A few years ago, Human Resources Development Canada (HDRC) ran an experimental project to see how single parents on welfare responded to changes in their budget constraint. It has long been known that single mothers on social assistance are particularly vulnerable to the welfare trap: not only are their payments clawed back as they earn wage income, they risk losing their non-monetary benefits. In many cases, these parents face marginal income tax rates of well over 100%.
So the HDRC came up with the Self-Sufficiency Project (the SSP), which provided income supplements to single parents (almost without exception, these were women) who, after having received social assistance for at least a year, found full-time work. These premiums were quite generous: a participant could receive up to $12,000 a year, thus doubling what she might otherwise have earned at a job that paid minimum wage.
Here's the graph of the employment status (source) of the randomly chosen group of single parents who were offered the chance to participate in the SSP, and of the employment status of the control group:
During the first 12 months of the program, those who were eligible for the SSP were less likely to find a job: since the SSP premiums were only available to those who had been on social assistance for a year, some of those who might have found a job within the first year decided to wait for the premium. Once they were eligible, the change in behaviour is dramatic: during the second year, some 25% of the SSP group found a job, compared with 8% of the control group.
But what's curious is the employment patterns after that. In the SSP group, the employment rate levels off, but the control group's rate continues to rise. After the fifth year of the program, there's little to choose between the two employment rates. So the long-run effect of the SSP program appears to be pretty small: all it really ended up doing was to move forward the decision to look for a job among those who would most likely have gone back to work anyway.
From a policy standpoint, the SSP experiment was a bit of a disappointment ('oh well, back to the drawing board'). But it's a neat illustration of how people respond to incentives.