The labour market impact of the Working Families' Tax Credit

In his latest Budget, Gordon Brown confirmed the Government's preference for tax credits as a means of delivering financial support to low-income families. The first of these, the Working Families' Tax Credit (WFTC), was introduced in October 1999 amid claims that it would "improve work incentives, encouraging people without work to move into employment [HM Treasury Press release, 17 March 1998].

Research at the IFS has sought to evaluate this claim. In a paper published today in Fiscal Studies, IFS researchers Richard Blundell, Alan Duncan, Julian McCrae and Costas Meghir consider the impact of WFTC on household income and employment. Their method of analysis combines a large-scale household survey (the Family Resources Survey) with the IFS tax and benefit model TAXBEN3 to model both the distributional changes and the labour supply responses to the WFTC. From a distributional point of view, they find that:

• working lone parents are most likely to benefit from the WFTC reform. Nearly 80% of lone parents in part-time paid employment (of between 20 and 30 hours) will benefit from the new tax credit.
• for women in couples where the male partner is in work, the WFTC will be most generous to households in which the women are not in paid employment; around one third of this group will benefit from the introduction of the tax credit. For women in part-time work, the figure falls to around 5%.

The economic model used to simulate the impact of WFTC on hours and employment allows for fixed costs of employment and for childcare costs which vary with hours of work and the quality of childcare used. Assuming full take-up for the pre-existing Family Credit and other benefits and full take-up of the new tax credit , the authors' analysis (summarised in Table 1) suggests that:

• The participation rate for single mothers will increase by 2.2 percentage points, corresponding to 34,000 individuals.
• The participation rate for married women with employed partners will decrease by 0.57 percentage points, a decline which corresponds to around 20,000 individuals.
• The combined behavioural effects of the WFTC imply a small increase in overall participation by just under 30,000 individuals.
• Labour supply responses to the WFTC will act to reduce the cost of the program by around 14%.

Table 1. Simulated Responses to WFTC

Note: (1) On data evidence, men in our model are restricted to a choice between not working and full-time employment.

Ends

Notes to editors

1. The article "The Labour Market Impact of the Working Families' Tax Credit" by Richard Blundell, Alan Duncan, Julian McCrae and Costas Meghir is published in Fiscal Studies, vol. 21, No. 1. This is available from the Institute for Fiscal Studies, 7 Ridgmount Street, London, WC1E 7AE, 020 7291 4800, @email
2. Current Fiscal Studies articles are now available online to institutional subscribers from Wiley.
3. Contacts:Alan Duncan or Richard Blundell, IFS, 020 7291 4800