Research Desk responds: Is unemployment insurance stimulative?

By Dylan Matthews

Patrick_M wants to know whether fellow commenter Kevin_Willis is right in stating:

"... there is no evidence that indefinite extension of unemployment benefits has much of an economically stimulative effect, that I know of."

I actually touched on this a couple of weeks ago, when I highlighted Mark Zandi of Moody's comparison of the per-dollar impact of various stimulus policies. Zandi used his econometric model to estimate the effect on GDP, per dollar, of different elements in the 2009 stimulus package. Here's his explanation of the methodology:

The first step divides the stimulus bill -- both its spending and tax cuts -- into various components. The second step is to derive multipliers for each of these components, using historical data. ... The multipliers are combined with the actual spending to date under the ARRA to derive the change in GDP from the stimulus bill, relative to no stimulus. Finally, the historical relationship between GDP and employment is used to derive an estimate of the net impact of the stimulus on jobs.

With that process, Zandi estimated that each dollar spent on extending unemployment benefits generated $1.61 in economic growth. Extending benefits had the third-greatest bang-for-the-buck of any component in the stimulus package, after increasing food stamps and subsidizing work-sharing, both temporary measures. To quote Zandi, "No form of the fiscal stimulus has proved more effective during the past two years than emergency UI benefits." The Center for Budget and Policy Priorities looked at the impact on poverty of the extension and found that it saved a total of 800,000 people from falling below the poverty line. So far, then, unemployment benefits have been very effective at stimulating the economy and reducing economic misery among affected families.

That said, there's a second part to Kevin Willis's question. He asks not just about the extension of unemployment benefits, but the indefinite extension. This is harder to judge, but let's look at one counterargument raised by opponents of extending benefits. It is sometimes said that extending benefits for too long causes workers to become less motivated to look for jobs, which keeps the unemployment rate high and hurts the economic recovery. A paper from economists Rob Valletta and Katherine Kuang at the Federal Reserve Bank of San Francisco suggests this effect is likely quite small. To show this, they graphed average unemployment duration among both those who have lost their jobs (who are eligible for unemployment benefits) and those who have quit or just entered the job market (who are not). The differential between the two, then, can be said to be caused by extending unemployment benefits:

Valletta and Kuang explain:

As of the fourth quarter of 2009, the expected duration of unemployment had risen about 18.7 weeks for job losers and about 17.1 weeks for leavers and entrants, using the years 2006-2007 as a baseline. The differential increase of 1.6 weeks for job losers is the presumed impact of extended UI benefits on unemployment duration. ...The implied increase in the unemployment rate is quite small, slightly less than 0.4 percentage point, indicating that without UI extensions, the measured unemployment rate would have been 9.6% in December 2009 rather than the observed 10.0%.

Using the most recent estimate of the size of the labor force, a 0.4 oercent increase in the unemployment rate represents 614,964 people. This is not a trivial number, but losing the stimulative effect of unemployment benefits would increase the unemployment rate as well, likely canceling out this effect. This is not to mention the obvious point that 18.6 weeks of unemployment with benefits to help is a far better situation for families that 17.1 weeks with no assistance. Extending benefits, then, appears to be the economically smart thing to do even given this objection.