EC426-Public Economics. Class 2, Question1

Transcription

1 EC426-Public Economics Class 2, Question1

2 In the US, the time that people can receive unemployment benefits is extended during recessions. Use the Baily formula to shed light on this particular design of the UI system in response to business cycle effects?

3 Baily Formula First Best Solution 1. Full Insurance 2. No Moral Hazard Second Best Solution 1. Optimality achieved at MB=MC. 2. Unemployment rises in response to benefits. 3. Elasticity calculated at 0.5.

4 Baily Formula Conventional wisdom is that unemployment benefits should be extended in recessions. Economic justification for it is based on the concept of an insuranceincentive trade-off involved in unemployment insurance design. 1. Probability of finding a job depends on both the search intensity and the job offer arrival rate. 2. UI discourages workers from searching for jobs; hence optimal policy design trades off the benefit of insurance against the cost of reduced search intensity. 3. In a recession, however, the job offer arrival rate is low, and so workers are unlikely to find a job regardless of search intensity. As a result, the incentive cost of unemployment insurance is low in recessions, while the benefit is high.

5 Unemployment benefit generosity is measured as net replacement rates, which indicates the average amount a worker can receive from unemployment benefits expressed as a percentage of their former income. Figure 1, Biegert (2017)

6 Schmieder, Watcher and Bender (2011) Aim: Estimate how the effect of extensions in the duration of unemployment insurance benefits (UI) on non-employment and benefit duration varies over the business cycle. Data and Method: universe of unemployment spells in Germany over 20 years, where differences in potential UI durations by age allow for the implementation of a regression discontinuity design.

7 Schmieder, Watcher and Bender (2011) Findings: 1. Indicate a modest effect of a one-month extension in UI durations on non-employment durations of comparable magnitude to what has been found before. 2. The ratio of the effect of UI extensions on non-employment and benefit durations which captures the reduction in non-employment duration for a given rise in UI durations, and hence is a measure of the disincentive effect is significantly countercyclical. 3. Welfare effect of UI extensions is the sum of two components: the benefit provided by the additional coverage and the cost due to the non-employment effect of UI.

8 Schmieder, Watcher and Bender (2011) UI benefits should rise in recessions under two conditions: 1. First, if the marginal utility of the unemployed is constant or increasing during recessions. 2. Second, if the cyclical movement of the partial equilibrium effects identified herein provide a good approximation of the cyclicality of general equilibrium effects.

9 Additional Rabinovich and Mitman (2015) Find that it is indeed optimal to extend unemployment benefits at the beginning of a recession. However, contrary to the current U.S. policy, they should be lowered as the recession progresses, in order to speed up the subsequent recovery. Biegert (2017) People are willing to work despite generous benefits if there are good job opportunities. That means it is possible to achieve low unemployment while at the same providing high levels of social security for periods of unemployment.

10 Is it a safety net or a hammock for the lazy?

11 Papers Biegert (2017), Welfare Benefits and Unemployment in Affluent Democracies: The Moderating Role of the Institutional Insider/Outsider Divide, American Sociological Review. Mitman and Rabinovich (2017), Optimal unemployment insurance in an equilibrium business-cycle model in the Journal of Monetary Economics.