Generous Unemployment Benefits During the Pandemic Disincentivized People Looking for Work

The pandemic came with the federal government spending so much money that it would have made Franklin D. Roosevelt blush. There was a lot of wasteful spending during the pandemic, whether it was the Paycheck Protection Program, "stimulus" checks, the student loan repayment pause, or the American Rescue Plan Act that greatly contributed to the inflation spike. 

Today, I would like to look at a different form of pandemic-era spending: the unemployment benefits. It was not bad enough that there was at least $60 billion in unemployment benefit-related fraud. There is the question about how these unemployment benefits affected unemployment. There is a common worry among economists that unemployment benefits exacerbate and extend unemployment. I first brought up that economic argument on my blog in 2012. 

Shortly after the CARES Act passed in 2020, I expressed concern about its extensive unemployment benefits creating greater incentive for people to stay home than to work. In the Great Recession, unemployment insurance created disincentives to find a job. The unemployment benefits in the pandemic were more generous during the COVID pandemic than in the Great Recession. It stood to reason that the magnitude of unemployment benefits on employment would be greater than that of the Great Recession. It turns out that my concerns were valid. 

New research from the American Enterprise Institute answers this question about the effects of unemployment insurance (Strain et al., 2023). In March 2021, the federal government expanded Federal Pandemic Unemployment Compensation (FPUC), as well as extended UI benefits to the self-employed, "gig" workers, and part-time workers. 26 states opted out of at least one of these programs before they were set to expire in September 2021. This natural experiment allowed for the researchers to as which states fared better: those that opted out or those that stayed with the programs? 

If the idea was to get people back to work as soon as possible, the figure above shows that opting out of these lavish employment benefits was the right call: '

"Using CPS data, we present difference-in-difference estimates that the flow of unemployed workers into employment increased by around 12-14 percentage points following early termination. Among prime-age workers, the effect is about two-thirds the size of the unemployed-to-employed flow among control states during the February-June 2021 period...We show that state-level unemployment rates fell following earl exit from FPUC and PUA."

In layman's terms, not having those generous unemployment benefits provided the unemployed the incentive to find a job. States that kept the lavish benefits struggled more with their employment levels. Not only did taxpayers cough up billions to pay for these outrageous benefits, but the lavish nature of these benefits kept people at home and unemployed for longer periods of time. It makes sense: why go to work when you could get paid more to not work? Such myopic thinking about welfare dependency leads to a drag on the economy, which ultimately affects our quality of life. It makes me wonder how many more economic downturns it will take before the U.S. government finally learns the lesson that unemployment benefits do not pay.