The effects of unconditional basic income on labor supply and the role of intrinsic motivation Theoretical analysis of how the introduction of an unconditional basic income affects the labor supply and an assessment of the role of intrinsic motivation Paco Pos 10545972 BSc Economics and Business Specialisation: Economics Date: 2 February 2015 Thesis supervisor: Stephan Jagau Statement of Originality This document is written by Student Paco Pos who declares to take full responsibility for the contents of this document. I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it. The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents. Acknowledgements Upon completion of this thesis, I would like to thank my thesis supervisor Stephan Jagau PhD for guiding me through this process. We have assessed many possible subjects and eventually settled on a subject that is relevant and interesting. Despite my inability to choose, the subjects were made more explicit and the choice became clearer thanks to the guidance of Mr. Jagau. Besides, he quickly gave critical, useful advice and comments, which have helped me writing an even better thesis. Contents Abstract ................................................................................................................................. - 1 - 1. Introduction .................................................................................................................... - 2 - 2. Unconditional basic income ........................................................................................... - 4 - 3. Labor supply critique ..................................................................................................... - 7 - 4. Field studies ................................................................................................................... - 8 - Developing countries ....................................................................................................... - 12 - Developed countries ........................................................................................................ - 14 - 5. Extended classical models ........................................................................................... - 17 - 6. Intrinsic motivation ...................................................................................................... - 23 - 7. Limitations and considerations .................................................................................... - 27 - 8. Conclusion ................................................................................................................... - 30 - References ........................................................................................................................... - 31 - The effects of unconditional basic income on the labor supply and the role of intrinsic motivation Abstract In 2016 several unconditional basic income field experiments will be conducted. Proponents of this policy have raised argument for implementation of such as policy with regard to freedom and justice for all citizens, especially those who might lack the means to access their real freedom and develop their human capital. One of the main concerns of critics focuses on labor market participation and the labor intensity. The fear exists that the implementation of an unconditional basic income will be followed by a drop in labor-market participation and/or in average hours worked. Evidence from field experiments suggests that the response pattern might be less straightforward. As a result several authors have set out to explain why unconditional basic income might actually lead to a net improvement of labor supply on the intensive or extensive margin. While mechanisms such as the poverty and unemployment trap have been useful in understanding part of the regularities observed in empirical basic income studies, there is still a considerable discrepancy between theoretical predictions and empirical findings. Theories of intrinsic motivation might provide crucial insights regarding the remaining puzzles. Intrinsic motivation can accommodate a rise among employed individuals in labor intensity that cannot be explained by the unemployment trap. Additionally, it indirectly affects labor in a variety of ways. Keywords: basic income, social welfare, poverty, income security, intrinsic motivation, labor market, poverty trap, unemployment trap - 1 - 1. Introduction Unconditional basic income (UBI), also known as basic income guarantee, universal demogrant or citizen’s income, is a form of social security that is regularly, systematically and unconditionally paid out to citizens irrespective of the height of their income. Recently, four Dutch municipalities, Utrecht, Wageningen, Tilburg and Groningen, have stated to start with UBI field experiments soon, with Utrecht being the first municipality to start their experiment in January 2016. Another 28 Dutch municipalities have expressed serious interest in implementing similar experiments (Bregman, 2015). This is not a phenomenon limited to the Netherlands, but rather the public interest in UBI is growing internationally, with several established academics acting as avid proponents of such a policy instrument. Concurrently, field experiments on the effects of UBI are planned in Finland, France and even a referendum regarding its nation-wide implementation is planned in Switzerland (Streithorst, 2015). This trend is an inviting backdrop for further research and ongoing academic and non-academic discussion on the topic. Belgian economist and philosopher Phillipe van Parijs (2004a) states that “unconditional basic income would serve as a powerful instrument of social justice: it would promote real freedom for all by providing the material resources that people need to pursue their aims. At the same time, it would help to solve the policy dilemmas of poverty and unemployment.” The introduction of UBI results in a multitude of social welfare enhancing phenomena. It may redistribute welfare from the better off to the worse off of society and decrease social inequality, as well as enabling every individual with the means to develop and improve her human capital. The steady income stream will secure a level of subsistence for all individuals, irrespective of age, gender, sexual orientation, race, income or employment. For the less advantaged of society this means the opportunity and means to use one’s freedom in order to overcome dependence of social welfare and to alleviate poverty. Poverty alleviation provides a solution to a multitude of problems, as poverty often lies at the heart of malnutrition, lack of education, crime, drug abuse and poor mental and physical health (Haarmann, 2009; Forget, 2011; SEWA, 2014). Instead of aiming to solve these problems independently of each other, UBI can solve their root cause by providing a certain level of income security to all citizens in a country. The spill-over effects could enhance social welfare on the individual as well as on the aggregate level. - 2 - The most persistent counter arguments of UBI refer to the increased tax burden1 and to labor supply inefficiencies. The focus of this thesis lies on the effects of UBI on the labor supply. Critics argue that a substantial UBI might eliminate the necessity to work and might lead to widespread idleness, as the increased disposable income might make an individual decrease her amount of hours worked (Petersen et al., 2011; Hauser, 2006). An individual might find her new level of income high enough to refrain from working completely or an individual might find her new level of income higher than she needs for her preferred consumption bundle and will therefore substitute leisure for work effort. By contrast, empirical evidence from UBI experiments and similar policies suggests that also a rise in employment might be a likely scenario. In the case of developing countries there is a consensus that a rise in productivity is caused by the overcoming of the poverty trap, meaning that UBI ensures a regular income stream which enables individual’s access to capital that can be invested in more productive activities that would otherwise have been out of reach of the individual. As a result the individual can maintain a higher and steadier income stream from these new activities. For developed countries the results of field studies show more ambiguous effects on the labor supply. Negative income tax (NIT2) experiments show a mild drop in labor participation and intensity, but UBI proponents argue that it is a more efficient policy then NIT, because it is better equipped to overcome the unemployment trap and ensures real freedom and self-determination of individuals. The unemployment trap refers to a situation in which an individual is faced by a perverse incentive not to work, because the rise in income from working will result in an equal or greater loss of entitlement to social welfare benefits, as a result the individual will choose to remain unemployed. Analysis of Alaskan dividend and Cherokee Indian profit sharing suggest that the effects of UBI might indeed be positive along the intensive and extensive margin. However, the unemployment trap is not the only factor that plays a role in the increase of the labor supply under UBI. 1 The proposed financing of a national basic income usually