Earned Income Tax Credit in Israel : Designing the System to Reflect the Characteristics of Labor Supply and Poverty

This study examines the desired parameters for the institution of an earned income tax credit (EITC) – a subsidy for low wage earners – in Israel. The goal of the system would be to encourage individuals with low earning potential to enter the labor market and to reduce poverty among households that include wage earners. The combination of data from consecutive Labor Force and Household Incomes Surveys (using the repeated sampling feature of the Labor Force Surveys) enabled us to evaluate the sensitivity of entry into the labor force and employment, and of exit from employment to wage changes among individuals in various income groups. The estimated elasticities of entry and exit with respect to the wage were used to evaluate the effect of various policy scenarios on employment and poverty. The institution of an EITC system in the basic policy scenario, which grants benefits at income levels of 1,000–5,000 shekels, increases the number of participants in the labor force by about 13,000 which represents 0.5 percent of the working age population. At the same time, it was found that the cost of attracting a new worker was high, that most of the effect on employment was achieved in households not within the weaker segments of the population and that the program's effectiveness in reducing poverty was relatively low. A more focused policy, which conditions benefits on family composition and household income, is less effective in increasing employment but much more efficient in reducing poverty. This policy would raise 18 percent of poor working families above the poverty line. The budgetary cost of the basic program is NIS 2.7 billion per-annum while the cost of the focused program is NIS 1.3 billion