Evidence of the Risks of Elevated Unemployment Insurance Benefits

Erin Partin

Last week’s job market numbers were strong. The unemployment rate fell to 6.0 percent – the lowest since the start of the COVID-19 pandemic – and total nonfarm payroll employment rose by 916,000 in March. But signs already suggest that the employment bounce-back is being restrained from its full potential by Congress’s decision to entrench a $300 weekly unemployment benefit supplement through September.

Combined with state unemployment benefits, around 37 percent of workers can currently make more unemployed than in work. A low-income worker in Massachusetts previously earning $535 per week faced a pre-pandemic replacement rate of unemployment insurance benefits to earnings of 48 percent ($257). Now, the same worker would obtain benefits worth 104 percent of their pre-recession earnings ($557).

In New Mexico, someone previously earning $342 per week would see a replacement rate of 141 percent from the expanded benefits ($483). The disincentive to work this creates reduces the labor supply, raising market wages but by squeezing employment levels as fewer workers make themselves available for job opportunities that are economic to offer for businesses.

Using evidence from last year when supplementary benefits were a massive $600 per week, many argue there is little to no work disincentive. True, plenty of workers will think longer-term and re-enter the labor market if they think a job now provides more security after the pandemic. But last year conditions were very different. After the outbreak of the crisis, few firms were hiring, meaning that a fall in applications from those earning more out-of-work didn’t much change overall employment numbers. At that time, most returnees to work were also recalls to their old employers, who risked losing benefits if they refused.

Now, matters are very different. The prospects for a meaningful reopening are real and imminent, with a potentially large flood of demand in previously shuttered sectors. Longer-term, permanent unemployment is much more of a problem, with recalls much less of an issue. And far from uncertainty about benefit continuation, a Democratic Congress and Presidency probably reassures those unemployed that the checks will keep coming. Even though we should still expect a robust employment recovery—ending the pandemic will be the biggest “stimulus” of all—there are therefore reasons to expect high UI benefits are holding back the jobs recovery.

A few recent pieces of data heighten these concerns.

1. Daniel Zhao, a senior economist at Glassdoor, reports that job search activity on Google fell by 15 percent in early March, with the decline starting just before the American Rescue Plan passed that extended elevated unemployment benefits. The search activity rate remains 10 percent down even now—a trend not observed in 2019, which cannot be explained by COVID prevalence across states, and which we wouldn’t expect as the economy reopens and job opportunities expand (see figure).

2. Contacts to regional Federal Reserve Banks report issues with unemployment benefits deterring job re-entry, according to the most recent Beige Book. The Chicago Fed says “Several contacts expressed concern that unemployment benefits were putting a damper on worker availability.”

   The St. Louis Fed: “Contacts noted stagnant or declining employment, especially among small businesses and leisure and hospitality firms, with continuing closures in a slower-than-expected recovery. Transportation and manufacturing firms reported their desire to expand their workforce has been stymied by a scarcity of workers. Many contacts ascribed this scarcity to unemployment benefits and other government aid.”

   The Minneapolis Fed: “Despite increased job openings, labor supply constraints contributed to a continued disconnect between workers and opportunities… Some contacts said the prospective continuation of enhanced unemployment benefits created a disincentive to return to work.”

3. Daily, one runs into stories of businesses struggling to hire new workers. But this now extends far beyond anecdote. The National Federation of Independent Business in March reported a record-high share of 42 percent of small businesses surveyed who said they couldn’t fill a job opening—much higher than the average figure of 22 percent since 1974, despite elevated unemployment. A massive 91 percent of respondents said they had few or no qualified applicants for job openings in the past three months, one of the highest values since that question was surveyed.

Upon reading these statistics, commentators commonly retort to businesses: “you need to raise wages!” But businesses already are, as a consequence of the labor supply effect of benefits and the need to compensate workers for the risks of contracting COVID-19! According to NFIB Chief Economist Bill Dunkelberg, “Small business owners are raising compensation to attract the right employees. It is important that lawmakers focus on policies that will help strengthen job growth and not deter the small business recovery.”

The simple truth is that many low-wage businesses have been pole-axed by COVID-19 for months, with enforced closures, lower demand, and the need to invest in social distancing protocols making them less efficient. Companies won’t bother looking to hire workers in situations where their employment isn’t profitable for the business. Extending UI benefits right through this recovery will mean fewer jobs. But policymakers appear to believe that higher-than-necessary unemployment is worth it.

–

For more on unemployment benefits during the pandemic, you can order Ryan Bourne’s recently released book Economics In One Virus from the Cato store or your country’s relevant Amazon store.