Taxes and Benefits: Work Incentive Effects of Policies

Using net replacement rates between net household income while out of work and in work, the authors investigate to what extent taxes and benefits may affect work incentives. They find that in 2006, net replacement rates are higher for low-income households and for households with children and a partner, attenuating work incentives. Work incentives are significantly affected by eligibility rules and the amounts of benefits, particularly unemployment benefit and social assistance. Next, the authors examine how the reform of social benefits introduced in 2007 affects work incentives. While social assistance is less generous, diminishing the incidence of high net replacement rates, the reform gives preferential treatment to households with some work income. Net replacement rates are also higher for households with children, who receive a substantially higher housing benefit, but some less well-off households consequently receive less social assistance. The authors also see that increased parental allowance has the same crowding-out effect on other income-tested benefits as higher housing benefit has on social assistance. In addition, the rise in parental allowance may lock eligible individuals in non-employment, increasing the loss of human capital. This is particularly important for lone parents, who face the highest specific unemployment rate compared to other household types.