FRBSF Economic Letter
97-24; August 29, 1997
Labor Market Effects of Welfare Reform
On August 22, 1996, President Clinton signed the Personal Responsibility
and Work Opportunity Reconciliation Act into law and ended the sixty-two
year old federal entitlement system for the needy commonly referred to
as welfare. Since then, welfare caseloads in the U.S. have fallen by 12
percent (see Figure 1). Over the
same period, approximately 2.3 million individuals have joined the labor
force, boosting the labor force participation rate (the percentage of
working age men and women employed or seeking work) by 0.4 percentage
point to 67.1 percent in July 1997. The coincidence of these two events
with the passage of welfare reform naturally raises the question: "Are
they related?"
The relationship between welfare reform and labor market entry is important
for two reasons. First, one of the primary goals of welfare reform is
to induce those in need to replace welfare with work. Measurements of
the extent to which the passage of welfare reform has influenced the labor
market behavior of targeted populations are critical to assessing the
effectiveness of this policy. Second, this late into the recovery, it
is unclear who is entering the labor force so rapidly. Near the beginning
of an expansion increases in labor force participation tend to be broad-based
across types of workers, reflecting the response of a diverse pool of
individuals to improving employment opportunities. If, in contrast, most
of the recent increase in labor force participation is due to proactive
current and potential welfare recipients, many of whom are low-skilled,
then the pool of new labor entrants may be less able to meet a diverse
set of employer demands.
This Economic Letterexamines these topics. The analysis assesses
the extent to which welfare reform has induced targeted populations to
enter the labor force and whether or not reform-related labor market entry
has affected the U.S. aggregate labor force participation rate. The results
suggest that welfare reform appears to have induced a portion of the targeted
population to enter the labor market rather than move onto the welfare
rolls, but that relative to the number of individuals entering the U.S.
labor market during the past year, potential welfare recipients make up
only a small fraction.
The act replaced the federally managed Aid to Families with Dependent
Children (AFDC), JOBS, and Emergency Assistance to Needy Families programs
with Temporary Assistance to Needy Families (TANF) block grants awarded
to states. Under the new law, states that comply with federal restrictions
on fund disbursement gain control over a predetermined share of federal
funds earmarked for needy families. Three of the federal restrictions
are relevant to labor market behavior: (1) the elimination of welfare
benefits as entitlements; (2) the imposition of work participation requirements;
and (3) the introduction of individual lifetime limits on the use of programs
funded by TANF. The goal of these restrictions is to make work both mandatory
for current recipients and a desirable alternative for current non-recipients.
The simultaneous occurrence of declining welfare caseloads and accelerating
labor force growth suggests that welfare reform may have induced individuals
to enter the labor market. However, a convincing connection between welfare
reform and labor market behavior requires a more detailed picture of the
populations entering the labor market. Data to fill in this picture can
be obtained from the Bureau of Labor Statistics (BLS) which produces a
monthly release on the employment situation in the U.S. These data provide
current estimates of the number of individuals in the labor force by a
variety of demographic characteristics.
The BLS subgroup most likely to be affected by welfare reform is single
women maintaining families. Figure 2 shows changes in the labor force levels of women
maintaining families and the total U.S. population from July 1995 through
July 1997. For ease of comparison each series is indexed by its July 1995
level. As Figure 2 illustrates, the number of women maintaining families
entering the labor force increased dramatically following welfare reform.
During the year before the reform, July 1995 to July 1996, the number
of women maintaining families who were in the labor market increased by
2.4%. In contrast, between August 1996 to July 1997 labor force growth
among these women surged to 7.4% at an annual rate.
While the large pickup in labor force growth for women maintaining families
appears correlated with the passage of welfare reform, part of the observed
acceleration may be attributable to broader economic factors rather than
to changes in welfare regulations. One proxy for the non-welfare related
component of the recent labor force growth among these women is labor
force growth for the total U.S. population, also shown in Figure 2. Labor
force growth among the entire population also picked up slightly after
August 1996, accelerating from 1.4% over the year ending in July 1996
to 2.0% at an annual rate between August 1996 and July 1997. However,
this 0.6 percentage point acceleration for the total population was far
smaller than the 5 percentage point acceleration observed for women maintaining
families.
The differential acceleration in labor force growth highlighted in Figure
2 supports the claim that welfare reform influenced the labor market behavior
of women maintaining families. However, other factors also may have played
a role. To account for some of these factors Figure 3 compares women
maintaining families with three groups: married women, adult black men
and teenagers. These comparisons are meant to control for continuing secular
growth in female labor force participation, recent and delayed reaction
to economic growth among workers with weaker labor force attachment, and
the effects of raising the minimum wage, respectively. While none of these
comparisons is perfect, each one helps separate the effects of welfare
reform from other factors. Again, for convenience, each series is indexed
to its July 1995 value.
As was the case for the total U.S. population, Figure 3 shows a general
upward trend in labor force growth among adult black men and teenagers
beginning in the latter half of 1996. However, neither group posted labor
force growth close to 7.4%. As for the number of married women in the
labor force, that growth rate has been relatively unchanged over the past
two years. Thus, to the extent that these groups represent reasonable
comparisons, Figure 3 suggests that women maintaining families behaved
differently from other groups and that this change in behavior occurred
following the signing of welfare reform.
While these patterns suggest that welfare reform influenced the labor
force participation decisions of one targeted population, they do not
reveal the extent to which these changes have altered the national labor
force participation rate. As mentioned above, measuring this effect is
important for gauging the ability of new labor force entrants to meet
employer demands and modify wage pressures typically associated with tightening
labor markets.
To quantify the effect of welfare reform on the national workforce,
the analysis moves to calculations of the labor force participation rate,
or the percentage of the civilian non-institutionalized population either
employed or looking for work. Over the past 11 months the U.S. labor force
participation rate has increased by four-tenths of a percentage point,
from 66.7% in August 1996 to 67.1% in July 1997. The following calculations
attempt to parcel out the proportion of this increase associated with
the passage of welfare reform.
If one assumes, naively, that the entire increase in labor force entry
among women maintaining families was associated with welfare reform and
subtracts all new entrants in this category from labor force growth since
August 1996, then the participation rate over the last 11 months would
have risen to 66.8% rather than 67.1%. Under this assumption welfare reform
would be credited with three-tenths of the total four-tenths increase
in labor force participation since August.
However, a number of factors make such an assumption suspect. First,
not all women included in the BLS population of women maintaining families
were equally affected by changes in welfare regulations. Approximately
30% of women in this group care for families without children and are
less likely to be eligible for welfare benefits. If these women are removed
from the analysis category, the effect on labor force participation of
the remaining women is reduced to two-tenths of a percentage point. Moreover,
as the earlier analysis indicated, some fraction of the labor force growth
among these women should be attributed to broader economic factors and
other policy changes rather than to welfare reform. Assuming that these
other factors are captured by the average labor force growth among the
total U.S. population, (i.e., assuming that the welfare reform effect
was 5.4 percentage points of the total 7.4% increase) the total effect
on labor force participation is estimated to be about 0.1 percentage point.
Thus, taking all of these factors into account suggests that, in the absence
of welfare reform, approximately 296,000 women maintaining families would
not have entered the labor market, and the current labor force participation
rate would be 67.0 rather than 67.1%.
On the heels of welfare reform welfare caseloads declined precipitously
and labor force participation rose, suggesting that welfare reform induced
individuals to replace welfare with work and that their entry may be behind
the rather unexpected surge in labor force participation that began late
in 1996. Comparisons of the post welfare reform labor force growth between
women maintaining families and other groups in the population suggest
that welfare reform has had an effect on labor market behavior. However,
because the size of the population potentially affected by reforms is
relatively small, the effect on the aggregate U.S. labor force has been
minimal.
Mary Daly
Economist
Opinions expressed in this newsletter do not necessarily reflect
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