Child care tax credits are intended to relieve the financial burden of child care expenses for working families, yet the benefit incidence may fall on child care providers if they increase prices in response to credit generosity. Using policy-induced variation in the Child and Dependent Care Credit and multiple datasets in both difference-in-difference and instrumental variable frameworks, I find evidence of substantial pass-through: between $0.73 – $0.90 of every dollar is passed through to providers in the form of higher prices and wages. Robustness checks confirm the pattern that the bulk of credits are crowded out by increased prices. Furthermore, the relative inelasticity of child care suppliers implies that increased non-refundable credit generosity may have the unintended effect of making child care less affordable for low-income families, though the magnitude of this conclusion is tempered by heterogeneous pass-through rates.
Pointer from James Pethokoukis.
I am surprised by the claim that supply is relatively inelastic. I wonder if that is true in the long run and, if so, why. Again, I do not think of the child care industry as politically powerful, so even though this perfectly illustrates my view that the public-choice outcome is subsidized demand and restricted supply, I want to be cautious about this one.