The Skill Composition of Immigrants and the Generosity of the Welfare State: Free vs. Policy-Controlled Migration

Abstract

The paper analyzes the effect of the generosity of the welfare state on the skill composition of immigrants. We develop a parsimonious model in which the effect of an increase in the generosity (and taxes) of the welfare state on the skill composition of immigrants under free migration is negative. The reason is that welfare state benefits attract unskilled migrants because they contribute to tax revenues less than what they gain from benefits; and this generosity works to deter skilled immigrants, because they contribute in taxes more than in benefits. In sharp contrast, the effect of an increase in the generosity (and taxes) of the welfare state on the skill composition of migrants is positive if migration is controlled by policy. Being net contributors to the welfare state, skilled migrants can help finance a more generous welfare-state system; thus, they are preferred by the policy maker over unskilled migrants. We take the prediction of the model to cross-sectional data on source-host, OECD-EU country pairs in the year 2000. The identification strategy is to use the decomposition the source-host country pairs into two groups: one group, a "free migration" group, source-host country pairs within the EU, and another group, "policy-controlled migration" group, the pairs from non-EU countries into the EU. We find evidence in support of the predictions of the parsimonious model, that the generosity of the welfare state adversely affects the skill-composition of migrants under free migration; but it exerts a more positive effect under controlled migration, relative to the free migration regime.