Posts Tagged ‘unemployment insurance’

Rethinking unemployment insurance: Part II

December 16, 2008

Picking up on the recent unemployment insurance post about Jeff Kling’s proposal for a revenue-neutral reform of unemployment insurance that would create earnings replacement account, funded by workers, that would help them through short-term job layoffs, allowing government-funded unemployment insurance to be used for long-term layoffs or permanently lower wages in new jobs that can be especially damaging.

Kling makes the argument that his proposal will actually reduce temporary layoffs by 10-15 percent and permanent layoffs by an unspecified amount. How? By forcing firms to bear the costs of unemployment. Under the current unemployment insurance system, firms make payments to the government to cover payments. Kling proposes that firms contribute to government coffers for for wage-loss insurance, repayment insurance, assistance on earnings replacement accounts for those with lower wages. Since the proposal is revenue neutral, the total costs to these forms of insurance would be the same as they are now. But Kling proposes raising the taxable earnings base to a real value of $90,000 (in some states it is currently below $10,000), cutting the overall unemployment insurance payroll tax rate, and lowering the minimum amounts that firms must pay. The result, Kling says, would be a tighter linkage between layoffs and direct firm costs. Intra-firm subsidies for unemployment insurance would thus be reduced.

In addition, since most employees who become unemployed would bear the costs of unemployment benefits directly, they would be much more likely to voice strong opposition to temporary layoffs than they are under UI when they receive payments with no corresponding future obligations. Firms in industries with frequent temporary layoffs would be pressured by the labor market to raise wages in order to continue to attract workers who, under the proposal, would be self-insuring income loss during layoff through savings and borrowing.

Addendum to previous post on unemployment: Here is one more reason why individuals might be more likely to return to work faster under Kling’s plan. Recent research by economist Raj Chetty argues unemployment insurance raises some problems of moral hazard, but that equally serious effects come from something he calls the “liquidity effect.” (A gated version of his working paper is here.) In essence, unemployment benefits allow an individual to remain out of work longer since they have enough cash-on-hand to survive. But if workers have to use the money they saved themselves through their earnings replacement accounts to fund their short-term unemployment, they could be more motivated to find a job. Certainly more motivated than if the entire insurance check was coming out of some other taxpayer’s pocket.

Rethinking unemployment insurance: Part I

December 10, 2008

With 2.7 million more Americans unemployed compared with the start of the year, unemployment insurance has returned to the forefront as a public policy issue. Most of the talk has been about extending unemployment benefits. It may be time, though, for lawmakers to engage in a more comprehensive reform debate – one that includes a proposal by Jeff Kling to alter the structure of unemployment insurance in such a way that recognizes the psychology of losing a job and strengthens the incentives for returning to work.

Kling’s revenue-neutral proposal would reform unemployment insurance by shifting government resources toward protection against especially damaging long stretches of unemployment or permanent effects of job loss, such as lifetime wage reductions. Laid-off workers can remain unemployed for long stretches for two major reasons, one economic and one psychological. 1) They simply cannot find work; 2) They refuse to take lower paying jobs thinking they can find a new one that pays as much as their last.

To create an incentive for workers to clear the psychological hurdle, Kling proposes setting up temporary earnings replacement accounts (TERA) to improve the protection against the effects of long-term unemployment and permanent wage-reduction. The account would be funded by the workers themselves during more prosperous times, and drawn from during periods of distress. Workers could also borrow against the account from future earnings. During periods of unemployment or lower-wage jobs, workers would draw funds from both their unemployment account and more traditional unemployment insurance (UI), which would result in a broader safety net from a similar government budget. While the unemployment accounts would be funded by workers, the unemployment insurance would be funded by firms, as it is currently.

In comparison with UI, use of TERAs should reduce the average amount of time that people spend out of work. Use of TERAs instead of UI increases the price for additional unemployment (at least among those who do not expect to retire with an unpaid loan), because TERA withdrawals would need to be repaid from future income. As a result, the introduction of TERAs may reduce the overall duration of unemployment by 5 to 10 percent.

The duration of unemployment would also be affected by the availability of wage-loss insurance. Individuals considering a job offering a wage below their insured wage level would be more likely to accept it, since the hourly rate of pay would be augmented by wage loss insurance payments. Making work more rewarding should reduce the tendency of some people to become discouraged and to remain unemployed or even stop looking for work. This reduced duration of unemployment is unlikely to be associated with workers taking jobs too rapidly, rather than waiting more patiently for a more productive job match.

Kling’s proposal could also reduce layoffs by firms, which will be explained further in the next post.