2 YEARS OF NOPOOR RESEARCH

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1 2 YEARS OF NOPOOR RESEARCH Nopoor Policy workshop 20th November 2014, 9am 6pm 15:00-15:15 More than a decade of conditional cash transfers in Latin America: new public policy initiatives for Mexico.

2 More than a decade of conditional cash transfers in Latin America: new public policy initiatives for Mexico Araceli Ortega Díaz Escuela de Gobierno y Transformación Pública araceli.ortega@itesm.mx 2

3 RESUMEN This paper presents a comparative analysis between poverty reduction through the use of cash transfers programs and an alternative program of earned income tax credit (EITC). After seventeen years of implementing the Human Development program Oportunidades in Mexico we compare its effects with an income tax credit that fosters employment and reduce poverty, concluding it is a better strategy for tackling poverty in a sustainable way, and at lower public cost. Escuela de Gobierno y Transformación Pública araceli.ortega@itesm.mx 3

4 Index This research takes into account 4 steps: 1. Motivation. 2. Income tax bounds. 3. Participation scenarios (hours and elasticities) 4. Poverty recalculation. Escuela de Gobierno y araceli.ortega@itesm.mx Transformación 4 Pública

5 Evolution of the population and GDP per capita in México Population rate of growth is higher that GDP rate of growth, implying a gap between resources attainability for every person in the long term. araceli.ortega@itesm.mx 5

6 Income Poverty (% of people) Food Poverty Capabilities Poverty Patrimony Poverty Despite a massive investment in social programs in the las two decades, poverty has not decreased. araceli.ortega@itesm.mx 6

7 Gap between Income Poverty Lines Inequality among the poor has also widen. 7

8 Oportunidades Beneficiaries and their achievements Population in million Mexicans 19.7% in food poverty (22.66 million people) Poor 28% in capabilities poverty (32.2 million people) 52.3% in patrimony poverty (60.15 million people) Beneficiaries Componets Impacts No impact 5.2 million families ( 25 million people.) 1. Enrollment and attendance: Primary, Secondary and Upper secondary. Higher education from September Basic Health Services 3. Nutrition Increase in school enrolment and attendance, but low performance. Increase in terminal efficiency Educational quality, employability and leave poverty araceli.ortega@itesm.mx 8

9 Oportunidades Budget (millions of MXP) The Budget of the program is currently more than 63,000 million pesos (2014), and in 2013 was a 36, araceli.ortega@itesm.mx 9

10 Oportunidades Budget (millions of MXP) The Budget of the program is currently more than 63,000 million pesos (2014), and in 2013 was a 36,177 million, in ,941 million araceli.ortega@itesm.mx 10

11 Total Popula tion Population According to age Ocuppational Status Population according to economic situation Population Economically Active WORKING OR RELYING ON CASH TRANSFERS? If we withdraw OPORTUNIDADES 5 million families will be poor again, because they rely on these cash transfers, most of them do not work, and when they do, they are informal workers, meaning they a vulnerable social security network. Without any Occupation With Occupation Do not belong to labor force Belongs to Labor Force Population >65 years Population less than 14 years Population in working age (>=14 and <65 years) Millions of people Source: Ortega, A (2012) Decent work.remef

12 Labor informality and unemployment B.C. 5.3 B.C.S. 5.6 Rate of unemployment Son. 5.5 Ags. 4.7 Col. 4.9 Chih. 5.8 Méx. 5.9 Dgo. 5.1 Jal. 4.5 Zac. 4.9 DF 6.9 Coah. 5.8 Gto. 5.8 Mich. 4.2 NL 5.7 SLP 3.8 Gro. 2.3 Mor. 3.9 Pue. 4.0 Qro. 5.7 Hgo. 4.6 Oax. 2.6 Tlax. 5.8 Tab. 6.9 Chis. 3.1 Camp. 2.6 Source: INEGI, Encuesta Nacional de Ocupación y Empleo, segundo trimestre de B.C B.C.S Son Ags Col Chih Méx Dgo Jal Zac Coah DF 49.9 Yuc. 3.2 SLP 59.4 Gto Mich N.L Rate of Labor Informality Gro Pue Mor Qro Hgo 73.9 Oax Tlax Tab Chis Order by quintiles of rates First quartile Camp Second quartile Third quartile Fourth quartile Yuc. 64.8

13 Outline of Research ( ) We conduct a comparative analysis on the design, outcomes and limits of cash transfer schemes in Mexico and a program of Earned Income Tax Credit. For México to keep in the track out of poverty, cash transfers have proved not to be enough. We require incentives to work and be auto sustainable. EITC can generate incentives to work and decrease poverty and inequality. We will simulate what happen if EITC would replace Oportunidades. Policy implications and costs and benefits of this comparison have to be clear to policy makers.

14 EITC description The Earned Income Tax Credit started its operations in 1975 in the USA, (Hamilton, 2010). Provides subsidies to the labor income before-taxes, (Meyer, 2010). EITC amount (EITC) Maximu m EITC amount (MEA) 1 Phase-in I A Figure 1: EITC general outline 2 Flat-phase EITC 2 Source: Ortega, Castellanos & Islas (2014) 3 Phase-out Labor hours before-taxed income (I) I B I C Description: EITC amount is a proportion of the labor income before-taxes at Phasein. At Phase-out is an inverse proportion of it. The Flat-phase is the maximum credit amount, and it is determined by the proportion of the labor income before-taxes at the level I A, hence it does not change till it reaches the level I B. The maximum credit amount (MEA), r phasein and r phaseout depends on the number of eligible children. araceli.ortega@itesm.mx 14

15 EITC Implementation in USA It was established in the Tax Reform Act in 1975 It is implemented for low Earned Income workers defined by the US Internal Revenue Code It is conditional to work depending on income, filling status, and the number of qualifying children. The beneficiary receives a transfer when EITC is higher than the tax payment. Implementation rules have been expanded many times, either increasing the level of income that determines the phases, increasing the proportions or letting that other kind of beneficiaries receive the program (single male, etc.). Source: IRS website araceli.ortega@itesm.mx 15

16 Relevant aspects to be considered about EITC Raises the income of more than 4.0 million people above poverty line. Has sharply increased the fraction of single mothers who work. Provides greater benefits to workers than to non-workers. It avoids transfers to the parasites. Has low administrative costs because it operates through the income tax filling procedure. The effects are concentrated around the poverty line. Has no effect on the wages of college graduates. The wage effect is similar for workers with and without children. May harm low-skilled workers who are ineligible for the EITC. Induces a large increase in labor supply (reducing hourly wages). CAN EITC BE IMPLEMENTED IN MEXICO? araceli.ortega@itesm.mx 16

17 Fiscal environment in Mexico 1 of 4 The Income Tax Law published in the Official Journal of the Federation on may 25 th 2012 establishes that the tax amount to be paid should abide to the brackets in the Table below. TA i = FA i + ISR i I i B Li Where TA is the Tax Amount to be paid, FA is a Fixed Amount, ISR is the Tax Rate, I is the earned income and BL is the Lower Bound. Earned Income (I) determines the FA and the ISR according the bracket. Lower Bound (monthly $MXN) Table Bounds and amounts of income to be taxed Higher Bound (monthly $MXN) Fixed Amount (monthly $MXN) ISR tax (to be applied monthly to the difference between Income and Lower Bound) (%) , , , , , , , , , , , , , , And higher 6, Source: Income Tax Law, 2012 araceli.ortega@itesm.mx 17

18 EITC Simulation in Mexico 2 of 4 Table 6: Income schedule, Rates and Credit amount proposed for Mexico Annual income by household (x) Segment Credit (3 children) $0 - $32, First segment 45% * x $32, $42, Flat phase $14, $42, $111, Third segment $14, % * (x - $42,400.01) Annual income by household (x) Segment Credit (2 children) $0 - $32, First segment 40% * x $32, $42, Flat phase $12, $42, $104, Third segment Annual income by household (x) Segment $12, % * (x - $42,400.01) Credit (1 children) $0 - $23, First segment 34% * x $23, $42, Flat phase $7, $42, $91, Third segment Annual income by household (x) Segment $ % * (x - $42,400.01) Credit (no children) $0 - $15, First segment 7.65% * x $15, $19, Flat phase $1, $19, $34, Third segment $1, % * (x - $19,277.24) Source: author s own calculations using different sources. araceli.ortega@itesm.mx 18

19 Methodology (Heckman equation and Income Imputation) To predict the labor income of people that does not work when the EITC is applied we can use an equation of log hourly wage, which is estimated for the whole population through the two step consistent estimator proposed by Heckman (1979). (1) and (2) represent the interest and the selection equation respectively. y 1i = x 1i β 1 μ 1i (1) y 2i = x 2i β 2 μ 2i (2) Where y 1i represents the natural logarithm of wage per hour, and x 1i is a vector of exogenous regressors: education, experience, squared experience, income of other household members, rural/urban areas, and sex. Where y 2i represents a dichotomous variable if the individual works, and x 2i is a vector of exogenous regressors indicating education, age, squared age, income of other household members, rural/urban areas, sex, members working, disabled members, civil status and number of children by age ranges. araceli.ortega@itesm.mx 19

20 Variable Table Heckman equation estimation and analysis of relative change Model specification (2) / (1) (2) (3) (4) (5) (1) Relative change (3) / (4) / (1) (1) Nat. Log. of wage per hour Years of schooling 0.106*** 0.106*** 0.092*** 0.105*** 0.092*** Years of experience 0.022*** 0.023*** 0.019*** 0.023*** 0.020*** Squared years of experience *** *** *** *** *** Income of others in household 0.000*** 0.000*** 0.000*** 0.000*** 0.000*** City (1:Urban) 0.328*** 0.329*** 0.328*** 0.319*** 0.325*** Sex (1:Male) 0.203*** 0.204*** 0.171*** 0.211*** 0.180*** Constant 1.216*** 1.215*** 1.386*** 1.197*** 1.368*** Working conditional Years of schooling *** *** *** *** *** Age 0.493*** 0.493*** 0.502*** 0.493*** 0.501*** Squared age *** *** *** *** *** Income of others in household *** *** *** *** *** City (1:Urban) *** *** *** *** *** Sex (1:Male) 0.320*** 0.319*** 0.307*** 0.318*** 0.302*** Other working in home (1:Yes) Neither work nor study (1:Yes) *** *** *** *** *** araceli.ortega@itesm.mx 20 (5) / (1) Disabled person (1:Yes) *** *** *** *** *** Other disabled in home (1:Yes) 0.079** 0.079** 0.078** 0.076** 0.078** Widow (1:Yes) Separated (1:Yes) 0.204*** 0.204*** 0.187*** 0.204*** 0.187*** Children 0-2 (1:Yes) 0.329*** 0.329*** 0.327*** 0.326*** 0.324*** Children 3-5 (1:Yes) 0.168*** 0.169*** 0.165*** 0.165*** 0.162*** Children 6-12 (1:Yes) ** ** *** ** *** Constant *** *** *** *** *** athrho Constant *** *** *** *** *** lnsigma Constant *** *** *** *** *** Observations 142, , , , , Source: Ortega, Castellanos & Islas (2014) Note: Bold values indicate a relative change higher than 10% (Black for positive and red for negative) * p<0.05, ** p<0.01, *** p<0.001 (1) Whole sample (2) Excluding outliers in working hours (3) Excluding outliers in individual annually labor income (4) Excluding outliers in income of other household members (5) Excluding outlier of (2), (3) and (4)

21 Data Data used in this paper is taken from the National Household Survey on Income and Expenditure (ENIGH) for 2012, which is latest available official source of information. We decided to use this data as it has all sources of income and employment status. We developed many procedures to clean the data as sometimes people reported more hours worked that possible hours in a week. We also carefully calculated labor income per hour considering primary and secondary employment and part time jobs, and full time jobs. araceli.ortega@itesm.mx 21

22 The simulation covers 4 steps: 1. Calculate taxable income. Results of Simulation 2. Select women workers and the probability of those who do not work, and then those whose probability is higher than 50% are chosen as future workers. From those we select the eligible to receive EICT according to their taxable income and the number of children they have. 3. Calculate the EICT the would receive. 4. Compute the new measures of poverty. araceli.ortega@itesm.mx 22

23 Results of Simulation Food poverty Capabiliti es poverty Patrimony poverty Without EITC With EITC Difference Women Poor % Women Poor % Women Poor % 6,627, ,499, ,128, ,338, ,338, ,262, ,262, EITC is a better option to tackle poverty. Mainly for the following reasons: Cost less than Oportunidades (95,173,665 MXP a year) Is quicker, results are shown in a year. Is sustainable as is a formal work. Reduces more poverty rates. Have worker that make pension system more suitable. Creates sense of pride and diminishes stereotypes. araceli.ortega@itesm.mx 23

24 Policy recommendations Some recommendations by now would be: 1. Transit oportunidades beneficiaries whose children are already above 12 years old to an EITC system. 2. Leave oportunidades beneficiaries no more than 5 years in the program. 3. Segment the beneficiaries of the two programs, oportunidades for early childhood and primary school and EITC for women that are better inserted in the labor market. araceli.ortega@itesm.mx 24

25 References on EITC Agostini, C., Selman, J. & Perticará, M. (2013). Una Propuesta de Crédito Tributario al Ingreso para Chile. Estudios Públicos, 129, Eissa, N. & Hoynes, H. (2008). Redistribution and Tax Expendiures: The Earned Income Tax Credit. NBER Working Paper Hamilton, J. (2010). Optimal Tax Theory: The Journey from the Negative Income Tax to the Earned Income Tax Credit. Southern Economic Journal, 74, Heckman, J. (1979). Sample Selection Bias as a Specification Error. Econometrica, 47, Leigh, A. (2010). Who Benefits from the Earned Income Tax Credit? Incidence among recipients, Coworkers and Firms. The B.E. Journal of Economic Analysis & Policy, 10, Article 45. Meyer, B. (2010). The Effects of the Earned Income Tax Credit and Recent Reforms. Tax Policy and the Economy, 24, araceli.ortega@itesm.mx 25

26 0 0 Density Summary statistics Density Table 1 Summary statistics of annual working hours of population between 12 and 65 Obs. Population Mean Std. Dev Min. Max. Adjusted WH 87, ,607 2, , Realistic Adjusted WH 87, ,481 2, , Source: Own elaboration using ENIGH 2012 Note: Just observations with working hours higher than zero Image 1 Kernel density of average working hours annually Kernel density estimate People from whole sample between 12 and 65 years old that report working hours Kernel density estimate 99.68% of people from whole sample between 12 and 65 yo that report working hours Horas trabajadas anual promedio en ambos trabajos kernel = epanechnikov, bandwidth = Kernel density estimate Normal density Horas trabajadas anual promedio en ambos trabajos kernel = epanechnikov, bandwidth = Kernel density estimate Normal density Source: Own elaboration using ENIGH 2012 Note: Just observations with working hours higher than zero working 15 hours per day during 7 days a week (5, hours/annually), araceli.ortega@itesm.mx 26

27 e e-06 Density 3.000e e e Density Summary statistics Table 3 Summary statistics of individual annua labor income people between 12 and 65 Obs. Population Mean Std. Dev Min. Max. Reported IALI 86, ,837 61, , , Realistic IALI 85, ,977 55, , , Source: Own elaboration using ENIGH 2012 Note: Just observations with labor income higher than zero Including the 99.24% of the whole sample (99.10% of the population) between 12 and 65 years. Image 2 Kernel density of individual annually labor income when age is between 12 and 65 Kernel density estimate People from whole sample between 12 and 65 years old that report labor income Kernel density estimate 99.10% of people from whole sample between 12 and 65 yo that report labor income Ingreso anual laboral del indiviudo kernel = epanechnikov, bandwidth = 1.0e+03 Kernel density estimate Normal density Ingreso anual laboral del indiviudo kernel = epanechnikov, bandwidth = 1.0e+03 Kernel density estimate Normal density Source: Own elaboration using ENIGH 2012 Note: Just observations with labor income higher than zero araceli.ortega@itesm.mx 27