In the heyday of 20% time, Google had more money than they knew what to do with and the engineers were generally overqualified. Remember that in the early 2000s Google was famous for hiring people with PhDs and asking them build web servers.

Within that climate, 20% time was a great policy. Nobody needed "permission" to take a day out of the week to write a better source code management workflow or a config file VIM code completion for the internal codebase or improve build times or fix an annoying bug in another team's codebase, or even just generate good will for the company by contributing to open source projects. It was good for the company, and good for morale.