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Pro-Cyclical Unemployment Benefits? Optimal Policy in an Equilibrium Business Cycle Model

Author

Listed:
  • Kurt Mitman

    (Department of Economics, University of Pennsylvania)

  • Stanislav Rabinovich

    (Department of Economics, University of Pennsylvania)

Abstract
We study the optimal provision of unemployment insurance (UI) over the business cycle. We consider an equilibrium Mortensen-Pissarides search and matching model with risk-averse workers and aggregate shocks to labor productivity. Both the vacancy creation decisions of firms and the search effort decisions of workers respond endogenously to aggregate shocks as well as to changes in UI policy. We characterize the optimal history-dependent UI policy. We find that, all else equal, the optimal benefit is decreasing in current productivity and decreasing in current unemployment. Optimal benefits are therefore lowest when current productivity is high and current unemployment is high. The optimal path of benefits reacts non-monotonically to a productivity shock. Following a drop in productivity, benefits initially rise in order to provide short-run relief to the unemployed and stabilize wages, but then fall significantly below their pre-recession level, in order to speed up the subsequent recovery. Under the optimal policy, the path of benefits is pro-cyclical overall. As compared to the existing US UI system, the optimal history-dependent benefits smooth cyclical fluctuations in unemployment and deliver non-negligible welfare gains.

Suggested Citation

  • Kurt Mitman & Stanislav Rabinovich, 2011. "Pro-Cyclical Unemployment Benefits? Optimal Policy in an Equilibrium Business Cycle Model," PIER Working Paper Archive 11-010, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania.
    • Handle: RePEc:pen:papers:11-010
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    References listed on IDEAS

    as
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    Full references (including those not matched with items on IDEAS)

    Citations

    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Pro-Cyclical Unemployment Benefits? Optimal Policy in an Equilibrium Business Cycle Model
      by Christian Zimmermann in NEP-DGE blog on 2011-05-15 19:18:51

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    Cited by:

    1. Alisdair McKay & Ricardo Reis, 2021. "Optimal Automatic Stabilizers [Consumption versus Expenditure]," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 88(5), pages 2375-2406.
    2. Fuller, David L. & Kudlyak, Marianna & Lkhagvasuren, Damba, 2014. "Productivity insurance: The role of unemployment benefits in a multi-sector model," Journal of Economic Dynamics and Control, Elsevier, vol. 47(C), pages 39-53.
    3. Torben M. Andersen, 2014. "Tuning unemployment insurance to the business cycle," IZA World of Labor, Institute of Labor Economics (IZA), pages 1-54, May.
    4. Nakajima, Makoto, 2012. "A quantitative analysis of unemployment benefit extensions," Journal of Monetary Economics, Elsevier, vol. 59(7), pages 686-702.
    5. Bassanini, Andrea, 2015. "A Bitter Medicine? Short-term Employment Impact of Deregulation in Network Industries," IZA Discussion Papers 9187, Institute of Labor Economics (IZA).
    6. Konstantinos Tatsiramos & Jan C. Ours, 2014. "Labor Market Effects Of Unemployment Insurance Design," Journal of Economic Surveys, Wiley Blackwell, vol. 28(2), pages 284-311, April.
    7. Mark Strøm Kristoffersen, 2012. "Business Cycle Dependent Unemployment Benefits with Wealth Heterogeneity and Precautionary Savings," Economics Working Papers 2012-19, Department of Economics and Business Economics, Aarhus University.
    8. Ek, Susanne, 2012. "Unemployment benefits or taxes: How should policy makers redistribute income over the business cycle?," Working Paper Series 2012:2, Uppsala University, Department of Economics.
    9. Philip Jung & Keith Kuester, 2015. "Optimal Labor-Market Policy in Recessions," American Economic Journal: Macroeconomics, American Economic Association, vol. 7(2), pages 124-156, April.
    10. J. Carter Braxton & Gordon Phillips & Kyle Herkenhoff, 2018. "Can the Unemployed Borrow? Implications for Public Insurance," 2018 Meeting Papers 564, Society for Economic Dynamics.
    11. Pollak, Andreas, 2013. "Employment Insurance and the Business Cycle," MPRA Paper 49358, University Library of Munich, Germany.
    12. Albertini, Julien & Poirier, Arthur, 2014. "Unemployment benefits extensions at the zero lower bound on nominal interest rate," SFB 649 Discussion Papers 2014-019, Humboldt University Berlin, Collaborative Research Center 649: Economic Risk.
    13. Stanislav Rabinovich & Kurt Mitman, 2012. "Unemployment Benefits Caused Jobless Recoveries!?," 2012 Meeting Papers 1112, Society for Economic Dynamics.
    14. Tito Boeri & Jan van Ours, 2013. "The Economics of Imperfect Labor Markets: Second Edition," Economics Books, Princeton University Press, edition 1, number 10142.
    15. repec:hum:wpaper:sfb649dp2014-019 is not listed on IDEAS

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    More about this item

    Keywords

    Unemployment Insurance; Business Cycles; Optimal Policy; Search and Matching;
    All these keywords.

    JEL classification:

    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • J65 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Unemployment Insurance; Severance Pay; Plant Closings

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