Why Do Unemployment Benefits Raise Unemployment Durations? Moral Hazard vs. Liquidity

53 Pages Posted: 25 May 2006 Last revised: 21 Aug 2010

See all articles by Raj Chetty

Raj Chetty

University of California, Berkeley - Department of Economics; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: November 2005

Abstract

It is well known that unemployment benefits raise unemployment durations. This result has traditionally been interpreted as a substitution effect caused by a distortion in the price of leisure relative to consumption, leading to moral hazard. This paper questions this interpretation by showing that unemployment benefits can also affect durations through an income effect for agents with limited liquidity. The empirical relevance of liquidity constraints and income effects is evaluated in two ways. First, I divide households into groups that are likely to be constrained and unconstrained based on proxies such as asset holdings. I find that increases in unemployment benefits have small effects on durations in the unconstrained groups but large effects in the constrained groups. Second, I find that lump-sum severance payments granted at the time of job loss significantly increase durations among constrained households. These results suggest that unemployment benefits raise durations primarily because of an income effect induced by liquidity constraints rather than moral hazard from distorted incentives.

Suggested Citation

Chetty, Nadarajan (Raj), Why Do Unemployment Benefits Raise Unemployment Durations? Moral Hazard vs. Liquidity (November 2005). NBER Working Paper No. w11760. Available at SSRN: https://ssrn.com/abstract=847032

Nadarajan (Raj) Chetty (Contact Author)

University of California, Berkeley - Department of Economics ( email )

549 Evans Hall #3880
Berkeley, CA 94720-3880
United States
510-643-0708 (Phone)
510-643-0413 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Register to save articles to
your library

Register

Paper statistics

Downloads
30
Abstract Views
490
PlumX Metrics