In-Work Benefits for Married Couples: An Ex-Ante Evaluation of EITC and WTC Policies in Italy

This paper investigates labor supply and redistributive effects of in-work benefits for Italian married couples using a tax-benefit microsimulation model and a multi-sectoral discrete choice model of labor supply. We consider in-work benefits based on the Earned Income Tax Credit (EITC) and the Working Tax Credit (WTC) existing in the US and the UK, respectively. The standard design of these income support mechanisms is however augmented with a premium for two-earner households to avoid potential disincentive effects on secondary earners. Revenue neutral policy simulations show that our reforms may greatly improve the current Italian tax-benefit system in terms of both incentive and redistributive effects. Furthermore, neglecting sector-specific attributes of the various job opportunities may lead to an oversimplified representation of the choice set that does not allow to capture some labor market transitions and thus results in attenuated labor supply responses.


Introduction
In-work benefits are usually promoted as income support mechanisms that encourage employment in the low-skilled population, while maintaining high levels of social protection. This twofold objective is achieved by providing mean-tested transfers to low-income households with eligibility conditional on some employment requirement to avoid the harmful disincentive effects of the welfare trap. Pioneering in-work benefit schemes are the Earned Income Tax Credit (EITC) in the US and the Working Tax Credit (WTC) in the UK, but similar policies have been recently implemented in a number of OECD countries.
Despite the general consensus on effectiveness of these welfare instruments for lone parents, the design of in-work benefits for married couples is still muddied by important concerns. Economic theory and previous empirical evidence suggest that family-based schemes, where the benefit is mean-tested against household income, generally promote employment among primary household earners (Eissa and Liebman 1996;Blundell 2000;Blundell and Hoynes 2004;Eissa and Hoynes 2004; Bargain and Orsini 2006). Such schemes are likely to create, however, negative labor supply effects on secondary earners as their earnings may move households in regions of the budget set with high marginal tax rates (Eissa and Hoynes 2004). To contrast these unintended disincentive effects, some countries have experienced individual-based schemes where the benefit is mean-tested against individual income (Immervoll and Pearson 2009). In this case, however, the major concern is on a less efficient targeting of redistributive effects since transfers may also be provided to lowincome workers in well-off households. Whether labor supply incentives and redistributive effects can be reconciled into a single welfare instrument is still an open issue. This paper contributes to the literature on in-work benefits by proposing an innovative design of EITC and WTC schemes for married couples aimed to overcome potential disincentive effects on secondary earners. Our strategy consists of introducing a new benefit premium for two-earner household within otherwise standard family-based schemes that preserve an efficient targeting of redistributive effects towards poor working households. Effectiveness of the resulting in-work benefit schemes is assessed by means of policy simulations on the 2008 Italian tax-benefit system using a national tax-benefit microsimulation model and a structural model of labor supply. Unlike most of the previous studies using a similar policy evaluation approach, our structural model of labor supply draws upon the multi-sectoral discrete choice framework by Dagsvik and Strøm (2006) that jointly accounts for nonlinear and nonconvex budget sets, hourly wage differentials among jobs of different sectors, prediction errors in the hourly wages, observed and unobserved heterogeneity, and sector-specific quantity constraints. The original setup of the multi-sectoral model for a single decision maker is extended, within a unitary framework, to the case of two decision makers to capture labor supply responses of both spouses. Further, we assess the implications of using alternative model specifications by comparing our multi-sectoral model with a simpler benchmark that ignores sector-specific attributes of the various job opportunities.
Differently from earlier ex-ante evaluations of in-work benefits for Italy (Figari 2011 andColonna andMarcassa 2011), our policy simulations focus on EITC and WTC in-work benefits for Italian married couples with a special emphasis on the new benefit premium for two-earner households.
Policy reforms are simulated under tax revenue neutrality by considering the abolition of Italian family allowances (FA) for dependent employees and contingent workers. We find that in-work benefits with a suitable set of incentives for secondary earners may have strong positive effects on labor supply of wives, weak negative effects on labor supply of husbands, and strong positive effects on equity. The EITC is more effective than the WTC in boosting employment of wives, while the WTC is more effective than the EITC in fighting poverty. Most labor supply responses take place in the private sector where jobs are characterized by lower hourly wages than the public sector.
Furthermore, we show that neglecting sector-specific attributes of the various job opportunities may lead to an oversimplified representation of the choice set which does not allow to capture some labor market transitions and thus results in attenuated labor supply responses.
The remainder of the paper is organised as follows. Section 2 provides a brief review of the EITC in the US and the WTC in the UK. Section 3 describes the Italian FA and formalizes the EITC and WTC schemes simulated in our study. Section 4 presents our multi-sectoral discrete choice model of labor supply for married couples. Section 5 describes the data and the tax-benefit microsimulation model. Estimates of the two labor supply models and their labor supply elasticities are presented in Section 6, while policy simulations are presented in Section 7. Finally, Section 8 concludes.

In-work benefits in the US and the UK
This section reviews main features, incentive effects, and previous empirical findings of the in-work benefits existing in the US and the UK, respectively. A common feature of both welfare programs is that low-income households are entitled to a refundable tax credit (or benefit) provided that at least one adult member works and other eligibility criteria are satisfied.

Earned Income Tax Credit
The EITC was introduced in the 1970s as a negative income tax program with eligibility conditional on employment. Although it started as a modest program for low-income families with children, the EITC went through several expansions in 1986, 1990, and 1993 and is now considered a key pillar of the welfare system in the US.
To be eligible for the EITC, the taxpayer needs meet two conditions: (i) positive earned income from employment or self-employment, and (ii) earned income, adjusted gross income and investment income below certain thresholds. Conditional on eligibility, the credit entitlement depends on family earned income according to separate schedules by filing status and number of eligible children. The left panel of Figure 1 illustrates the 2011 EITC schedule of married filers by number of eligible children. Each schedule includes a phase-in region where the credit is initially increased at a certain subsidy rate, a flat region where the credit is kept constant at the maximum amount, and a phase-out region where the credit is reduced at a certain tapper rate. Subsidy rate, maximum credit amount, and tapper rate vary with the number of eligible children leading to a more generous welfare program in favor of large households. 1 As discussed in Eissa and Liebman (1996) and Hoynes (2004, 2011), economic theory predicts an unambiguously positive effect of the EITC on labor force participation of primary household earners. The incentive effects on hours worked are expected to be ambiguous for people in the phase-in region and unambiguously negative for people beyond the phase-in region. Secondary earners of married couples, many of whom are women, have instead an incentive to reduce both labor force participation and hours worked since their earning may move the household in the phase-out region of the EITC schedule. These theoretical predictions are supported by empirical findings from quasi-experimental studies based on the various EITC expansions. For single parents, there is evidence of strong positive effects on labor force participation and small negative effects on hours worked (Dickert et al. 1995;Eissa and Liebman 1996;Liebman 1998;Meyer and Rosenbaum 2001). For married couples, Eissa and Hoynes (2004) find a reduction of labor force participation due to a small rise in participation of husbands and a sizable reduction in participation of wives, while Neumark and Wascher (2001) find a negative effect on hours of work among poor households with a working adult.

Working Tax Credit
The UK has a long history of in-work benefits. The Family Income Supplement was introduced in 1971 and then replaced by the Family Credit in 1988. After a number of reforms during the early 1990s, the Working Families' Tax Credit was introduced in 1999 and then replaced again by the Child Tax Credit and the Working Tax Credit (WTC) in 2003. Below, we focus on the more recent WTC which extended eligibility to childless households.
To be eligible for the WTC, the claimant must work a minimum number of hours per week (either 16 or 30) and fulfill other conditions related to either age, disability, responsibility for children or previous periods of unemployment benefits. The maximum credit entitlement is made up of a basic element for eligibility plus a set of additional elements for the presence of a second adult, being a lone parent, working at least 30 hours per week, having a basic or severe disability, and sustaining formal childcare costs. The effective amount of the credit is mean-tested against gross annual income before tax and national insurance contributions (jointly assessed in the case of couples). Specifically, it is equal to the maximum credit if income does not exceed a fixed disregard and is reduced at a certain taper rate above this disregard. As illustrated in the right panel of Figure 1, an important difference with the EITC is the lack of a phase-in region. Moreover, as the claimant works 30 hours or more per week, one can observe an upward shift of the maximum credit entitlement due to the 30 hour element of the WTC schedule. 2 Theoretical predictions and empirical findings on the incentive effects of the WTC line up with those discussed above for the EITC. There is evidence of strong incentives on employment of single mothers, weak disincentive effects on employment of married women whose husbands work (see Blundell et al. 2000, Brewer et al. 2006, and Francesconi and van der Klaauw 2007, and positive effects on hours worked by those in employment (Leigh 2007) and lone mothers working part-time (Gregg et al. 2009). As pointed out by Blundell et al. (2002), the British WTC has two distinguishing features. First, the minimum hours limit placed on eligibility may weaken the incentive effects on labor force participation. This conjecture is supported by a differencein-difference analysis of the 1992 reform to the Family Credit which reduced the minimum hours limit from 24 to 16 hours per week. Second, the additional element for full-time work (the 30 hour element) may help offset the disincentive effects on hours of work which are typically observed in the EITC.

Policy reforms
Family-based in-work benefits which are mean-tested against household income are usually well targeted to poor working households. For the same reason, however, these welfare programs are likely to create disincentive effects on secondary earners and hence are not advisable in cases where married women are the population group of interest. In this section, we present an innovative design of the EITC and the WTC to deal with this issue. Before formalizing the schedules of these in-work benefit schemes, we first describe the Italian FA program to be abolished for financing the new welfare programs.

The Italian FA program
The Italian FA program provides family-based benefits that are exempt from taxation and meantested against number of eligible household members, household composition and gross household income. Its schedule distinguishes 15 household typologies depending on the number of adult members, their civil status, and the presence of children and disabled individuals. Our analysis focuses on four household typologies consisting of a married couple, no disabled member and (i) no children, (ii) one child, (iii) two children, and (iv) three children.
People entitled to claim for FA are dependent employees, contingent workers, unemployed covered by the unemployment benefit system, and former-employees pensioners. Self-employed workers are excluded from the program since at least 70% of gross household income is required to be from wages, salaries, former-employee pensions and other benefits granted to dependent employees.
Gross household income is defined as the sum of earnings from employment and self-employment, taxable non-labor incomes, and other non-taxable incomes if above 1, 033 Euro. Figure 2 shows that FA are strictly increasing with household size and non-increasing with gross household income. With the exception of childless couples, each schedule is characterized by a flat region where poor households receive the maximum benefit and three subsequent phase-out regions where the benefit is reduced at certain tapper rates. Although this is considered a welfare program to alleviate poverty, one can see that the benefit expires at rather generous income cut-off points.
As discussed below, our in-work benefit reforms impose moderately lower income limits to collect resources from the right-hand-side of the household income distribution. These resources are then used to finance a suitable scheme of incentives for secondary earners of low-income households.

The EITC policy reform
Our EITC policy reform grants a benefit exempt from taxation which is mean-tested against gross household income and household size. Eligibility to the EITC is restricted to households with positive earnings and the underlying policy coefficients are determined to ensure tax revenue neutrality for each household type after taking into account both the abolition of the FA program and potential labor supply responses.
The EITC schedule for one-earner households has the standard form where E * c is the maximum benefit provided in the flat region, t 1c = E * c /G 1c is the subsidy rate of the phase-in region, t 2c = E * c /(G 3c − G 2c ) is the tapper rate of the phase-out region, G tc , t = 1, 2, 3, are the income cut-off points, and G is gross household income. The EITC schedule for two-earner households presents two important differences. First, it provides a higher maximum where p c ≥ 0 is the new benefit premium for two-earner households. Second, it extends the phase-in and phase-out regions to avoid too binding constraints on gross household income. By imposing that the length of the flat region, the subsidy rate and the tapper rate do not change, the income cut-off points of the schedule for two-earner households are set tō Figure 3 illustrates the EITC schedule used in the first scenario our policy simulations. The benefit premium for two-earner households is fixed at p c = 1 for all household types. The income cut-off points G 1c , G 2c , and G 3c are fixed to 50%, 100% and 150% of the poverty line in the baseline tax-benefit system and are allowed to vary across household types according to the coefficients of the Carbonaro equivalence scale. Compared to FA, our EITC policy imposes more binding income cut-off points. Poor households may receive a lower benefit, but as gross household income increases the EITC schedule provides a higher benefit.

The WTC policy reform
Our WTC policy reform grants a benefit exempt from taxation which is mean-tested against hours of work, gross household income and household size. Eligibility to the WTC is restricted to households with at least one adult person working 16 hours per week or more. The maximum benefit entitlement is made up by three components: the basic element W * 1c , the second adult element W * 2c and the 30 hour element W * 3c . We assume that W * 1c is provided to all eligible households, W * 2c is provided to households where both spouses work at least 16 hours per week, and W * 3c is provided to households where both spouses work at least 30 hours per week. Similarly to the EITC, the basic element W * 1c is determined to guaranty tax revenue neutrality for each household type. The other two elements are instead fixed to W * 2c = p c W * 1c and W * 3c = q c W * 1c , where p c ≥ 0 is the benefit premium for two-earner households and q c ≥ 0 is the benefit premium for working full-time.
The WTC schedule for households who are only entitled to the basic element has the standard form is the tapper rate of the phase-out region, and G 2c and G 3c are the income cut-off points delimiting the phase-out region. Notice that, in this schedule, the first income cut-off point of the flat region is defined implicitly by the eligibility condition placed on hours of work and it varies across households as a function of hourly wages of both spouses and non-labor household income. Households who are entitled to the second adult element face a similar WTC schedule with maximum benefit For households who are entitled to the 30 hours element, the maximum benefit isW * c = W * 1c +W * 2c +W * 3c and the income cut-off points areG 2c = G 2c andG 3c = G 3c +(p c +q c ) (G 3c −G 2c ). Thus, two-earner households are entitled to a higher maximum benefit and are subject to a larger phase-out region.
The flat region and the tapper rate of the phase-out region are instead kept constant. Figure 4 illustrates the WTC schedule used in the first scenario of our policy simulations. For comparability with the EITC, we set the benefit premium for two-earner households to p c = 1, the benefit premium for working full-time to q c = 0.5, and the income cut-off points G 2c and G 3c to 100% and 150% of the poverty line in the baseline tax-benefit system multiplied by coefficients of the Carbonaro equivalence scale for household type c. Compared to the EITC, the WTC schedule is particularly targeted to households with low hourly wages and includes additional incentives to encourage full-time work.

Structural model of labor supply
Our approach to estimate labor supply responses of married couples to changes of the tax-benefit system relies on a generalization of the multi-sectoral discrete choice model of labor supply for a single decision maker developed by Dagsvik and Strøm (2006) and Dagsvik et al. (2011).

A multi-sectoral model of labor supply for married couples
Like the bulk of the labor supply literature, we consider a unitary framework where husband and wife maximize a common utility function that depends on their own leisure, their spouse leisure, and disposable household income. 3 The utility of the couple is is a positive random taste shifter, and s = (s m , s f ) and k = (k m , k f ) index, respectively, the sector combination and the combination of jobs for the husband and the wife. The random error ϵ(s, k) is assumed to be identically and independently distributed across households, sectors and jobs with distribution function The budget constraint of the couple, which incorporates earnings of the husband and the wife, non-labor household income, taxes and benefits, is represented by where h m and h f are the hours of work of the husband and the wife, ω m (s m ) and ω f (s f ) are their sector-specific hourly wages, I is non-labor household income, and ψ is a tax-benefit function mapping gross incomes into disposable household income. Provided that the utility is increasing in y, one can substitute the budget constraint into the utility function to obtain The where P is a normalization constant of the form The choice probabilities of the other job pairs have a similar form. Equation (1) suggests that the reduced form of the model is analogous to a multinomial logit model where the systematic part of the utility function is weighted by the number of jobs available to the two spouses. As in Dagsvik and Strøm (2006), we can employ an alternative parametrization of the number of available jobs It follows that θ i (s i ) measures the number of job opportunities relative to nonworking opportunities that are available to spouse i in sector s i , whereas g i (z i ) measures the share of jobs with h i hours of work that are available to spouse i in sector s i .

Empirical specification and estimation
The empirical specification of our model distinguishes between jobs in the public and private sectors to capture the sizeable wage differentials existing in these two sectors of the Italian labor market The logarithm of the systematic component of the utility function has a quadratic form, where v ⊤ = (l m , l f , y), and A and b are a symmetric 3 × 3 matrix and a three-dimensional vector of unknown parameters. This functional form is a good compromise between flexibility and ease of estimation because it is locally second order flexible and linear in its parameters (Callan et al. 2009). Preferences variation across couples is introduced through the linear coefficient of each spouse's leisure (i.e. the coefficients on l m and l f ) The job availability measures ln θ m and ln θ f are linearly related to gender-specific regional unemployment rates, two indicators for education attainment, plus interactions with the corresponding education scores.
Wage rates are allowed to vary across jobs in different sectors but not across jobs within the same sector. To deal with the issue of unobserved wages, we estimate a hourly wage equation for each sector in an early stage. Estimation is done separately for husbands and wives using a variant of the Heckman two-step procedure to account for the selection bias (Dagsvik and Strøm 2006). In the first step, we estimate a multinomial choice model with three alternatives: non-participation, working in the public sector and working in the private sector. In the second step, we estimate a sector-specific hourly wage equation including the logarithm of the probability of working in that sector (with negative sign) as bias correction term. Identification is attained through a set of exclusion restrictions: a second-order polynomial in non-labor income, number of children, and indicators for children aged less than 3 years and working status of the spouse. The covariates in the second step include second-order polynomials in age and experience, two indicators for education attainment plus interactions with the corresponding final grades at school, gender-specific regional unemployment rates, and two indicators for leaving in the Center and the South of Italy. Hourly wage predictions incorporate random errors for unobserved heterogeneity in wages. Thus, our model includes four additional random components η = (η m1 , η m2 , η f 1 , η f 2 ) for prediction errors in the sector-specific hourly wages of the two spouses.
Conditional on the random components ξ = (ζ m , ζ f , η m1 , η m2 , η f 1 , η f 2 ) for unobserved het- Provided that R goes to infinity faster than the square root of the number of observations, the resulting SML estimator is asymptotically equivalent to the exact maximum likelihood estimator (Hajivassiliou and Ruud 1994).

Labor supply predictions
For any given tax-benefit system, labor supply choices are predicted through the four-step procedure suggested by Creedy and Duncan (2002). First, we draw 50 realizations from the Extreme value distribution and the estimated distribution of the parameter estimates such that, under the baseline tax-benefit system, predicted probabilities are optimal at the observed choices. 4 Second, we use the maximum probability rule to allocate each couple to the alternative with the highest predicted probability. Third, we repeat the first two steps after a policy reform and create transition frequencies using the same random draws selected in the first step. Forth, we compute point estimates and standard errors of labor supply responses taking the mean and the standard deviation of the transition frequencies across the 50 replications.

Data and microsimulation model
The data are from the 2008 wave of the Survey on Household Income and Wealth (SHIW), a biannual household survey administrated by the Bank of Italy. The accounting rules defining the which covers social security contributions, taxes and public transfers. 5 The working sample employed in our analysis consists of 1, 982 married couples in which the husband and the wife are both aged between 20 and 65 years and any of them is neither disabled, retired, in education, nor engaged in self-employment activities. The descriptive statistics presented in Appendix A show that labor supply is higher for husbands than for wives due to both the higher participation rate (93% and 53%, respectively) and the larger number of worked hours (40 and 32 hours per week, respectively). Hourly wages are also higher for husbands than for wives (13.34 and 12.04 Euro, respectively) and for both spouses there is a public-private wage differential of about 4 Euro. The hours of work distributions in Figure 5 show that the peaks associated with full-time jobs in the private sector occur at 40 hours per week for both spouses. In the public sector, the peaks at 40 hours per week are sizeable, but the mode of the distribution is 38 hours for wives and 36 hours for husbands. In both sectors, there is also a conspicuous fraction of wives employed in part-time jobs with 20 − 30 weekly hours of work. with those of a benchmark model (labeled as Model 1) which ignores sector-specific attributes of the jobs offered to the two spouses. 6 Both models are estimated via SML using R = 50 draws from the distribution of the random errors in ξ.

Estimation results
The upper panel of Table 1 refers to estimated coefficients of the utility function, including the interactions between the linear coefficient of each spouses's leisure and socio-demographic characteristics. The estimates of these coefficients do not differ much between Models 1 and 2, their standard errors are remarkably small, and the random effects for unobservable heterogeneity in the preferences do not seem to play an important role. The first and the second order conditions in van Soest (1995) implies that the deterministic part of the utility function is increasing in disposable household income and quasi-concave for all sample observations. A positive coefficient on the interactions between leisure terms and socio-demographic characteristics can be interpreted as a positive effect on the marginal utility of leisure or, equivalently, as a negative effect on labor supply.
Accordingly, we find that labor supply has an inverted U-shaped age profile with a maximum at wives' labor supply, while the presence of young children has negligible effects. These findings line up with earlier results in Aaberge et al. (1999) and Figari (2011)

Simulation of EITC and WTC reforms
As explained in Section 3, our policy reforms involve substituting the Italian FA program with a new in-work benefit program based on either the EITC or the WTC. Overall, we carry out four policy simulations for each in-work benefit scheme. In the first scenario, the benefit premium for twoearner households is fixed to 1. Other things being equal, this means that two-earner households are entitled to a double maximum benefit with respect to one-earner households. In the other three scenarios, we analyze sensitivity of our results to the benefit premium for two-earner households by Heterogeneity of labor supply responses across population groups seems to be substantial. The incentive effects of both reforms are strongly increasing with household size and decreasing with disposable household income. Under the EITC (WTC) reform, the relative variation of the unconditional hours worked by wives ranges from a minimum of 0.28% (0.19%) for childless couples to a maximum of 8.03% (7.37%) for couples with three children. Since these reforms are calibrated 7 The HCR is defined by the proportion of households with disposable income below the poverty line, while the PGR is defined by the mean gap between poverty line and disposable household income as a proportion of the poverty line by counting the non-poor as having zero poverty gap.
to ensure no financial transfer across household types, this positive gradient mostly reflects the generosity of FA in favor of large households. The negative gradient with respect to disposable household income reflects instead two effects: the decreasing labor supply elasticities across income deciles and the redistributive nature of our reforms that impose more binding income cut-off points than the FA program. As a consequence, most labor supply responses are found at the bottom of the disposable household income distribution where wives increase their unconditional hours of work by 14.78% under the EITC reform and by 10.66% under the WTC reform.
Models 1 and 2 lead to qualitative similar policy considerations, but our multi-sectoral model (i.e. Model 2) leads to a substantially higher labor supply effects. These results are consistent with our previous findings on the labor supply elasticities. The most striking discrepancies between the two labor supply models occur again for the participation probabilities of wives, especially those living in large households and at the bottom of the disposable household income distribution.
The redistributive effects in Table 5 suggest that our in-work benefit reforms may also improve upon the baseline tax-benefit system in terms of equity. The mean of disposable household income increases by 0.41% under the EITC reform and by 0.45% under the WTC reform. Moreover, such effects are increasing with household size. The effects of the EITC on poverty are less clear-cut: the HCR decreases by 0.67%, but the PGR increases by 6.44%. Hence, we find a reduction in the number of poor households but also a deterioration in the living standards of those who remain poor. This undesirable effect on the PGR may be a consequence of the phase-in region of the EITC schedule which implies that households with disposable income far below the poverty line are usually entitled to a lower benefit than that received with the original FA program. Uncontroversial results on poverty reduction are achieved by the WTC reform which leads to a reduction of 8.99% of the HCR and 2.86% of the PGR. Table 6 presents the results of our sensitivity analysis on the benefit premium for two-earner households. Here, we consider four alternative scenarios of the EITC and WTC schemes by varying p c between 0 and 1.5 with step 0.5. The income cut-off points G tc , t = 1, 2, 3, and the WTC benefit premium for working full-time q c are left unchanged, while the maximum benefit entitlements E * c and W * c are always determined to ensure tax revenue neutrality for each household type. As expected, higher values of the benefit premium for two-earner households lead to stronger labor supply effects and weaker redistributive effects. Hence, under tax-revenue neutrality, the choice of this policy coefficient generate a trade-off between these two competitive objectives. The EITC and WTC scenarios with p c = 0 are particularly interesting as they correspond to standard in-work benefit schedules with no benefit premium for two-earner households. In this setting, the participation probability of wives decreases by 1.03% under the EITC reform and by 0.92% under the WTC reform. For the other simulation scenarios, we find that labor supply effects for wives are increasing with the size of the benefit premium for two-earner households. However, too large values of this policy coefficient may also induce harmful effects on poverty.

Conclusions
In this paper, we have provided an ex-ante evaluation on labor supply and redistributive effects of EITC and WTC in-work benefits for Italian married couples using a tax-benefit microsimulation model and a structural model of labor supply. The novel contribution to the literature on in-work benefits is twofold. First, we have augmented the standard design of EITC and WTC in-work benefits with a new benefit premium for two-earner households to avoid the potential disincentive effects that these family-based schemes typically generate on secondary earners. Unlike the usual dichotomization between family and individual-based in-work benefits, this policy design provides a smooth mechanism for handing the well-known trade-off between labor supply and redistributive effects within a single welfare instrument. Second, the ex-ante evaluation of our in-work benefit reforms is based on a multi-sectoral discrete choice model of labor supply that jointly accounts for nonlinear and nonconvex budget sets, observed and unobserved heterogeneity, hourly wage differentials among jobs of the public and the private sectors, prediction errors in the sectorspecific hourly wages, and sector-specific quantity constraints from the demand side on the number and the type of jobs offered to the two spouses. Comparisons with a simpler model of labor supply that ignores sector-specific attributes of the various job opportunities suggest that the finer representation of the choice set provided by a multi-sectoral framework has important consequences on the estimates of labor supply responses.

children
Notes: The benefit premiums for two-earner households and for working full-time are equal to pc = 1 and qc = .50, respectively, for all household types. The hourly wages of both spouses are fixed to 6 Euro and non-labor household income is fixed to zero. Benefit amounts and gross household income are expressed in 1000 Euro.    Notes: Standard errors are computed using 500 nonparametric bootstrap replications. Asterisks denote a * p-value between 5% and 1%, and a ** p-value below 1%.