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The Economics of Paid Maternity Leave

Posted on the 08 January 2019 by Smallivy

The Economics of Paid Maternity Leave

The need for paid maternity leave is often brought up during election cycles.  We often hear the United States is the only “major,” “civilized,” or “Western” country without government-provided, paid maternity leave.  And sure, it sounds great to get paid while you’re off for the first few months or years of your baby’s life.  When you look at the economics of such a system, however, you start to realize that it isn’t necessarily all that different whether you have paid leave or not since you’ll end up paying for the leave anyway.  You might be better off without paid leave because then you’ll have more control and the choice to spend your money on other things if you don’t decide to have children.  Let’s look at the economics a bit and see what’s really happening.

Note: This is not meant to be a political debate, just a look at the economics.  I’m not trying to advocate for or against paid maternity leave.  Feel free to express your opinions in the comments, just be nice.  If you do wish to make a counter-argument, providing logic and evidence to support your position, rather than just making assertions, would be appreciated.

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Employment economics from the employer’s side

Employers are often seen as endless supplies of money.  Many employees feel that their employer could afford to double their salary or greatly increase their benefits and still make plenty of money.  Hearing that an employer is making millions or even billions in profits each year further stimulates this notion.

If you look into the books a bit, however, you’ll find that employees are taking home the lion’s share of the wealth they create through their work.  For example, if you take the profit of McDonald’s and divide by the number of employees they have and by the number of hours in a year, you’ll get something like $5 per employee per hour.  This means that they make about $5 per hour for each employee they have.  An entry-level employee makes around $8 per hour, meaning that they are generating about $13 per hour by being there.  The entry-level employee takes home $8 of the $13, or 61.5%, while the company keeps $5, or 39.5%, in exchange for providing the workplace, developing the successful business concept, maintaining the schedules, providing training, buying the food and supplies, developing and running advertising, preparing tax forms, and performing other services for the employee that make it a lot easier to work for McDonald’s than start your own restaurant.  Note that if wages were raised to $15 per hour as advocated by some, places like McDonald’s would need to either lay-off workers who don’t produce at least $20 per hour or raise prices, meaning their employees would need to spend more to get the same goods they had before the increased wages.  Otherwise, they would be losing money.

The Economics of Paid Maternity Leave

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Given that employers, even large ones, don’t have an endless supply of money sitting in a vault somewhere that they can dispense for benefits like paid maternity leave, providing them requires that the employer find the money somewhere.  Realize that maternity and other leave is a double-whammy for employers since not only must they pay the salary for the employee on leave, but also pay a salary for someone to do the job during the leave.  This can be done, but requires the employer cut the amount paid to employees in salary, reduces their profit, or do a combination of the two.  Let’s look at each of these options:

The employer reduces salaries:  One option would be to reduce employee salaries to fund paid maternity leave benefits.  The amount of the reduction would depend on how often employees go on maternity leave and how long they are on leave.  An employer would probably need to reduce salaries in general for everyone, instead of just for those who wanted paid maternity leave.  Otherwise, there would be accusations of discrimination since, obviously, maternity leave by definition would be used only by women.  Paternity leave could be offered as well so that guys would have some benefit in exchange for the lower salary they were receiving.

The Economics of Paid Maternity Leave
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If only a few employees used leave, for example, two employees per year out of a 100 person company, salaries would be reduced very little and there would not be much of an effect.  If there were several employees who used the benefit several times, however, salaries might be appreciably lower than those of other employers.  If this happened, the employer would start losing employees who were not interested in maternity leave to other employers since the salaries would be higher there.  In many cases, the employees who chose to work at the company offering leave would probably stay with the employer just until they were done having children, then change to another employer who paid better.  This would mean that the employer providing maternity benefits would be constantly having employees either out on leave or leaving for greener pastures.

Another possibility would be for the employer to provide an option where an employee could defer salary and build up a maternity leave pool.  In this case, only the employees who were wanting to use the leave would see their salaries reduced to pay for the leave, but this would really be no different than the employee simply building up a private savings account for maternity leave herself.  The employee would see no advantage since the cost of the leave would not be spread out to others who were not taking leave.

The employer cuts profits:  Another option would be for the employer to keep salaries competitive, but reduce their profits to pay for maternity leave.  If the productivity of the employees at the company offering maternity benefits were equal to those not offering benefits, the result would be a reduction in profits.  For publically-traded companies, this would cause share prices to drop and the ability of the company to use issuing new shares to pay for expansion or use stock options for executive compensation and employee ownership plans to be limited.  This might cause the company to fall behind competitors and close down.  A private company would have more flexibility where the owners just decide to take home less in exchange for happier employees.  This would work so long as the reduction were not so great so as to make the profits less than the living expense needs of the owners.

The Economics of Paid Maternity Leave

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If the company were able to attract and keep better, more productive employees because of the better benefits, such that the company made enough extra income per employee to cover maternity leave costs without needing to cut salaries or profits, this would be a viable system.  Note that because employees on leave are not productive, the company would need to have the employees they hired be extremely loyal and stay with the company after starting families (or start families later after working for several years) so that the company’s investment could be recouped.   (If you work for a company that offers paid leave, remember this when you get the itch to look elsewhere for more money.)  This would be an extremely effective system if the company were able to create enough goodwill by having the generous maternity leave benefits to have productive employees who didn’t take advantage of the policy choose to work for the company anyway just because they felt they were a good company.  This is a tall order, but possible.

What about a government system?

Another alternative would be to have a system either mandated by the government or run by the government.  A government option has the advantage of eliminating the labor cost advantages that occur when one company offers maternity benefits but another doesn’t, eliminating the economic disadvantage of offering paid maternity leave.  Since everyone would be forced to provide maternity leave it would just be an additional cost of doing business that would be passed onto customers.  A government system would also reduce the cost to participants by spreading out the burden to more people by forcing more people, many of whom who would never take leave, to pay into the system.  Basically, the government would cause everyone to spend some of their time/money to fund maternity leave whether they benefitted from it directly or not.  Of course, having healthy, productive children created and raised has a benefit for everyone in a society.  Assuming that the time off was used to improve the bond between mother and child and provide care during this critical time of life, the forced taking could be justified.

Again there are two basic choices: a system where the government requires employers to provide maternity leave and a system where the government pays for maternity leave by creating a new tax.   Let’s look at both choices:

The employers are forced to provide leave:  The advantage of just having a mandate is that it would not require another government program to administer the program.  A law would simply be passed requiring a certain amount of leave per employee.  To cover the costs, businesses would probably react through a combination of reducing salaries and increasing prices.  This would have the result of effectively causing employees to be the ones paying for most of their maternity leave, both by having lower salaries and by paying more for the products they bought.  Increasing the amount of maternity leave required would cause this effect to increase.

With all employers being forced to offer paid maternity leave, employees would not have the choice of selecting a business that provided a longer leave time or one with a shorter leave time but a higher salary.  While illegal, there would also be an incentive to not hire young women since that would make it more likely that paying for maternity leave would be needed.  In the very least, many businesses would avoid having a significant number of women of child-bearing age on their staff for fear of having a large number of absences at the same time.  The longer the mandated leave, the greater the incentive for discrimination.

The Economics of Paid Maternity Leave

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The government provides funding for leave directly through taxes:  The government could provide funding for leave through some sort of government program.  Based on programs in other countries and looking at the design of government programs in general, it is likely that such a system would 1) require employees who wish to have paid leave contribute something to the system with the remainder of the cost paid for through general revenue funds, 2) the benefits paid in leave would be less than full salary, particularly for higher income individuals, and 3) various requirements on recipients would be imposed.  Because a government program would require government agencies to collect, track, and distribute the funding, as well as find and prevent fraud and abuse, a government program would have a higher cost than a program provided by employers.  This would mean that even though the benefits would be less than full salary, the amount of money needed to fund the program would be greater than the cost of a system where employers provided leave directly.

Because the cost would be spread over all of society, this would create the lowest burden on individuals.  This is assuming that all individuals are paying taxes and thereby paying into the system.  If taxes were progressive, such that many individuals were paying little or no taxes, the burden would be shifted to a smaller subset of the population.  If this burden became too onerous, these individuals might choose to become less productive – since working harder offered little benefit – or leave the country and go somewhere else where they were not taxed so much.  Because these would be the most productive people, the wealth of society would decrease in general.  For example, the size of homes, ownership of cars, and ownership of luxuries in general in many European countries are less than what is found in the United States due to the socialist policies of these countries.

Government programs inevitably become need-based as costs increase and resources run short.  This means that higher-income individuals would eventually find themselves basically just paying for their own maternity leave while still being forced to pay for the leave of others.  The amount they would pay in taxes for the program would probably increase over time despite their benefits being reduced as has been seen with the Social Security system.

Unintended consequence

Regardless of whether leave is paid or not, taking leave has an effect on earnings and future salaries.  This is because experience is missed, skills are forgotten, and opportunities are missed when an employee is away from the office for an extended period of time.  The longer the leave, the greater the effect on career progression and salary.  This is likely the primary reason that pay for women has lagged that of men since women almost always take at least some time off after having a baby and women usually take longer leaves after having a baby than do men.  (Note that the potential for a woman taking leave can have an effect on salary even if they do not have a baby.  Women generally have salaries equal to men early on, but do not keep pace once they enter prime child-bearing ages, perhaps because employers, unintentionally or intentionally, pay less because they are less likely to give prime assignments/roles to women out of fear that they will be gone for an extended period at a critical time.)

Having longer paid leaves may cause the unintended effect of increasing the gender pay gap.  People tend to use all of a benefit that they can get, especially when they have paid into the system.  Note Social Security recipients taking low-wage jobs to avoid taxes on their Social Security benefits even though the additional wages they could get more than offset the additional taxes.  If there were a requirement that employers provided 2 years of paid leave per child, for example, it is likely that most women would take the full two years off, losing a great deal of experience.  Those having two children would lose four years.  This would have a significant effect on their future pay.

The Economics of Paid Maternity Leave

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What is the bottom line?

The bottom line is that for most systems, on average, individuals would be providing the money that would pay for their own maternity leave.  Some would pay less, but others would pay more.  Spreading the payment out over a larger group of people would reduce the burden on some individuals, but cause those who never have children to be supporting those who do.  This may cause an increase in the number of children since individuals might figure that they are paying for the benefit anyway, so they might as well use it, but possibly not.  Resentment may cause a movement to require paid leave without maternity to be provided, like paid sabbaticals.

Economically, it is probably best for individuals who desire “paid” maternity leave to simply save up a portion of their salaries and be self-funding.  This will provide the most control, have the least cost, and prevent money from being lost should the couple decide not to have a baby or find themselves unable.

The Economics of Paid Maternity Leave

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The best-case scenario would be if companies who simply decided to offer paid maternity leave as a benefit found that they could attract better employees, who are both loyal and more productive than the average employee.  This combination of productivity and loyalty could offset the cost of paid maternity leave.  This is unlikely, given the need to both pay an employee who is not working and pay for another individual to cover her duties.  It might be possible to make the system work, however, if super-star employees were attracted and motivated to perform by the benefit.  Of course, an employer could also simply pay more to attract more productive employees.  Those employees would then have more money to put away to pay for their own maternity leave.

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Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.


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