SAN FRANCISCO, February 2, 2011—Offering employers subsidies to hire recently unemployed workers can spur job creation and help the state recover from the recession. But in the long term, subsidies to workers to enter the job market—in the form of a state Earned Income Tax Credit (EITC)—are likely to be more effective at countering the state’s persistently high unemployment rate. These are the key findings in a report released today by the Public Policy Institute of California (PPIC).
The report examines the effectiveness of two direct job creation policies: subsidies to employers to hire workers and subsidies to individuals to enter the labor market. Hiring credits and worker subsidies are not the only ways to boost employment, but they have the simplest and most direct effect on the number of workers employed in the state.
California’s recent steep job losses are understandably the focus of attention now, but the state has a second labor market problem: a long-term unemployment rate higher than the nation’s, even in better times. Whether hiring credits or worker subsidies is the more effective response—and both policies can boost employment—depends on which problem is being addressed. If the goal is to spur job growth to help recover from the recessions, then hiring credits are likely to be the better choice. But once the labor market has recovered and the focus can shift to the state’s long-term unemployment problem, worker subsidies would be more effective.
In the report, author David Neumark examines the use of hiring credits and worker subsidies, analyzes their impact, and proposes ways to make these tools more effective. He cautions that the state’s current budget problems limit any short-term response, and the recession has been so severe that even the best policy will lead only to modest changes. These concerns make it important for the state to plan for a time when its finances are better, but before the next recession hits—as it inevitably will, says Neumark, a PPIC Bren Fellow and professor of economics at UC Irvine.
“California needs a flexible approach to help cushion the state from the kind of blow it suffered in this recession,” Neumark says. “Policymakers should consider a hiring credit that remains on the books permanently, aggressively rewards the hiring of unemployed workers during downturns, and turns off in better economic times. That approach can have a modest effect on smoothing out the business cycle. An EITC, on the other hand, can run continuously, reducing unemployment over the long run. ”
Both hiring credits and worker subsidies would be costly to implement, but it’s uncertain how costly. Rough calculations suggest that the cost per job created would be $9,100 to $75,000 for hiring credits and an even steeper $12,000 to $207,000 for worker subsidies. These broad cost ranges don’t take into account associated benefits such as reducing expenditures on unemployment insurance and welfare payments, increasing tax receipts, or stimulating the economy—all of which would lower program costs.
To be the most cost-effective, hiring credits should be focused on the recently unemployed, have simple rules to administer, and establish incentives for new hiring. Credits should be temporary and concentrated during and soon after recessionary periods when job growth is low.
Targeting credits at the disadvantaged, as federal hiring credits have done, can stigmatize workers, signaling to employers that a potential employee has low qualifications and trouble finding a job. But targeting the credits at all of the recently jobless would lessen stigma, particularly at a time when so many workers are unemployed. A credit focusing on the unemployed would be easy to administer because employment status is easy to verify. Setting simple eligibility rules would minimize costs to employers.
When the economy recovers California should consider a worker subsidy such as the EITC to address its long-term unemployment problem. These tax credits encourage people to work by raising the effective wage they are paid. At the federal level, for example, the EITC pays a 40 percent subsidy on the initial earnings of families with two qualifying children. A single mother faced with a market wage of $8 an hour and no subsidy may be better off if she does not work given the costs of child care, clothes for work, and commuting. But with a 40 percent supplement, her effective wage is $11.20 and work is likely to become more attractive.
There is overwhelming evidence that the EITC has increased employment among single mothers, who make up a large percentage of low-income families. An EITC does not have the stigma effects of hiring credits targeted at the disadvantaged because employers don’t know whether an employee is eligible. A state EITC would be easily administered through the tax code, particularly if it piggybacks on the federal EITC calculation from the federal tax return, as most state EITCs do.
The report, How Can California Spur Job Creation?, is supported with funding from the Donald Bren Foundation.
PPIC is dedicated to informing and improving public policy in California through independent, objective, nonpartisan research on major economic, social, and political issues. The institute was established in 1994 with an endowment from William R. Hewlett. As a private operating foundation, PPIC does not take or support positions on any ballot measure or on any local, state, or federal legislation, nor does it endorse, support, or oppose any political parties or candidates for public office.