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Distributional impact of alternative financing of social security André Decoster Centrum voor Economische Studiën KULeuven m.m.v. Bart Capéau, Kris De.

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Presentation on theme: "Distributional impact of alternative financing of social security André Decoster Centrum voor Economische Studiën KULeuven m.m.v. Bart Capéau, Kris De."— Presentation transcript:

1 Distributional impact of alternative financing of social security André Decoster Centrum voor Economische Studiën KULeuven m.m.v. Bart Capéau, Kris De Swerdt, Kristian Orsini Gerre Verbist Centrum voor Sociaal Beleid Herman Deleeck Universiteit Antwerpen Seminarie FOD Sociale Zekerheid – 13 februari 2006

2 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 2 Structure of the exposition Some insights from tax theory Empirical assessment: incidence analysis of indirect taxes (ASTER) incidence analysis of social security contributions (MISIM) effect of one scenario of shifting financing social security from employee contributions to indirect taxes Summary and plans for further research

3 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 3 Focus of the analysis only one alternative source: indirect tax more specifically VAT but policy relevant (Germany)

4 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 4 Insights from a theoretical perspective tax on labour income is a distortion causing problems remove this tax tax on income from capital (on savings) is unjust distorts labour/capital choice remove this tax

5 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 5 Insights from a theoretical perspective there is a revenue constraint: separate discussion about size of government, amount of public goods about distortion: in absence of lump sum instrument (first best), there is indeed a welfare cost associated with taxation (second best) e.g. labour income tax changes relative price consumption/leisure and induces changes in this choice, can be expressed as efficiency loss of collecting revenue But insight modern public finance: in second best world, removing one single distortion does not necessarily improve the situation (or: you do not minimize welfare loss by minimizing number of distortions)

6 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 6 Insights from a theoretical perspective therefore question becomes: is shift from labour income tax to indirect tax welfare improving: from efficiency point of view (less excess burden) from distributional point of view what is the difference between labour income tax and indirect tax? if proportional, and no other income: NONE! based on fundamental identity: income = spending

7 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 7 Insights from a theoretical perspective tax on labour income tax on consumption

8 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 8 Insights from a theoretical perspective Example:

9 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 9 Insights from a theoretical perspective equivalence implies: one does not remove the distortion from the income tax by switching from labour income tax to a uniform commodity tax using proportional commodity taxes amounts to removing the progressivity of the (labour) income tax Optimal Tax-theory: distortion (of labour income tax) might be decreased by differentiating the indirect tax structure; taxing complements with leisure at a higher rate might be more efficient to redistribute by means of differentiated indirect tax than by means of progressive income tax Conclusion: simplistic argument remove distortion does not hold

10 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 10 Insights from a theoretical perspective what about taxation of savings? income = spending + saving intertemporal model is needed: uniformity result: not taxing saving (expenditure tax) why depart from uniformity? efficiency arguments (new distortion: relative price between consumption now and consumption later is changed) distributional considerations: weight attached to different generations

11 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 11 Insights from a theoretical perspective: conclusion theoretical arguments point in different directions it is the joint effect of all distortions that matters, unilaterally removing just one (or a few) does not necessarily lead to welfare improvement Pareto-improvements (which are at the core of the theoretical analysis) depend on the initial situation. This is not necessarily the real world situation Distributional concerns matter Hence: empirical assessment through simulation experiment is valuable

12 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 12 Structure of the exposition Some insights from tax theory Empirical assessment: incidence analysis of indirect taxes (ASTER) incidence analysis of social security contributions (MISIM) effect of one scenario of shifting financing social security from employee contributions to indirect taxes Summary and plans for further research

13 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 13 Empricial assessment: MISIM and ASTER combined MISIMASTER SEP Net incomes Gross incomes Labour cost Budget survey Employee contribution s Employer contributions detailed consumption & taxes Indirect taxes detailed consumption & taxes Indirect taxes PI T

14 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 14 Incidence of indirect taxes indirect tax structure differentiates between commodities which interacts with the differentiated consumption patterns of households we use the budget survey of 2001 to show these expenditure patterns and hence the variation in indirect tax burden

15 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 15 % of total expenditures subjected to different VAT-rates ( NIS Budget Survey 2001)

16 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 16 Structure of total expenditures (average income shares)

17 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 17 Structure of expenditures conceals considerable heterogeneity across households e.g.: variation in function of disposable income share of food

18 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 18 income share of food expenditures ( NIS budget survey 2001 )

19 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 19 might be explained by: income household size age of hh members many other characteristics preferences in general income share of food expenditures ( NIS budget survey 2001 )

20 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 20 Stylized representation of food share

21 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 21 Non parametric estimations of income shares (Kernel) Hence, to impute an expenditure structure in a dataset without expenditures (e.g. CSB), we need to estimate this relationship is done by means of econometric estimation in which following explanatory variables help to explain the income shares: disposable income household composition (size, age) region there remains unexplained variation

22 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 22 Estimation of income share domestic fuel oil

23 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 23 estimation of income share saving

24 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 24 Some Kernel-Engelcurves (income shares)

25 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 25 Some Engelcurves

26 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 26 Some Engelcurves

27 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 27 Result 1: % of expenditures in VAT-classes (by decile)

28 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 28 Result 2: Incidence of VAT by decile

29 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 29 Incidence of Excise by decile

30 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 30 Incidence of indirect tax (VAT+excise) by decile

31 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 31 MISIM = MIcroSImulationModel of social security and personal income tax developed by the Centre for Social Policy On the basis of data of Socio-Economic Panel (SEP) 1997, indexed up to 2005 Policy rules of August 2005 for calculation of social security contributions of employer social security contributions of employee personal income tax

32 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 32 Calculation contributions employer 1.contribution employer for private and public sector private sector: difference between blue and white collar, and number of employees is taken into account 2.reduction of contribution employer structural reduction (in MISIM) specific reductions (only partially in MISIM) other reductions (not in MISIM)

33 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 33 Calculation contributions employee 1.Own contributions for public and private sector 13.07% in private sector and public sector without tenure contract (blue/white collar) 11.05% civil servants reduction for low labour incomes (werkbonus) 2.own contributions for self-employed 3.contributions on replacement incomes (pensions, sickness and invalidity)

34 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 34 Distribution by decile of welfare (MISIM 2005) (private and public sector, self-employed)

35 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 35 Employees: % contribution on gross wage by decile

36 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 36 Self-employed: % contribution on gross labour income by decile

37 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 37 Replacement incomes: % contribution on gross pension by decile

38 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 38 Scenario for alternative financing of Social Security Gross wage 1.Contribution: 13.07% (private) / 11.05% (public) 2.Reduction: -15% 3.application of workbonus Taxable income Personal income tax Net disposable income Note: own contributions self-employed and replacement incomes do not change!

39 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 39 Scenario for alternative financing of Social Security Only effect (and direct): disposable income, not on labour cost (and hence labour demand) labour demand perfectly elastic (horizontal) No effect on labour supply (preliminary) labour supply: perfectly inelastic (vertical) Revenue neutrality by increase of indirect taxes (VAT, not excises) Behavioural reactions through budget shares that respond on change in disposable income

40 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 40 Revenue neutrality Million reduction of contributions employees-1675 increase in income taxes876 net cost-798 Increase VAT to collect additional revenu of 0,8 bn ? No, since ASTER only captures VAT-receipts from consumption by private households Ratio ASTER VAT/Total VAT=67% Hence: increase VAT to get 0.67x798 = 535 million

41 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 41 Revenue neutrality scenarios to collect the 535 million : Mio increase all VAT-rates by 5% (6,3 and 22,1)468 increase all VAT-rates by 6% (6,7 and 23,4) (A)550 increase the 21%-rate to 22%364 increase the 21%-rate to 23% (B)669

42 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 42 Change in consumer price for scenario A and B

43 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 43 Change in consumer price for scenario A and B

44 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 44 Evaluation for each household income change: disposable income of those who earn labour income as employee increases price change: to buy the same bundle of commodities, one needs more income average effect for the two scenarios ( of 2005): A: 6.3 & 22.1B: 21 to 23 income change197 (0,74%) price change (loss)145 (0,54%)196 (0,74%) total welfare effect52 (0,19%)0

45 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 45 Income and price change by decile: Scenario A

46 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 46 Income and price change by decile: Scenario B

47 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 47 welfare change by decile: Scenario B

48 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 48 Income and price change by socio-professional group: Scenario B

49 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 49 welfare change by socio-professional category: Scenario B

50 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 50 Caveats Labour supply reaction not taken into account but research in other context: might be small preliminary research on PSBH-dataset by means of discrete choice model of labour supply (only for couples): Baseline (1000)change (units)% employment men1,60343850.27 employment women1,25534610.28 hours men69,1762730310.39 hours women38,7981502060.39

51 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 51 Caveats Labour supply reaction increase in disposable income might be too small also labour supply reaction is different across deciles: more than 40% of the increase in employment occurs in the bottom decile welfare gain of increased employment: not only income (or consumption) changes, but also change in leisure time welfare effect of social inclusion

52 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 52 Caveats Labour supply reaction not taken into account Labour demand effects might be more important currently: (research) trade-off between using a model with detailed distributional effects and one which models both sides of labour market (or more generally: traditional macro, CGE) frontier of research on micro-macro links

53 13 februari 2006 Verdelingseffecten alternatieve financiering sociale zekerheidProf. A. Decoster 53 Conclusion revenue neutrality cannot be discarded in the debate nonsens remains nonsens: (some) equivalence between labour income taxation and commodity taxes hence, importance of distributional assessment intuition about important distributional consequences is confirmed important intergenerational aspects


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