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Optimal Unemployment Insurance in an Estimated Job Search Model with Savings

  • Rasmus Lentz

    (Boston University)

This paper estimates a job search model with savings and determines optimal unemployment benefit policy for the estimated model. For observed and unobserved worker characteristics, the estimation strategy relates observed unemployment spell durations to the model implied unemployment hazard rate. The model is estimated on Danish unemployment spell data which include high quality wealth and income information. The estimation shows that Danish workers respond to changes in economic incentives in ways consistent with the model and that the magnitude of the effect of the responses on the unemployment hazard rate is small. Optimal unemployment benefit level policy is determined as a trade-off between providing insurance against consumption fluctuation and the moral hazard of reducing the worker's incentives to search back into employment. Given the estimated low level of moral hazard, the optimal benefit level is quite high even though workers can self-insure via savings. Depending on the interest rate which is effectively the cost of using savings as self-insurance, the optimal replacement rate ranges between 43% and 82%. The policy analysis emphasizes the importance of including transitional dynamics to avoid a significant downward bias associated with a simple steady state comparison analysis.

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File URL: http://www.econ.ku.dk/cam/wp0910/wp0203/2004-10.pdf/
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Paper provided by University of Copenhagen. Department of Economics. Centre for Applied Microeconometrics in its series CAM Working Papers with number 2004-10.

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Length: 36 pages
Date of creation: Mar 2003
Date of revision:
Handle: RePEc:kud:kuieca:2004_10
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Web page: http://www.econ.ku.dk/CAM/
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  1. Baily, Martin Neil, 1978. "Some aspects of optimal unemployment insurance," Journal of Public Economics, Elsevier, vol. 10(3), pages 379-402, December.
  2. Aiyagari, S Rao, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, MIT Press, vol. 109(3), pages 659-84, August.
  3. Daron Acemoglu & Robert Shimer, 1998. "Efficient Unemployment Insurance," NBER Working Papers 6686, National Bureau of Economic Research, Inc.
  4. Eckstein, Zvi & van den Berg, Gerard J, 2004. "Empirical Labour Search: A Survey," CEPR Discussion Papers 4199, C.E.P.R. Discussion Papers.
  5. Robert Shimer & Iván Werning, 2005. "Liquidity and insurance for the unemployed," Staff Report 366, Federal Reserve Bank of Minneapolis.
  6. Frederiksen, A. & Graversen, E.K. & Smith, N., 2001. "Overtime Work, Dual Job Holding and Taxation," Papers 01-7, Aarhus School of Business - Department of Economics.
  7. Bruce D. Meyer, 1988. "Unemployment Insurance And Unemployment Spells," NBER Working Papers 2546, National Bureau of Economic Research, Inc.
  8. Narayana Kocherlakota, 2004. "Figuring out the Impact of Hidden Savings on Optimal Unemployment Insurance," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 7(3), pages 541-554, July.
  9. Rasmus Lentz & Torben Tranaes, 2001. "Job Search and Savings: Wealth Effects and Duration Dependence," CESifo Working Paper Series 461, CESifo Group Munich.
  10. Hansen, Gary D & Imrohoroglu, Ayse, 1992. "The Role of Unemployment Insurance in an Economy with Liquidity Constraints and Moral Hazard," Journal of Political Economy, University of Chicago Press, vol. 100(1), pages 118-42, February.
  11. Steven Shavell & Laurence Weiss, 1978. "The Optimal Payment of Unemployment Insurance Benefits over Time," Cowles Foundation Discussion Papers 503, Cowles Foundation for Research in Economics, Yale University.
  12. Wang, Cheng & Williamson, Stephen D., 2002. "Moral hazard, optimal unemployment insurance, and experience rating," Journal of Monetary Economics, Elsevier, vol. 49(7), pages 1337-1371, October.
  13. Yann Algan & Arnaud Cheron & Jean-Olivier Hairault & Francois Langot, 2003. "Wealth Effect on Labor Market Transitions," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 6(1), pages 156-178, January.
  14. van den Berg, Gerard J, 1999. "Empirical Inference with Equilibrium Search Models of the Labour Market," Economic Journal, Royal Economic Society, vol. 109(456), pages F283-306, June.
  15. Hopenhayn, Hugo A & Nicolini, Juan Pablo, 1997. "Optimal Unemployment Insurance," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 412-38, April.
  16. JOSEPH Gilles and WEITZENBLUM Thomas, 2001. "Unemployment Insurance and Precautionary Savings : Transitional Dynamics vs. Steady State Equilibrium," Computing in Economics and Finance 2001 96, Society for Computational Economics.
  17. Flemming, J. S., 1978. "Aspects of optimal unemployment insurance : Search, leisure, savings and capital market imperfections," Journal of Public Economics, Elsevier, vol. 10(3), pages 403-425, December.
  18. Heckman, James J. & Singer, Burton, 1984. "Econometric duration analysis," Journal of Econometrics, Elsevier, vol. 24(1-2), pages 63-132.
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