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Australian labour supply elasticities: Comparison and critical review

Working Paper 2007-04

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Labour supply elasticities measure the responsiveness of individuals’ labour supply to changes in variables such as the net wage rate (after consideration of tax and transfers) or net non labour income. Elasticities have been estimated in Australia and internationally using a range of modelling approaches. However, as indicated in previous surveys, caution should be exercised when comparing these estimates, with due consideration of differences in data, methodological approaches and model specifications. When comparing estimates between countries, the institutional framework and state of the labour market in each country also need to be considered.

This paper draws on reviews of elasticity estimates in the literature and considers factors affecting their estimation and interpretation. The paper then summarises the published labour supply elasticity estimates from Australia and discusses what can be learnt from them. Comparisons are also made with estimates from labour supply studies from the United Kingdom, Canada and New Zealand.

Elasticity estimates in the reviewed labour supply studies aid our understanding of the labour supply responses of various Australian population groups. Elasticity estimates are particularly useful when disaggregated, as they allow an understanding of the relative responses of different population groups characterised by education levels, part-time or full-time employment status, level of income, or other household characteristics. However, few studies have estimated disaggregated elasticities and this is an area that could benefit from further research. Our understanding of labour supply behaviour could also benefit from an analysis of how elasticities may change over time, and from further improvements in modelling methodologies and specifications. This would help to identify population groups that are responsive to changes in net wages and incomes, and thereby strengthen the basis for policy development.