Macroeconomic Evaluation of Labor Market Reform in Germany

Abstract

In 2005 the German government implemented the so-called Hartz IV reform, which amounted to a complete overhaul of the German unemployment insurance system and resulted in a significant reduction in unemployment benefits for the long-term unemployed. In this paper, we use an incomplete-market model with search unemployment to evaluate the macro-economic and welfare effects of the Hartz IV reform. We calibrate the model economy to German data before the reform and then use the calibrated model economy to simulate the effects of Hartz IV. In our baseline calibration, we find that the reform has reduced the long-run (noncyclical) unemployment rate in Germany by 1.4 percentage points. We also find that the welfare of employed households increases, but the welfare of unemployed households decreases even with moderate degree of risk aversion.

Keywords: Economic models, Germany, Labor Market Reform, Labor market reforms, Unemployment, Welfare, average unemployment, average unemployment rate, cyclical unemployment, duration of unemployment, effect of unemployment, eligibility for unemployment benefits, employment, employment agencies, employment agency, employment increases, employment opportunities, employment probability, employment status, equilibrium unemployment, equilibrium unemployment rates, job loss, job search, labor demand, labor market, labor productivity, labor supply, long-term unemployment, new employment opportunities, period of unemployment, private employment, private employment agencies, public employment, re-employment

JEL Classification: E21, E24, D52, J24