In 2005, the Bosch Foundation installed a commission „Family and demographic change“ which prepared a report on options for stimulating a recovery of fertility rates in Germany that are currently low and still continue to decline. Ifo supported the commission by preparing comprehensive calculations regarding the “fiscal balance” of children under the current German tax and transfer system. The study investigates the relation between “fiscal returns” arising from taxes and social security contributions paid by the children at later stages of their life cycles on the one hand and public expenditure on education, child benefits and all kinds of other public transfers on the other. The result of a fiscal externality of considerable size would indicate that parental fertility decisions are effectively distorted. This, in turn, would have to be corrected through changes in the existing tax-transfer system.
The calculations are based on the typical life cycle of a child born in 2000, taking into account long-term survival probabilities, average patterns of participation in the education system and in the labour force, and average wage earnings that are derived from historical data. Existing projections for the long-term development of German public finances are taken into account when assessing expected taxes and social security contributions, as well as expected benefits and transfers, over the entire life cycle of the child. Particular attention is given to including the full package of public child benefits that are granted while the child is still young. Important variants cover cases where the child has lower or higher-than-average wage earnings and where the child remains childless or is expected to have an average number of (grand-)children herself or himself.
The reconstruction of a child’s typical life cycle builds on data from official sources (life tables prepared by the Federal Statistical Office, participation rates for the education system and the labour force, differentiated by age and gender, as published by the relevant branches of public administration). Assumptions and results regarding the future development of taxes, social security contributions, and all kinds of benefits are taken from the “Simulations regarding the long-term sustainability of public finances” prepared by Ifo on behalf of the Federal Department of Fince in 2004.
Tracking an “average” child over his or her entire life cycle and taking into account all taxes and contributions paid to, and all benefits received from, the general government budget, there is a clear surplus of revenues over expenditure. When measured in terms of a year 2000 net present value, the surplus amounts to about 77,000 Euro – indicating an expected advantage for third parties (other tax-payers or other beneficiaries) involved in raising a child under the present German tax-transfer system. The most important single source of this fiscal externality is the Statutory Pension Scheme (139,000 Euro). Also, the public health insurance system entails a major positive effect (70,000 Euro), in spite of the fact that children are entitled to receive benefits from this scheme without their parents having to pay additional contributions. Income taxes (102,000 Euro) and consuption taxes (126,000 Euro) also add to the positive balance. The main types of public expenditure on children are related to education and child care (–136,000 Euro), child benefits (–65,000 Euro) and the public share in parental opportunity costs arising from taxes and social security contributions foregone (–120,000 Euro). “Other” public expenditure that are due over the child’s entire life cycle (–104,000 Euro) and a correction by which the long-term sustainability of public finances could be restored (34,000 Euro) are assessed in such a way that the total fiscal balance is artificially blown up. All these results include the net present values of analoguous effects of grandchildren etc. that area lso part of the original child’s fiscal balance. If the respective child would remain childless, there were still a fiscal externality amounting to 43,000 Euro. Children with higher-than-average (in bracket: lower-than-average) earnings would involve a fiscal balance of 299,000 Euro (–168,000 Euro).
Up to a point, the fiscal externality of an average child of 77,000 Euro can be considered a pool of resources which could be spent on reforms of the German tax-transfer system that are specifically targeted at families and children. Next to restructuring existing measures of family policies, the main options are given by the introduction of a “family splitting” in the context of income taxation following the French model, the introduction of earnings-related benefits for parents with very small children following the Swedish model and, last but not least, the reorganisation of public old-age provision. While pay-as-you-go financed pension benefits accruing to all insured individuals should be scaled down even more than is actually projected based on the current law, parents should be entitled to receive child-related pension benefits and individuals with few or no children should be obliged to invest a higher share of their income in private, precautionary savings.
M. Werding and H. Hofmann (2005), Die fiskalische Bilanz eines Kindes im deutschen Steuer- und Sozialsystem, Ifo Forschungsberichte Nr. 27, Ifo Institute: Munich.
