornale degli Economisti, Springer;Società Italiana degli Economisti (Italian Economic Association), vol. 7(1), pages 109-127, March.
    20. Stefan Boeters, 2013. "Optimal Tax Progressivity in Unionised Labour Markets: Simulation Results for Germany," Computational Economics, Springer;Society for Computational Economics, vol. 41(4), pages 447-474, April.

    More about this item

    Keywords

    employment; tax and benefit policies; wage formation; CGE model;
    All these keywords.

    JEL classification:

    • J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials
    • J32 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Nonwage Labor Costs and Benefits; Retirement Plans; Private Pensions
    • H20 - Public Economics - - Taxation, Subsidies, and Revenue - - - General

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:rif:dpaper:1008. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Kaija Hyvönen-Rajecki (email available below). General contact details of provider: https://edirc.repec.org/data/etlaafi.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.