(MoneyWatch) COMMENTARY Unemployment benefits are scheduled to end in many states Saturday, and about 200,000 people will lose their benefits, nearly half of them in California. Under the terms of a benefit extension agreement in Congress last year, benefits would be cut off if unemployment rates fell below certain thresholds, and despite the weak job market, rates have been falling.
With unemployment rates as high as they are, is cutting benefits a good idea? Will a cut in unemployment benefits motivate workers who have become dependent on the program to go out and find jobs?
Unemployment compensation creates both costs and benefits for the economy. On the benefit side, it promotes better matching of jobs with individuals, and it helps households avoid the difficult economic problems that come with unemployment. For example, we don't want an unemployed electrical engineer to be forced to take a job at McDonald's out of economic necessity. It is much better for the individual and for society to match the individual with what he or she does best, engineering. If that takes several weeks, we will still be better off in the long-run since the person will add much more to the economy working as an engineer than flipping burgers. In addition, the extra income that households receive (in benefits), which is mostly spent, creates more demand in the economy. This additional demand supports the employment of the people providing goods and services to these households. Thus, the cost of extending unemployment benefits is longer search time -- more unemployment -- and the benefit is better matching, less household suffering, and additional demand.
During a severe recession, the number of jobs available is far lower than the number of people searching for employment. The ratio of job seekers to job openings was as high as 7 to 1 at the peak of the recession, and it remains elevated at 3.4 to 1. (In normal times, the ratio is much lower, at around 2 to 1.) This means that most workers won't find jobs no matter how long or how hard they search -- which is why long-term unemployment is at record highs. In such a situation, extending unemployment insurance relieves household economic problems, so there is a benefit, and the benefit comes at very little cost in terms of extending search times.
Will cutting unemployment benefits now, as many states are about to do, produce net benefits for the economy? Probably not. With the ratio of job
seekers to job openings still so far above normal, reducing unemployment
benefits is unlikely to do much to lower the unemployment rate. Even if people
search longer and harder once benefits run out, where will they work? Likely possibilities: They will enter the underground economy, go on long-term disability, or pursue
other less than desirable means of supporting themselves. That's not what we'd like to happen.
When we get closer to full employment, the tradeoff will change. As jobs become more plentiful, the necessity for retaining extensions to unemployment compensation eligibility will fall. But we are not there yet, unemployment remains elevated while jobs remain scarce. Cutting unemployment benefits will make it harder for struggling households to survive while doing little to alleviate the unemployment problem, and the decline in demand from the benefit cuts will make it even harder for the economy to recover.