Research

Who Does The Earned Income Tax Credit Benefit?

April 13, 2021
Working Paper—The popular EITC program is credited with encouraging employment and reducing poverty. But a SCEPA working paper suggests it may also reduce wages for low-education workers, including older workers who do not receive EITC benefits at the same rate as younger workers.

"Who Does the Earned Income Tax Credit Benefit? A Monopsony View," a new working paper by SCEPA research associates Owen Davis and Aida Farmand, explores potential drawbacks of the largest anti-poverty cash transfer program in the U.S. The authors present evidence that while the Earned Income Tax Credit (EITC) encourages employment and reduces employee turnover, it also reduces wages for low-education workers. This includes not only the younger target population of the EITC but also older workers who do not receive EITC benefits at the same rate.

The EITC provides refundable tax credits to low-income workers, with the highest refunds going to working parents of children 18 and younger. Tens of millions of workers receive the federal EITC every year, many of whom also receive EITC supplements provided at the state level. While the policy is credited with encouraging employment and reducing poverty, it has the potential drawback that subsidizing low-wage work may depress wage growth 

This study examines the effects of the EITC from the point of view of monopsony theory. An alternative to perfect competition labor economics, where employers have to hire workers at the going wage, monopsony acknowledges that employers have the ability to set wages and control the quality of jobs offered. This approach highlights the specific mechanisms by which the EITC may work to the advantage of some workers while disadvantaging others. The authors test the effects of the EITC using an empirical method that compares outcomes across states with different state-level EITC policies. The results prompt a reconsideration of the equalizing effects of the EITC, particularly for groups like older low-wage workers who face slower wage growth as a result of the policy but do not receive the same level of EITC benefits on average.