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EUROMODTax-benefit microsimulation model for the European Union

MICRESA

Combating poverty and social exclusion through changes in social and fiscal policy

The MICRESA project was funded by the European Commission’s “Improving Human Potential” programme, part of the Fifth Framework programme. It involved a team from each of the pre-2004 15 EU Member States and was carried out between 2001 and 2004.

Workpackages and Deliverables

This project explored the impacts of national social and fiscal policies, and reforms to these policies, on poverty reduction. The project covered all 15 (pre-2004) Member States of the EU. It made use of the tax-benefit model, EUROMOD, which was updated and improved as part of the project. The model now operates with baseline policy rules for 2001 and, for 10 countries, 2003. The developing Social Agenda of the EU and the Social Inclusion process in particular, has provided the policy context and has shaped many of the project’s activities. Highlights include:

Which policies make a difference?

We have demonstrated that an assessment of the relative redistributive and poverty-reducing effects of national tax-benefit systems depend on which components are included in the system . Including the effect of taxes can be important, through the counting of tax concessions as quasi benefits or through accounting for the taxation of benefits. Whether public pensions are included as part of the transfer system, and contributions as part of the tax system can have a large impact on conclusions from cross-country comparisons.

Policy learning across countries

Much can be learned from cross-country comparisons of the effects of common policies. Examination of pension reform scenarios under budgetary constraints in four countries shows that the variations in fiscal and distributive effects of a given reform can be very significant. The different starting points in terms of inequality among the elderly, the proportion of them below the national poverty lines, and existing pension arrangements, result in differential effects of some illustrative reform packages designed to protect the most vulnerable pensioners through a period of reform. Different paths for reform are necessary to achieve common objectives across countries.

Taking account of changes in labour supply following the adoption of systems from other countries – in this case, Making Work Pay policies shows that labour market conditions in one country may make the design of a policy from a country with different conditions quite inappropriate or indeed damaging. For example, in France or Germany, the application of the British Working Families Tax Credit would have a net negative impact on employment since the strong decrease in the participation of married women (with working partners) would not be offset by a positive effect on single parents.

Replacing the minimal child-targeted social transfer systems of the countries of Southern Europe with child benefits borrowed from Northern European systems reduces child poverty significantly. While expensive if introduced on a universal basis, there is scope for designing non-meanstested benefits for example those targeted on young children or large families that can be cost effective in terms of child poverty reduction.

Macro changes and micro outcomes

Even when the rate is low, inflation can have a significant effect on both the equalising and revenue-generating properties of income tax and social contribution systems. More broadly, changes such as the level of unemployment, the extent of earnings inequality and the rate of real income growth can change the operation of tax-benefit systems and their effectiveness in reducing the risk of poverty. The size of the effect of such changes on relative poverty rates, and sometimes the direction of the effect varies across the 15 countries. If relative poverty rates are to be used as generally accepted indicators of the outcomes of policy, then it is important that these differential sensitivities are fully understood.

Inequality and policy at the regional level

National tax-benefit systems appear particularly efficient at inequality reduction in the poorer regions in a country but much less so in the richer regions. Since some of the new forms of poverty are associated with richer and more urban regions, this calls for further intervention at the level of the regional governments. At the same time, similar regions in Europe in terms of economic performance and levels of original income inequality achieve quite different degrees of income inequality once the redistributive role of the national tax-benefit system is accounted for. This may provide an argument on equity grounds for EU intervention in the design of tax-benefit policies.

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