Social Insurance and Layoffs

Copyright, The New York Times Company

Unemployment insurance and other types of social insurance subsidize job separations and thereby result in too many layoffs and too few people employed.

A variety of programs help workers after they leave a job and do not start a new one, depending on the circumstances of the job separation.

Unemployment insurance is often available when the worker was laid off and continues to look for work. Disability insurance is available when a worker’s health makes it too difficult to remain on the job. Social Security’s old-age insurance program provides income for elderly people after they leave their jobs.

Layoffs, disability events and retirements have some differences, of course, which is why each type of job separation has a separate insurance program. But in each case, a working relationship between an employer and an employee has been terminated, and the worker has not started a new one with, say, different working conditions or a different rate of pay.

In their analyses of disability and old-age insurance, economists have found that insurance reduces the cost of job separations and thereby increases their numbers, because the insurance helps replace the income and production that is lost when the worker stops working.

The prospect of the insurance payments gives employers less reason to change the nature of a job to encourage a disabled or elderly employee to remain at work and gives employees less reason to accept changes in working conditions or pay that would make it easier for employers to retain them.

David Autor of the Massachusetts Institute of Technology has studied the United States federal disability-insurance program and finds that it “provides no incentive to employers to implement cost-effective accommodations that would enable disabled employees to remain on the job.”

The Congressional Budget Office explains further about disability insurance that “because the D.I. program is funded through a flat-rate payroll tax on employers and employees, employers do not bear the costs associated with a disabled worker who stops working and becomes a beneficiary in the D.I. program.”

Note that disability benefits are paid to employees, not employers. Nevertheless Professor Autor and other economists conclude that the benefits affect employer behavior because the employment relationship is exactly that: a relationship between employer and employee.

If an employee has better, or less bad, options outside the relationship, then the employer will find the employee more expensive to keep. Disability and other forms of social insurance increase the income employees can receive outside the job and thereby make employees more expensive from an employer’s point of view.

The economists Jonathan Gruber and David Wise have found that Social Security provisions “provide enormous incentive to leave the labor force early.” Just like disability insurance, Social Security provisions can shift some of the burden of job separations from the private sector to the public insurance programs and thereby give the private sector too little incentive to prevent or delay the separations.

Employers sometimes experience reductions in demand from their customers, as auto manufacturers and home builders did early in the recent recession. One way they react is to lay off part of their work forces. But they could also adapt to less demand by work-sharing, reducing prices charged their customers (or increasing those prices less than the general rate of inflation) or reducing wages.

Smart employers recognize that one of these adjustments — layoffs — brings forth help from the government through its safety-net programs (on behalf of employees); the other adjustments do not. If the safety net were less generous, there would be fewer layoffs during a recession, because employers would adjust less with layoffs and more in other ways.

(State unemployment insurance programs are, and have been, “experience rated” in the sense that employers sometimes find their payroll taxes increased for each employee they dismiss. However, the experience rating is imperfect; some employers are already at the maximum tax rate and further layoffs would not increase it. More important, the effect of experience rating on employer costs of layoffs was present even before the recession. What’s new since 2008 are the federal extended and emergency unemployment programs that are not experience-rated, thereby adding to the benefits an unemployed person can expect to receive without adding to the taxes levied on his former employer).

Thus, even if it were true that the unemployed completely ignored the safety net’s generosity in their decisions to seek and accept jobs, the safety net would still increase unemployment during a recession by increasing layoffs.

Yet economists have recently forgotten this important connection between unemployment insurance and the number of people employed. The C.B.O. has looked at the economic effects of unemployment insurance and noted that extending unemployment benefits would “reduce the intensity of some workers’ efforts to search for a new job because the higher benefits would lessen the hardship of being unemployed.” But the C.B.O. concluded that “the net impact on the unemployment rate from some workers’ reduced efforts to find a job would be slight.”

Although it looks at incentives to avoid job separations in its consideration of disability insurance, the C.B.O. makes no mention of the same incentives in its analysis of unemployment insurance and consequently is premature in its rejection of the basic economic proposition that paying people for not working will reduce the number of people who work.