Unemployment Insurance, Disability Insurance, and Workers’ Compensation Chapter 14 Unemployment insurance, workers’ compensation, and disability insurance are three of the largest social insurance programs in the United States, and they share many common features. 14.1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation 14.2 Consumption-Smoothing Benefits of Social Insurance Programs 14.3 Moral Hazard Effects of Social Insurance Programs 14.4 The Costs and Benefits of Social Insurance to Firms 14.5 Implications for Program Reform 14.6 Conclusion

14 . 1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation Institutional Features of Unemployment Insurance unemployment insurance A federally mandated, state-run program in which payroll taxes are used to pay benefits to workers laid off by companies. partially experience-rated The tax that finances the UI program rises as firms have more layoffs, but not on a one-for-one basis.

14 . 1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation Institutional Features of Unemployment Insurance

14 . 1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation Institutional Features of Disability Insurance disability insurance A federal program in which a portion of the Social Security payroll tax is used to pay benefits to workers who have suffered a medical impairment that leaves them unable to work. Institutional Features of Workers’ Compensation workers’ compensation State-mandated insurance, which firms generally buy from private insurers, that pays for medical costs and lost wages associated with an on-the-job injury.

14 . 1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation Institutional Features of Workers’ Compensation

14 . 1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation Institutional Features of Workers’ Compensation no-fault insurance When there is a qualifying injury, the workers’ compensation benefits are paid out by the insurer regardless of whether the injury was the worker’s or the firm’s fault.

14 . 1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers’ Compensation Comparison of the Features of UI, DI, and WC

 A P P L I C A T I O N The Duration of Social Insurance Benefits Around the World

Consumption-Smoothing Benefits of Social Insurance Programs 14 . 2 Consumption-Smoothing Benefits of Social Insurance Programs There is relatively little evidence on the consumption-smoothing implications of these programs. The most direct study is that of Gruber (1997), who found that individuals are not fully insured by other sources against the income loss of unemployment, that their consumption falls significantly when they lose their jobs, and that higher levels of UI do lessen the negative effects of this fall.

Moral Hazard Effects of Social Insurance Programs 14 . 3 Moral Hazard Effects of Social Insurance Programs Moral Hazard Effects of Unemployment Insurance

MORAL HAZARD EFFECTS OF UNEMPLOYMENT INSURANCE E M P I R I C A L E V I D E N C E MORAL HAZARD EFFECTS OF UNEMPLOYMENT INSURANCE

Moral Hazard Effects of Social Insurance Programs 14 . 3 Moral Hazard Effects of Social Insurance Programs Evidence for Moral Hazard in DI

Moral Hazard Effects of Social Insurance Programs 14 . 3 Moral Hazard Effects of Social Insurance Programs Evidence for Moral Hazard in WC There is much evidence that points to a major moral hazard effect of the WC program. Krueger’s (1990) study found: Every 10% increase in benefits generosity led to a 7% rise in the rate of reported injury. Each 10% rise in benefits led to durations that were 17% longer! The response of injury durations to benefits increases is much stronger for hard-to-verify injuries than for easier-to-verify injuries. On Mondays there is a large rise in sprains and strains relative to lacerations. This suggests that many of the reported injuries on Mondays may actually arise from injuries incurred over the weekend, and then claimed on Monday in order to qualify for WC.

MORAL HAZARD EFFECTS OF DI E M P I R I C A L E V I D E N C E MORAL HAZARD EFFECTS OF DI Because DI is a national program, there are few good quasi-experiments for assessing the impact of the program changes on outcomes within the United States. Gruber (2000) studied Canada’s DI system, which is similar to that in the United States with one major exception: the province of Quebec has a DI program that is different from the one in the rest of Canada. In January 1987, the rest of Canada increased its benefits to equal those in Quebec, raising the replacement rate for the typical disabled worker from 25% to 33%. This research found that there was a decline in the labor force participation rates of older men in the rest of Canada that corresponded to the timing of the benefits increase. While this response was large, it remained modest relative to the enormous 36% increase in benefits, so that the implied elasticity of labor supply with respect to benefits was only about 0.3.

KRUEGER’S STUDY OF WORKERS’ COMPENSATION E M P I R I C A L E V I D E N C E KRUEGER’S STUDY OF WORKERS’ COMPENSATION

The Costs and Benefits of Social Insurance to Firms 14 . 4 The Costs and Benefits of Social Insurance to Firms The Effects of Partial Experience Rating in UI on Layoffs

The Costs and Benefits of Social Insurance to Firms 14 . 4 The Costs and Benefits of Social Insurance to Firms The Effects of Partial Experience Rating in UI on Layoffs Partial Experience Rating Subsidizes Layoffs From the worker’s perspective, a temporary layoff is some time off at a partial wage—a partially paid vacation. From the firm’s perspective, the attractiveness of a temporary layoff depends on the extent of experience rating. If there is no experience rating, the firm pays nothing when a worker is temporarily laid off. Evidence on Effect of Partial Experience Rating on Layoffs Studies suggest that partial experience rating alone can account for 21–33% of all temporary layoffs in the United States.

The Costs and Benefits of Social Insurance to Firms 14 . 4 The Costs and Benefits of Social Insurance to Firms The “Benefits” of Partial Experience Rating Having a fully experience-rated system would “hit firms while they are down”: just when firms have laid off the most workers, their taxes would increase the most. By having partial experience rating, UI programs systematically subsidize high-layoff firms.

A P P L I C A T I O N  The “Cash Cow” of Partial Experience Rating In Canada, workers traditionally had to work only 10 weeks to qualify for 42 weeks of UI with a replacement rate of 60%. You and four friends are considering buying a fishing boat, with each of you working 10 weeks out of the year, for a total of 50 weeks. Given the structure of the Canadian UI system, each of you would report earning $800 per week for the 10 weeks worked and then report being laid off. You would each receive $20,160 of UI during the rest of the year (60% of the $800 per week reported earnings, for 42 weeks). So the total UI benefits income across all five recipients is $20,160 × 5 = $100,800. UI is not simply a system of insurance against true unemployment risk in Canada, but also a large government transfer to inefficient firms and their laid-off workers.

The Costs and Benefits of Social Insurance to Firms 14 . 4 The Costs and Benefits of Social Insurance to Firms Workers’ Compensation and Firms With WC, firms and workers can get together to increase “injuries” if the insurance is less than fully experience-rated. Firms have less incentive to invest in safety when there is no-fault insurance for injuries.

Implications for Program Reform 14 . 5 Implications for Program Reform Benefits Generosity Facts suggest that benefits should be highest for DI and lowest for WC, with UI in the middle. However, WC has the most generous benefits of all of these programs. Targeting Efficiency could be improved if UI benefits could be targeted toward those who have been permanently laid off. In principle, it would be possible to arrange these programs so that higher benefits were paid to people with less ambiguous disabilities or injuries.

Implications for Program Reform 14 . 5 Implications for Program Reform Experience Rating Fuller experience rating would do more to put inefficient firms out of business than to hurt firms that are fundamentally sound but having a downturn. Worker Self-Insurance? The government could replace payroll taxes and mandated WC insurance with individual “social insurance savings accounts,” to which workers would contribute some fixed amount. Reforming UI Reducing Moral Hazard

14 . 6 Conclusion Individuals clearly value the consumption smoothing provided by social insurance programs. In each case there are significant moral hazard costs associated with the provision of the insurance. Empirical analyses of all three programs can be used to inform policy makers’ decisions as program reforms move forward.