Question

 

Q.1) A government is considering to introduce a benefit receipt system that gives a cash grant of 1000$ to individuals if they are not working.

a) Assume the individual would decide to work without the benefit receipt system in place. Show both graphically and explain in your own words why the individual decides not to work anymore after the introduction of the cash grant.

b) What happens to the individual’s reservation wage after the introduction of the cash grant? Clearly mark the budget line that corresponds to the reservation wage both before and after the introduction of the cash grant in your graph.

c) Suggest an alternative type of programme that would incentivize labour force participation. What are the advantages of this programme? Are there any disadvantages of such a programme?

Answer 1

a. Individual decides against working because he gets a grant of $1000 without working. since working gives negative marginal utility, he is better off without working.

b. Individual's reservation wage increases after the introduction of the grant because even if he doesn't work he gets $1000 and se would decide to work only if he gets much higher utility and that he can get if he is paid alot more, so the minimum wage at which he would be willing to work goes up.

the budget line shifts up with the introduction of grant.

c. Govt could use the earned income credit (EIC) that helps certain taxpayers with low incomes from work in a particular tax year. The EIC reduces the amount of tax owed on a dollar-for-dollar basis and may result in a refund to thetaxpayer if the amount of the credit is greater than the amount of tax owed. This is a type of subsidy provided by the govt to low income workers. this would increase labour force participation rate because workers are entitled to the benefit only after they work.

The EITC has a high error and fraud rate, and for most recipients it creates a disincentive to increase earnings. Also, the refundable part of the EITC imposes a very high cost on other taxpayers, reducing their incentives to work, invest, and pursue other productive activities.The costs of the EITC are likely higher than the benefits. As such, the program should be cut, not expanded. Policymakers could better aid low-income workers by removing government barriers to investment, job creation, and entrepreneurship.