Author: Dongmin Chun(Bank of Korea)

<Abstract>

Over the life cycle, the labor market participation induced by the Earned Income Tax Credit (EITC) during working age increases not only current earnings but also pension benefits after retirement through the tax-benefit link of public pensions. Furthermore, if potential EITC beneficiaries do not perceive this future return on current labor participation, informational interventions could enhance the EITC’s effects on labor earnings. This paper studies the role of the dynamic labor supply return built into public pensions in the EITC’s long-term impact. To this end, we develop an incomplete markets life-cycle model with the pension tax-benefit link and calibrate it to the Korean economy. We find that, for newborns with low lifetime income, the dynamic return accounts for more than 20% of the welfare gain from the EITC.