Investing in the youngest: the optimal child care policy

The aim of the paper is to characterize the optimal child care policies (subsidies and state provision), assuming that child care provision affects the child�s future abilities. Public intervention is needed since two sources of economic inefficiency are contemporaneously influential: parents do not properly account for the impact of child care on future generations (human capital externalities) and income tax is distortive, hence labour supply is suboptimal. In an optimal income tax model, altruistic parents provide child care either by providing care at home or by paying for it on the market. If the government is able to observe the amount of domestic care provided by parents, it is optimal to subsidize provision of paid child care if only to correct the human capital externality. If, conversely, it is not possible to observe the amount of domestic care, market-provided child care is subsidized, including for redistributive reasons. In fact, an efficiency case for higher child care subsidies to lower income earners arises. State provision of child care may be desirable when market care purchases cannot be observed at the household level.