Labor Market Effects of the Employer-Sponsored Health Insurance Tax Subsidy: Evidence from Canada

We study the impact of a change in the tax subsidy to employer-sponsored health insurance on labor market outcomes. Though the Canadian government provides health insurance to its citizens, a majority of the population chooses to enroll in supplemental coverage, primarily through employer-sponsored health insurance. Like in the United States, insurance obtained as a benefit through an employer is not taxed as income, and can therefore cause distortions to the demand for insurance and more broadly, to labor market outcomes. In 1993, the provincial government of Quebec discontinued this tax subsidy, providing us with a natural experiment to study these distortionary effects. We extend a widely used theoretical model in the literature to predict that, following an increase in the effective price of employer-sponsored health insurance, hours worked should fall, wages should rise, or both. Previous empirical work in this area has used difference-in-differences analysis to isolate the labor market impact of a rise in health insurance costs, but has not sufficiently addressed the potential endogeneity of health care costs to labor market outcomes. Therefore, we use pooled cross-sectional data from two waves of the Canadian General Social Survey to conduct a two-stage least squares analysis in which we instrument for the potentially endogenous cost of health insurance with the exogenous policy change. We find that following an increase in the effective cost of health insurance, hours worked fall significantly; for a ten percentage point increase in the effective price of insurance, hours worked fall by 1.1 hours per week. The effect is less pronounced, but still significant, when we limit our sample to individuals who work full-time (at least 40 hours per week). We also find that a one percentage point increase in the cost of insurance is associated with an insignificant increase in wages of 41-44%. However, the wage variable is noisy and this result should be interpreted with caution. These findings are consistent with our theoretical predictions. With an unprecedented number of individuals set to purchase individual insurance in the U.S. under health care reform, the distortions caused by tax-subsidized health insurance may become less pronounced in the coming years. The removal of the tax subsidy in Quebec may represent the largest similar change to date. It may therefore provide an understanding of the labor market effects of decreasing tax subsidies for employer-sponsored health insurance and the aggregate impacts of the ACA. To our knowledge, this is the first research to examine this question directly.