Worker Selectivity and Fiscal Externalities from Unemployment Insurance

Abstract

By making workers more selective, unemployment insurance (UI) increases re-employment wages and thereby generates a positive fiscal externality. We provide a sufficient-statistics formula for evaluating the size of this fiscal externality and argue theoretically that it is likely to be small. In a standard sequential search model, the effect of UI on wages is proportional to its effect on the job-finding hazard; the slope of the relationship between these elasticities depends on a small number of estimable statistics, key among them observed worker flows. Plausible calibrations of the model imply that the magnitude of the wage elasticity is small relative to the job-finding elasticity. Although ignoring the wage effect of UI would overestimate its fiscal cost and underestimate its welfare benefit, the model predicts the magnitude of this bias to be small.