Is There Always a Trade-Off between Insurance and Incentives? The Case of Unemployment with Subsistence Constraints

42 Pages Posted: 18 Jul 2018

See all articles by Juliana Mesén Vargas

Juliana Mesén Vargas

IRES, Universit Catholique de Louvain

Bruno Van der Linden

Université Catholique de Louvain - Institut de Recherches Economiques et Sociales; IZA Institute of Labor Economics

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Date Written: May 18, 2018

Abstract

This article analyzes the behavioral effects of unemployment benefits (UB) and it characterizes their optimal level when jobless people, who can carry out a subsistence activity, only survive if they have access to a minimum consumption level. Our model shows that if the level of UB is low enough, increasing its level or providing liquidity to the agent can decrease the duration in unemployment. Extensive numerical simulations indicate that the relationship between the level of the benefits and the probability of finding a formal job is frequently inverse U-shaped. We show that rewriting the insurance gain of the Baily-Chetty formula in terms of sufficient statistics requires specific modeling assumptions. The optimal replacement rate is generally higher than when subsistence is ignored.

Keywords: liquidity effect, scarcity, monetary costs, optimal insurance

JEL Classification: D910, H210, J640, J650

Suggested Citation

Mesén Vargas, Juliana and Van der Linden, Bruno, Is There Always a Trade-Off between Insurance and Incentives? The Case of Unemployment with Subsistence Constraints (May 18, 2018). CESifo Working Paper Series No. 7044. Available at SSRN: https://ssrn.com/abstract=3208078

Juliana Mesén Vargas

IRES, Universit Catholique de Louvain ( email )

Belgium

Bruno Van der Linden (Contact Author)

Université Catholique de Louvain - Institut de Recherches Economiques et Sociales ( email )

3, Place Montesquieu
Louvain-la-Neuve, 1348
Belgium

HOME PAGE: http://perso.uclouvain.be/bruno.vanderlinden/

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

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