Unemployment Insurance in Europe: unemployment duration and subsequent employment stability

1. Unemployment Insurance in Europe: unemployment duration and subsequent employment stability EPUNet Conference 8-9 May 2006 Barcelona Konstantinos Tatsiramos IZA, Bonn

2. Introduction • Unemployment is a major issue especially in Europe: • High unemployment rates – EU (9%), US (5.8%) (1990-2000) • High incidence of long-term unemployment – EU (40%), US (<10%) • Unemployment has economic and social consequences (loss of skills, loss of income, poverty) • EU “Lisbon Strategy” (2000): • achieve full employment by creating more and better jobs • attain higher geographic and occupational mobility • improve skills and information on job opportunities • Policy recommendations stress the importance of structural reforms: • To make the labour market more flexible • Work more attractive • Develop human resources

3. Supports the income of unemployed while searching for a new job Negative features of UI system: exert lower search effort - higher reservation wages longer unemployment duration –> long-term unemployment Positive features of UI system increase effectiveness of search activities – afford search costs increase efficiency of job matching – obtain the “right job” “Benefits allow the unemployed to search for a job which matches their abilities, rather than being forced by financial hardship into accepting the first available job offer “ Source: OECD Employment Outlook (1996) Unemployment Insurance (UI)

4. The negative features have dominated the literature and reform proposals, while little is known on the positive features of UI The empirical literature has focused on the effect of UI on the exit rate from unemployment emphasizing the disincentive effects of UI Studies on the effect of UI on post-unemployment outcomes have focused on re-employment wages, while subsequent employment duration has been neglected There is no empirical evidence for Europe Motivation

5. Is there an effect of benefits on post-unemployment employment stability? The focus is on employment duration as a measure of employment stability Based on Jovanovic (1979) a good match lasts longer Akerlof, Rose and Yellen (1989) provide evidence that nonpecuniary match aspects reduce the quit probability Hypothesis: If UI has a post-unemployment beneficial effect then we expect higher employment stability for recipients Empirical Question

6. Short run effect (on unemployment duration): Benefits reduce the exit rate from unemployment Expected unemployment duration of recipients is higher than non-recipients This is in line with the conventional results both in the theoretical and empirical literature Long run effect (on employment duration): Benefits reduce the exit rate from subsequent employment Recipients remain employed on average 4 months longer, which represents a 20% increase relative to the average employment duration. This partly offsets the short run effect of benefits This effect is pronounced (a) in countries with relatively more generous benefits and (b) for recipients who have stayed for 6 months or more in unemployment Preview of Results

7. Theoretical Background Empirical Literature Data Description Econometric Methodology Empirical Results Conclusions Plan of Talk

8. Convention: Benefits create disincentives Labor – Leisure model: Lower opportunity cost of leisure (benefits ‘’subsidise’’ leisure) Job Search models: Lower opportunity cost of unemployment Lower search effort Higher reservation wages Both models predict longer unemployment duration Theoritical Framework (1)

9. Other results:Benefits might improve post-unemployment outcomes Higher reservation wages lead to higher re-employment wages More efficient search leads to increased quality of job match Benefits as a ‘’search subsidy’’ as they lower opportunity cost of search (Burdett, 1979) Increased post-unemployment job stability as unemployed get the time to find the ‘’right job’’ reducing job mismatch (Marimon&Zilibotti, 1999) Theoritical Framework (2)

10. UI leads to longer unemployment duration Atkinson&Micklewright (1991), Devin&Kiefer (1991) UI on post – unemployment wages Ehrenberg&Oaxaca (1976) – positive effect Addison&Blackburn (2000) – weak effect UI on job stability Belzil (2000) – positive butsmall effect (0.5-0.9 days of expected job duration per additional week of benefits) Future entitlement of UI on Employment Duration Baker&Rea (1998) – increase employment hazard Jurajda (2002) – increase layoff hazard Empirical Literature

11. European Community Household Panel (1994 – 2001) 60,500 nationally representative households, 130,000 individuals (16+) for the EU-15 Countries considered in this study: Belgium, Denmark, France, Germany, Greece, Italy, Ireland, Portugal, Spain, and UK Sample Strategy Inflow sample of unemployed males, 18-60 years old Construct individual labour market histories using the calendar of activities (monthly information) Multiple spells Consider exits out of labour force as continued unemployment spells Data Description

12. Table 1. Transitions in the sample

13. Information on benefits in ECHP 1) Question on receipt of benefits at interview 2 Question on amount of benefits received in previous year Use both these variables to construct a benefit indicator and benefits duration Benefit Indicator : I(b≥t) equals 1 if b≥t and 0, otherwise Benefit duration (B) Observed only if B<T. Otherwise B=T (Cannot estimate the effect of benefits as benefit termination gets closer)

14. Figure 1. Type of Spells

15. Table 2. Summary Statistics

16. Table 3. Characteristics of the Unemployment Insurance System Source: European Commission Missoc 1994. (A) denotes that duration depends on age, (C) on contributions

20. Two-state duration model Hazard rate: the probability to exit a state at a certain point in time having being in that state up to that moment States Unemployment Subsequent employment Identification Assumption: Following (Arellano, Bover, Bentolila, 2002), we assume a two regime model Effect of benefits on hazard is independent of remaining benefit duration Econometric Issues: Unobserved Heterogeneity Endogeneity of Benefit Indicator Econometric Methodology

21. Multispell Mixed Proportional Hazard Model with flexible baseline hazard

25. Estimations performed by country: Unem. and Empl. separately without UH Unem. and Empl. separately with UH Unem. and Empl. jointly with correlated UH Unemployment Specification (with Benefit Selection) Dummy for receiving benefits Employment specification: Dummy for having received benefits during previous unemployment spell or Dummy for having received benefits interacted with previous Unemployment Duration Other controls: education, age, married, spouse’s labor market status, number of kids, year dummies, regional unemployment rate

26. Results – Without Unobserved Heterogeneity Other Controls: education, age, married, spouse’s labor market status, number of kids, year dummies, regional unemployment rate

27. Results – With Unobserved Heterogeneity Other Controls: education, age, married, spouse’s labor market status, number of kids, year dummies, regional unemployment rate

28. Results – With Unobserved Heterogeneity (JOINT) Other Controls: education, age, married, spouse’s labor market status, number of kids, year dummies, regional unemployment rate

29. Employment Duration: with UH and interactions (JOINT) Other Controls: education, age, married, spouse’s labor market status, number of kids, year dummies, regional unemployment rate

30. We analyse empirically the effect of UI on unemployment and employment duration in a number of European countries Results show that benefits: Reduce the exit rate from unemployment Reduce also the exit rate from subsequent employment The effect is pronounced in countries with relatively more generous beneftis and For recipients who have stayed unemployed for 6 months or more Although the positive effect of benefits on employment duration does not compensate fully for the negative effect on unemployment duration, these results show that reforms proposals of the UI system should consider both effects Conclusions