WELFARE MIGRATION: IS THE NET FISCAL
BURDEN A GOOD MEASURE OF ITS ECONOMIC
IMPACT ON THE WELFARE OF THE NATIVE-BORN
CESIFO WORKING PAPER NO. 1273
CATEGORY 1: PUBLIC FINANCE
COMMENT ON MUNICH ECONOMIC SUMMIT, JUNE 2004
An electronic version of the paper may be downloaded
• from the SSRN website: http://SSRN.com/abstract=601582
• from the CESifo website: www.CESifo.de
CESifo Working Paper No. 1273
WELFARE MIGRATION: IS THE NET FISCAL BURDEN
A GOOD MEASURE OF ITS ECONOMIC IMPACT ON
THE WELFARE OF THE NATIVE-BORN POPULATION?
Migration of young workers (as distinct from retirees), even when driven in by the generosity
of the welfare state, slows down the trend of increasing dependency ratio. But, even though
low-skill migration improves the dependency ratio, it nevertheless burdens the welfare state.
Recent studies by Smith and Edmonston (1977), and Sinn et al (2003) comprehensively
estimate the fiscal burden that low-skill migration imposes on the fiscal system. However, an
important message of this paper is that in an infinite-horizon set-up, one cannot fully grasp the
implications of migration for the welfare state just by looking at the net fiscal burden that
migrants impose on the fiscal system. In an infinite-horizon, overlapping generations
economy, this net burden could change to net gain to the native-born population.
JEL classification: H0.
Keywords: migration, welfare state, fiscal burden.
Tel Aviv University
69978 Tel Aviv
Tel Aviv University
The Eitan Berglas School of Economics
Following its recent and forthcoming enlargements, the European Union is likely to face a
rise in welfare migration. Hans-Werner Sinn (Financial Times, July 12th, 2004) puts this
“There will be more migration in Europe, but it will be ‘bad’ migration as
well as ‘good’. ‘Good’ migration is driven by wage and productivity difference.
‘Bad’ migration is driven by the generosity of the welfare state."
Indeed, we demonstrated elsewhere that the generosity of the welfare state, as by itself,
drives out high-skill migration and drives in low-skill migration (see Razin and Sadka (2001,
Europe, both “old" and “new", faces also a severe aging problem. This shakes the
financial soundness of the welfare state, especially its old-age security and medical health
components, because there are fewer workers asked to support increasing numbers of re-
tirees (that is, the dependency ratio rises).1As put metaphorically by the Economist (March
15th, 2003, p.80):...“the fiscal burden on the diminishing number of worker-bees will rise as
more people turn into pensioner drones." Note that migration of young workers (as distinct
from retirees), even when driven in by the generosity of the welfare state, slows down the
trend of increasing dependency ratio. However, intuition suggests that even though low-
skill migration improves the dependency ratio, it nevertheless burdens the welfare state.2
This is because low-skill migrants are typically net beneficiaries of a generous welfare state.
Indeed, in 1997 the U.S. National Research Council sponsored a study on the overall fiscal
impact of immigration into the U.S.; see Smith and Edmonston (1997).3The study looks
carefully at all layers of government (federal, state, and local), all programs (benefits),
and all types of taxes. For each cohort, defined by age of arrival to the U.S., the benefits
(cash or in kind) received by migrants over their own lifetimes and the lifetimes of their
first-generation descendents were projected. These benefits include Medicare, Medicaid,
Supplementary Security Income (SSI), Aid for Families with Dependent Children (AFDC),
food stamps, Old Age, Survivors, and Disability Insurance (OASDI), etc. Similarly, taxes
paid directly by migrants and the incidence on migrants of other taxes (such as corporate
taxes) were also projected for the lifetimes of the migrants and their first-generation de-
scendents. Accordingly, the net fiscal burden was projected and discounted to the present.
In this way, the net fiscal burden for each age cohort of migrants was calculated in present-
value terms. Within each age cohort, these calculations were disaggregated according to
three educational levels: Less than high school education, high school education, and more
than high school education. The findings suggest that migrants with less than high school
1In Razin and Sadka (forthcoming) we provide a political-economy analysis of the effect of this aging on
the welfare state.
2Simon (1984) is one of the first studies that brought out this argument.
3Responding to concerns in the U.S. (with foreign-born population of roughly 11.5 percent) about the
effect of immigration on the economic prospects of native-born, Congress in 1990 appointed a bipartisan
Commission on Immigration Reform to review the nation’s policies and laws and to recommend changes. In
turn, in 1995 the commission asked the National Research Council to convene a panel of experts to assess
the demographic, economic, and fiscal consequences of immigration.
education are typically a net fiscal burden that can reach as high as approximately $100,000
in present value, when the migrants’ age on arrival is between 20-30 years.4
Similarly, a comprehensive study by the IFO Institute estimated the flows of state
benefits to the stock of immigrants in Germany in 1997. Account was taken of taxes,
contributions, pensions, welfare benefits as well as all indirect benefits from so-called public
goods; see Sinn et al (2001).5The findings suggest, for instance, that a migrant family
with three children that came to Germany in 1997 and stays for ten years, receives a net
benefit totalling about 120,000 euros.
Indeed, the net fiscal effect of the unskilled migrating generation is usually negative.
However, in evaluating benefits of low-skill migration to the current (as well as the future)
native-born population, it is important to assess the very long-term effect of this migration
on the fiscal system. One has to take into account the infinite horizon of the economy,
as distinct from the finite lives of its individuals. When the migrants’ descendents grad-
ually integrate into the economy, the current native-born population (both workers and
retirees), as well as all future generation, may well gain from low-skill migration.
3The Infinite-Horizon Argument
Consider an overlapping-generations model, where each generation lives for two periods.6
In each period a new generation with a continuum of individuals is born. Each individual
possesses a one unit of labor-schooling time endowment in the first period, when young.
There is a pay-as-you-go (PAYG) pension system, which employs payroll taxes (at a flat
rate t) on the working young in order to finance a uniform benefit (b) to the aged.
4See also Auerbach and Oreopoulos (1999) for a further analysis of these findings. Storesletten (2000)
calibrated a general-equilibrium, overlapping generations model to capture the effects of inflows of working-
age immigrants to the U.S. on the fiscal system, taking into account changes in factor prices.
5The findings are also summarized in Table 1 of Sinn (forthcoming). Obviously, pure public goods, such
as defense, are not included in the calculations, because immigrants consumption of the services of these
goods do not reduce consumption of native born.
6We sketch here only the backbones of the analytical framework behind the infinite-horizon argument.
A detailed derivation of equations (1)-(4) is contained in Razin and Sadka (1999).
There are two levels of labor productivity: an unskilled worker with low productivity
and a skilled worker with high productivity. A skilled worker provides an effective labor
supply of one unit, per units of time at work; while an unskilled worker provides only q<1
units of effective labor supply, per units of time at work. The wage per effective units of
labor is denoted by w.
Born unskilled, each individual can nevertheless acquire skills, and become a skilled
worker, by investing e units of time in schooling, in the first period. The remainder of her
time, 1-e, is spent at work as a skilled worker. The individual-specific parameter e reflects
the innate ability of an individual in acquiring a work skill. The lower is e, that is the
less time she needs to acquire the skill, the more able is the individual. The parameter
e ranges between 0 and 1, with a cumulative distribution function, G(e), describing the
heterogeneity of the population concerning the cost-of-acquiring-skill parameter e.
In the first period of her life the individual brings 1+n children, decides whether to
acquire skill, works, consumes, and saves for retirement in the second period. In the
second period she only consumes her retirement saving and pension.
One can show that all individuals with cost-of-education parameter below e* = 1-q will
acquire skill, whereas all the rest will remain unskilled.
Suppose that at some period (say, period zero), a one-shot wave of m unskilled, working
age, migrants are allowed in. They grow up at the same rate (n) as the native-born popu-
lation, and the ability index of the offspring, who have access to the same education system
as the native born is distributed similarly according to the same cumulative distribution
function G. That is, the second generation of the immigrant wave are fully integrated into
the society. In fact this assumption, together with the infinite horizon of the economy and
the PAYG nature of the pension system, are the driving forces behind our argument.
Consider now the following thought experiment. Suppose that the government contin-
ues to maintain the pre-migration social security contribution rate, t, intact. We then ask
what pension benefit can be paid to retirees in our PAYG system. One can show that
the pension that will be paid to the old, living when the wave of unskilled, working age
migration takes place (i.e., period 0), is:
b1= b2= b3= ... = (1 + n)tw
b0= (1 + n)tw
(1 − e)dG(e) + q[1 − G(e∗) + m]
whereas the pension paid to all future generations is:
(1 − e)dG(e) + q[1 − G(e∗)]
Upon inspection of equation (1), one can observe that b0, the pension benefit to retirees
at the period when the migrants wave takes place, increases in the number of unskilled,
working age, migrants. Therefore, as expected, the old generation in period 0 is clearly
better-off with migration. Upon inspection of equation (2), one can observe that b1= b2=
b3 = ..., the pension benefit to retirees in all post-migration periods, are unaffected by
the migration. In particular, and somewhat surprising, the young generation at the time
in which unskilled, working age migration takes place (both the skilled and the unskilled
native-born members) is not adversely affected by the migration. Thus, the existing native-
born population will welcome the unskilled, working age migration.
Furthermore, by creating some surplus in the pension system (to be invested in a social
security fund) during the period of migration (that is, by lowering b0towards, but not all
the way, to the pre-migration pension benefit) the gains that accrue only to the current
old, could be spread out to the current young as well as to all future generations. In
other words, unskilled, working age migration is a Pareto-improving change with respect
to migrants, as well as the existing current and future native born generations.
Strikingly, this result obtains even though the unskilled migrants may well be net
beneficiaries of the redistributive pension system, in the sense that the present value of
their pension benefits exceeds their pension contributions. To demonstrate this point, we
calculate the present value of life-time net fiscal burden (NFB) of a representative unskilled
migrant. This burden is:
(1 − e)dG(e) + q[1 − G(e∗)]
One can see that the burden is positive if:
_e is the skilled population mean of the cost-of-education parameter. Note that
_e, because e* is the upper bound of the cost-of-education parameter of skilled indi-
_e is the corresponding mean. Thus, the left-hand side of (4) is definitely
positive.Consider the plausible case where r > n, in which the economy is dynamically
efficient.7If a large share of the native-born population is skilled, then condition (4) could
be satisfied. In this case, NFB is positive at the same time that unskilled, working age
migration is a Pareto-improving change for the migrants and the native-born populations.
As expected (if the host country has a large number of skilled people), then when
unskilled, working age migrants come to a country whose pension system redistributes
income from the (skilled) rich to the (unskilled) poor, they impose a net fiscal burden. But
what we have established is that even though migrants are net "consumers" of the pension
system, all existing and future generations of the native-born population may gain from
An important lesson that we draw here is that in an infinite-horizon set-up, one cannot
fully grasp the implications of migration for the welfare state just by looking at the net
fiscal burden that migrants impose on the fiscal system. The studies by Sinn et al (2003),
and Smith and Edmonston (1977), among others, properly emphasize the fiscal burden
that low-skill migration imposes on the fiscal system. However, in an infinite-horizon,
overlapping generations economy, this net burden is perfectly consistent with a net gain to
7Evidently,our argument holds trivially in the implausible case where r<n and the economy is inefficient.
the native born population. The additional obligation of the fiscal system to pay pension
benefits to the incoming migrants, when they retire, could be shifted forward, in effect,
indefinitely. If, hypothetically, the world would come to a stop at a certain point of time in
the future, the young generation at that point would bear the deferred cost of the present
migration. But in an ever-lasting economy, the migrants, by supplying work and helping
the financing the pension benefit of period zero to native born retirees, are a boon to the
the host country population: old, young, and future generations.8
 Auerbach, Alan and Philip Oreopoulos, 1999. "Analyzing the Fiscal Impact of U.S.
Immigration," American Economic Review, Papers and Proceedings, 89 (May), 176-80.
 Razin, Assaf and Efraim Sadka, 1993. The Economy of Modern Israel: Malaise
and Promise, University of Chicago Press.
 Razin, Assaf and Efraim Sadka, 1995. "Resisting Migration: Wage Rigidity and In-
come Distribution,"American Economic Review, Papers and Proceedings, 85 (May),
 Razin, Assaf and Efraim Sadka, 1999. "Migration and Pension with International
Capital Mobility," Journal of Public Economics, 74, 141-150.
8Migration may have some other important implications that are not addressed here. Migration may
exert a downward pressure on wages. If wages are rigid, then this may cause a rise in unemployment; see
Sinn (forthcoming) and Razin and Sadka (1995). But if labor markets are flexible, the pressure may drive
wages down; see storesletten (2000) and Razin and Sadka (2000). However, the decline in wages may well be
just a short-term phenomena, as it triggers accummulation of new capital; through both domestic savings
and international capital inflows. Indeed, the massive immigration into Israel from the former Soviet Union,
following the collapse of communism, was met by a fairly flexible labor market, and a massive influx of
capital; see Razin and Sadka (1993) for an early account.
 Razin, Assaf and Efraim Sadka, 2000. "Unskilled Migration: A Burden or a Boon for
the Welfare State," Scandinavian Journal of Economics, Vol. 1 (May), 463-479
 Razin, Assaf and Efraim Sadka, 2001. Labor, Capital, and Finance: Interna-
tional Flows, Cambridge University Press.
 Razin, Assaf and Efraim Sadka, with the collaboration of Chang Woon Nam, forth-
coming. The Decline of the Welfare State: Demography and Globalization,
CESifo Monograph Series, MIT Press.
 Simon, Julian L., 1984. "Immigrants, Taxes, and Welfare in the United States," Pop-
ulation and Development Review, 10 (March), 55-69.
 Sinn, Hans-Werner, forthcoming. "EU Enlargement, Migration and the New Consti-
tution." CESifo Economic Studies.
 Sinn, Hans-Werner, Gebhard Flaig, Martin Werding, Sonja Munz, Nicola Dull, Her-
bert Hofmann, 2001. "“EU Enlargement and Labour Mobility - Consequences for
Labour Markets and Redistribution by the State in Germany," CESifo Research Re-
port, November, No. 2.
 Storesletten, Kjetil, 2000. "Sustaining Fiscal Policy Through Immigration," Journal
of Political Economy, Vol. 108 (2), 300-323.
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