Three of my ANU colleagues point out that if you cut the taxes of high income earners, they’ll work more. So the estimated income changes flowing from the 2005 tax cuts put around by myself (for households) and the government (for individuals) are an underestimate of the true increase to be expected.
On the other hand, if we’re thinking about fairness, I’d probably still use my own figures in preference to the Breunig, Cobb-Clark and Gong numbers, since mine reflect the amount of cash that we’ve put in people’s hands, while theirs take account of extra earnings that the rich will gain by foregoing some leisure.
Improving the Modeling of Couples’ Labour Supply
Robert Breunig, Deborah Cobb-Clark, Xiaodong Gong
We study the work hours of Australian couples, using a neoclassical labour-supply model in which couples choose from a small, realistic set of possible wife-husband working hour combinations. We introduce three improvements to this standard model. First, we allow partners’ preferences about non-market time to be correlated. We also correct the estimates to accunt for the fact that we estimate the non-observable wage rates of individuals who do not work. Lastly, we allow each individual’s preferences for non-market time to be correlated with her or his wage rate. These changes, which substantially enhance the realism of the standard, discretized labour-supply model, also have an important impact on the results. We estimate the model using HILDA data and find wage elasticities of labour supply – 0.26 for men and 0.50 for women – that are twice as large as those found without these three innovations. Using simulation methods, we then analyze the expected impact of the 2005/06 Australian tax reform. As a result of the tax cuts, we expect working hours to increase by 1.7 per cent for both men and women and household after-tax incomes to increase by approximately $60 per week on average. For families with two wage earners, each earning between $25,000 and $55,000 per year, our model predicts an after-tax increase in income of $38 after accounting for these labour supply effects – much larger than the Australian Government’s own prediction of $12, which does not allow for labour supply effects.
The paper managed to garner some publicity even before it was finished – see this SMH report from 11 August.