Wednesday, January 20, 2010

The CBO is Consistently Nonsensical on UI

When Peter Orzag was heading CBO, CBO advocated UI benefits as a way to stimulate (sic) the economy. The argument was that people avidly spend UI benefits, and that spending is good for the economy. And then CBO throws in a footnote that the payment of unemployment benefits gives an incentive for people to remain unemployed longer, and even a citation to statistical studies finding exactly that. That footnote is accompanied by a claim that the "effect is probably less pronounced when jobless rates are relatively low."

The Doug Elmendorf CBO tells exactly the same story, and concludes that UI is MOST potent of all stimulus tools!

The CBO story is incredibly flimsy:
  1. UI benefits will reduce spending by some people -- namely those who have to pay the taxes (or buy the government debt) used to finance the benefits. This offsets much of the "extra" spending those receiving the UI benefits (more on the offset here). Maybe it's true that the offset is not 1-for-1, but there is an offset and the result is something much less than the actual UI dollars disbursed. (This offset is ignored by both CBO reports, with no justification given).
  2. What evidence shows an effect of UI benefits on unemployment that is smaller during a recession? I already showed that labor supply shifts mattered just as much during this recession as they did before hand, and I do not see why the labor supply shifts associated with UI benefits would be any different.
  3. Even if effect of UI benefits on unemployment were smaller during a recession, CBO still admits that there is an effect, and a person who is unemployed rather than working is a prime candidate for spending less! So this is another way in which UI reduces spending. All together, we have two ways in which UI reduces spending, and one way UI benefits increase spending, and no evidence that showing that the one overwhelms the two.
  4. Even if, miraculously, UI were to increase aggregate (consumption) spending, what evidence do we have that (consumption) spending is better for the economy than saving?!
  5. Even if spending were better for the economy than saving, the millions of jobs lost over the last year cannot be blamed on inadequate spending: Nov 2009 consumption spending (the latest month available) was higher than a year early (regardless of whether you correct for inflation). Meanwhile, full-time employment fell more than 7 million. [UI apologists will nitpick about trends, population growth etc. -- but they'll never get away from the fact the consumption spending was basically constant while employment tanked]

So making the case that UI helps the economy grow is a logical chain with multiple terribly weak links. If any one breaks, the case for UI as a growth tool falls apart.

The bottom line is that UI shrinks the economy. Yes, UI may be compassionate and the "right" thing to do, but then the honest recommendation is "Let's shrink the economy more in order to hand out more compassion." Instead, CBO is selling snake oil.

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