Assessing the Welfare Effects of Unemployment Benefits

From Camille Landais:    

I investigate in this paper partial equilibrium labor supply responses to unemployment insurance (UI) in the US. I use administrative data on the universe of unemployment spells in five states from the late 1970s to 1984, and non-parametrically identify the effect of both benefit level and potential duration in the regression kink (RK) design using kinks in the schedule of UI benefits. I provide many tests for the robustness of the RK design, and demonstrate its validity to overcome the traditional issue of endogeneity in UI benefit variations on US data. I also show how, in the tradition of the dynamic labor supply literature, one can identify the purely distortionary effects of UI using variations along the returns-to-employment profile brought about by exogenous variations in the benefit level as well as in the benefit duration. I then use these estimates to calibrate the welfare effects of an increase in UI benefit level and in UI potential duration. 

He finds a few things, including:

  • Overall, replicating the RK design for all states and periods, my results suggest that a 10% increase in the benefit level increases the duration of UI claims by about 3%, and that increasing the potential duration of benefit by a week increases the duration of UI claims by about .3 to .5 week. These estimates are higher than estimates found in European countries using sharp RD designs but are still lower than previous estimates on US data. Interestingly, I am able to show that using the same strategy as Meyer [1990], who found slightly higher elasticities on a smaller subset of the same data, one can still find results that converge to my RKD estimates by adding a richer set of controls for previous earnings. 

  • My results suggest that the ratio of liquidity to moral hazard effects in the response of labor supply to a variation in unemployment benefits is around .5. This confirms the existence of significant liquidity effects as found in Chetty [2008].  

  • My calibrations show that the size of the liquidity effect is critical to assess the welfare implications of UI policies and that both an increase in the benefit level and in the potential duration of benefits would have provided positive (yet small) welfare gains. Though these policy recommendations are local, the calibration strategy suggested in this paper can be easily replicated for all US states and at any point in time with simple UI administrative data. By a simple application of this strategy, any UI administration could calibrate in a timely manner the welfare implications of small adjustments to its UI rules (such as a change in the maximum benefit amount or a benefit extension) without the need to estimate separately the consumption smoothing benefits of UI with consumption data. 


About ozidar

I'm an Assistant Professor of Economics at the University of Chicago Booth School of Business and a Faculty Research Fellow at National Bureau of Economic Research. You can follow me on twitter @omzidar.
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