unenmploment insurance and market structure

Journal
of Public
Economics
52 (1993) 237-249.
Unemployment
structure
Nicolas
insurance and market
Marceau* zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGF
DCpartement d’honomique,
Received
North-Holland
September
Universitt! Laval, Quebec, GIK 7P4, Canada
1991, linal version
received June 1992
This paper examines
the impact
of unemployment
insurance
(UI) on employment
and
unemployment
in an industry in which the prices can vary due to some market power. Some
non-conventional
results are obtained. It is shown that, if there is free entry and exit, average
industrial
employment
may be a decreasing
function
of the experience
rating because the
number of firms in the industry is itself a decreasing function of this parameter.
This contradicts
the conventional
view which was arrived at using models of a perfectly competitive
industry
with no entry, and according
to which employment
should be an increasing
function of the
experience rating. The general conclusion
is that for industries with different degrees of market
power, the same UI scheme has different impacts on employment
and unemployment. zyxwvutsrqponmlkjihgfed
1. Introduction
This paper examines the impact of unemployment insurance (UI) on
employment and unemployment in an industry characterized by Cournot
competition. Both the no entry and the free entry cases are considered. It is
shown that free entry in the industry might lead to unconventional results.
The analysis is performed within an implicit contract theory framework
similar to that developed in the mid 1970s by Baily (1974), Gordon (1974)
and Azariadis (1975). Since implicit contract theory is used here, attention is
restricted to the impact of unemployment insurance on temporary layoffs.
Feldstein’s (1976) demonstration that temporary layoffs represented some 75
percent of the layoffs in the manufacturing industry in the United States for
the period 1965-1975 should convince the reader of the importance of this
type of layoffs. Also, for the whole Canadian economy in 1991, an average of
8.9 percent of the unemployed that were working before becoming unemployed were on temporary layoffs [Statistics Canada (1991, table 32)]. This
number would probably be larger if attention were paid to the manufacturCorrespondence to: N. Marceau,
Dtpartement
d’&onomique,
Fact&B des Sciences Socialet,
Universitt Laval, QuCbec, GIK 7P4, Canada.
*I am indebted to Robin Boadway for valuable comments and suggestions. Helpful comments‘
were also received from Lorne Carmichael,
Rick Chaykowski,
Chris Ferral, Stephen Jones, Huw
Lloyd-Ellis, and two anonymous
referees. Financial support from the Fonds pour la Formation
de Chercheurs et i’Aide B la Recherche du Qutbec is gratefully acknowledged.
OQ47-2727/93/$06.00
J.PE-
D
0
1993-Elsevier
Science Publishers
B.V. All rights reserved
238
N. zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFED
M arceau, Unemploy ment insurance and market structure
ing industry.
However,
temporary
layoffs are more a North
American
phenomenon
than a European
one. As reported
by Burdett and Wright
(1989a, table l), the variations
in employment
in North America are mostly
due to variations
in the number of workers, while in Europe they are due to
a combination
of variations
in the number of workers and in the number of
hours per worker.’
Several positive analyses of UI have been made using implicit contract
models. These include the classic papers by Feldstein (1976) and Baily (1977)
but also, more recent work by Topel and Welch (1980), Burdett and Ho01
(1983), Mortensen
(1983) and Burdett and Wright (1989a, b) (from now on,
BW). In general, those papers argue that UI has an adverse impact on
employment.’
More precisely, the conventional view is that increasing
the
experience-rating
parameter,
by increasing employment
in bad states of the
world (the standard effect), should decrease the number of layoffs in those
states and thus increase average employment.
Many then advocate that an
efficient UI scheme would be characterized
by full experience
rating, and
argue that, since the UI schemes in place in the United States are not fully
experience rated, UI generates harmful unemployment.
The goal of this paper is not to argue in favor of a fully or partially
experience-rated
UI scheme, but rather to show that the conventional
view
according to which an increase in experience rating should increase average
employment
does not necessarily hold when one pays attention
to market
structure
and to entry. In fact the conventional
view has been arrived at
using models in which there was perfect competition
and fixed prices in the
product market. It is shown here that if the industry
is characterized
by
Cournot
competition
in the output market and there is free entry, it is
possible that the average employment
level of the industry
will fall as a
consequence
of a higher experience-rating
parameter.
It should be noted that the conventional
view has also been recently
challenged by BW. They showed that the above conventional
prediction
no
longer holds if one allows for the firm size effect, i.e. the fact that the size of
the firms, and thus employment
and unemployment,
is not independent
of
the UI scheme in place. The current analysis distinguishes
another effect. It is
referred to as the free entry effect and is understood
to be the impact of a UI
scheme on the number of firms that ultimately decide to enter an industry. It
should be noted that the firm size effect is obtained
independently3
of the
‘Burdett and Wright’s explanation
of this phenomenon
is convincing.
They argue that it is
due to the presence of short-term
compensation
paid to workers on reduced hours in Europe,
and to the absence of such an institution in North America.
‘This is not true for BW. See below for a detailed examination
of their argument.
aThis should not be interpreted
to mean that, given an industry market size, the number of
firms and the size of the firms in the industry are independent,
but rather that the free entry
effect would be observed even in the absence of the firm size effect, i.e. if the firm size is
exogenous.
N. Marceau,
Unemployment
insurance
and market structure
239
one identified by BW. It may therefore reinforce or contradict
the firm size
effect.
The above discussion has centered on the impact of experience rating. The
U.S. systems are effectively financed through more or less experience-rated
taxes. However, elsewhere, payroll taxes are also used to finance those
schemes. This is particularly
true for Canada
where the UI scheme is
financed almost exclusively through a payroll tax. The impact of a payroll
tax used to finance the UI scheme is therefore considered.
Again, some
interesting
results are obtained when one takes into account the impact of
the free entry effect.
The plan of this paper is as follows. In section 2 the basic model is
presented. The no entry and the free entry cases are analyzed in sections 3
and 4. It should be noted that the firm size effect described in BW is not
incorporated
into the analysis.4*5 Concluding
remarks follow in section 5. zyxwvutsrqponmlk
2. The model
Consider
the following economy.
There are m> 1 identical,
risk-neutral
firms in an industry and each has an exogenous number of workers under
contract, N. There is uncertainty
in this economy which takes the form of
two states6 of demand,
1 and 2, for the good produced by the firms. The
good state, 1, occurs with probability
A, and the bad state, 2, with probability
1-L The demand’ in state s is
Ps=ks-
2 qsi.
i=l
where ps is the price of output in state s, zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHG
k, is a state-dependent
constant,
and qsi is the output of firm i in state s. The good state is called good
because zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDCBA
k, > k,. Thus, the main difference with the previous analyses is that,
“It is not clear whether the firm size effect has to be present when the free entry efIect is, and
vice versa. In fact, to answer that question one has to judge whether a lirm re-evaluates
its size
decision more frequently that its decision to supply some output on the particular market under
consideration.
For example, if a firm is locked into some constant
labor-capital
ratio to
produce, one might argue that the only thing the firm could do after the UI scheme is modified
is to stay or exit the market. On the other hand, the technology
might give some flexibility to
the firm, which implies that the decision to exit would only be considered as an extreme option.
sThe same analysis, but with the firm size effect, is performed in an appendix available upon
request. The qualitative
results obtained in section 4 are not changed by the introduction
of the
firm size effect.
61t is solely for simplicity that only two states of the world are assumed; the qualitative results
of the analysis would still be obtained with more possible states.
‘The demand is assumed to be linear so that clear results are obtained. A more general statedependent
demand might well lead to ambiguous
results. My concern here is however not to
show that the conventional
view is never correct but rather that there exist situations in which it
is incorrect.
240
N. M arceau, Unemploy ment insurance and market structure
here, the pair of prices {pl,pz} is not given to the firms as with perfect
competition
but rather determined
by their behavior.’
The technology used by the firms to produce output is linear in labor, the
single input:’
4si
=
zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDCBA
F(nsi)
= %if
where qsi and nsis N are respectively
the output
and the number
of
employed workers in firm i and state s. Obviously,
n,,s N because it might
be in the interest of firm i to layoff (N-n,,)
workers in state s. However,
when a worker is laid off, a publicly provided UI benefit b is provided to
him. To finance the cost of the UI program, the government
imposes a UI
tax. The tax bill, TB,,, of firm i in state s given Iz,i is
TB,i =eb(N - n,i) + 6N,
where e is the experience-rating
parameter
and 6 is the rate of the payroll
tax. Note that the UI scheme is said to be fully experience rated if e= 1 and
partially
experience
rated if e < 1. lo Typically,
in the United States e >O,
while for Canada, e = 0 and 6 > 0. It should be noted that no rationale for the
public provision of UI is given here and it is assumed that no severance pay
is provided by the firms to their laid-off workers. This is acceptable since my
intention
is only to perform a positive analysis of the existing UI schemes.
Moreover,
as argued by Oswald (1986) severance pay can be viewed as
insurance against technological
change and loss in human capital when a job
is lost
permanently
rather
than
as insurance
against
temporary
unemployment.
Denote by wsi the income paid by firm i in state s to its employed workers
and assume that there is a fixed cost c for production
to take place. It is
assumed that the firms in this economy complete a la Cournot-Nash
so that
firm i, when making its decisions, takes as given the decisions made by other
firms in the industry. Denote by a caret (A) those variables that are taken as
given by a firm. The expected profits of firm i are, given the decisions
{n,,,w,,;s=l,2}:
‘It should be noted that the analysis of implicit contracts
in the presence of imperfect
competition,
but without UI, is the subject of a growing program of research. On this, see Chari
et al. (1989) or Cooper (1990).
‘The same remarks apply for the choice of the technology
and for the choice of the demand.
Moreover, considering
a more general technology
when using a linear demand might lead to a
ensures that
non-concave
objective function
for the firm, while using a linear technology
concavity.
‘OIt should be noted that the UI scheme is not required here to be self-financed. See below for
a discussion of this issue.
N. M arceau,
1
- tl,iW,i- e b (N- tl,J
f zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONM
k,-n,,-
EIZ’=l
241
Unemploy ment insurance and market structure
j# i
zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLK
zyxwvutsrqponmlkjihgfed
k,-n/f
Azj -n,iw,i-eb(N-n,i)
j# i
1
zyxwvutsrqponmlkj
-6N-C.
Now consider the workers in this economy. All the workers are assumed
to be identical and risk-averse. Each has utility given by u(Z,h), where I is
the worker’s income and h his labor supply. It is assumed that labor is
indivisible and that it can take only two values: hi (0, l}, where h=O for an
unemployed
worker and h= 1 for an employed worker. The utility function is
strictly concave and has the following properties:
u1 >o;
When
layoff.
among
the set
urr ~0;
and
u,<O.
a worker joins a firm he knows that he may face the possibility of a
It is assumed that the laid-off workers of a firm are chosen randomly
the N attached workers. Consequently,
a worker joining firm i, given
of decisions {IZ,~,wSi;s= 1,2), will have expected utility
EU’=A
+wri,
l)+w
% U(W ,i,l)+
1
(N-n,i)
u(b
20)
1.
u(b,O)
N
Assuming that the workers could obtain reservation
utility RU elsewhere
in the economy, an optimal contract between firm i and its workers is a set
of decisions {nSi, wSi;s = 1,2} that solves the following problem:”
EII’
max
{n.,,wSi:s=l 21
subject
to
EUi2RU,
-
nSisN,
The Lagrangian
of this
Lagrange multipliers:
s=l,2.
problem
is written,
using
yi, /Iii,
and
/?2i as
“As noted by Baily (1977), Burdett and Ho01 (1983), or BW, the dual of the problem (i.e.
max EU subject to En>K)
would yield the same contract
curve. However, since I want to
examine the entry decision of the firms, the version of the problem examined in the text has
some heuristic advantages.
242
N. M arceau, Unemploy ment insurance and market structure
The first-order
conditions
of this maximization
-l.nli+yid~ul(wli,
problem
are:‘*
l)=O,
(1)
-(l-l)n,i+Yi(l-n)~,l(,zi,l)=O,
(2)
1
~ kl-2nli-~ zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFE
[U(Wli, l)-u(b,O)]
-Bli=O, zyxwvutsrqponmlkjihg
(3)
j# i
[
~lj-Wli+eb+~
1
(1-A) zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDCBA
k,-2n,,-f
^
n,j-~,i+eb+~[u(w,i,
l)-u(b,O)]
-B2i=Ol
jti
(4)
EU’-RU=O,
(5)
s=l,2, zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFE
N-nSiLO,
Bsi~Oo, S=l,2,
B,i(N-n,i)=O,
(6) zyxwvutsrqponm
S=
1,2.
Using eqs. (1) and (2), the following
wri=w*i=wi
and
is obtained:
yiu,(wi, l)-N=O.
(7)
Thus, the income
offered by firm i to its employed
workers
is state
independent.
This is a standard
result of the implicit contract theory. Now
consider eqs. (3) and (4) and let pIi= jZi =O, i.e. the constraints
on the
employment
levels are not binding; they then imply, respectively, that zyxwvutsrqponmlkjihg
k,-2n,,-f
Alj-wi+eb+Z=O,
(8)
A2j-wi+eb+Z=0,
(9)
j# i
k2-2n2i-i
j#i
where
“The
available
second-order
conditions
upon request.
of this problem
are shown
to be satisfied
in an appendix
N. M arceau, Unemploy ment insurance and market structure
243
It will be said, using Burdett and Hool’s (1983) terminoloav,
that a contract
is a labor contract if Z>O, but that it is a leisure contract it’ Z <O.
Using the first-order conditions,
one can get well-defined
reaction curves
for the endogenous
variables {wi,n,i,112i,yi,Bli,82i}
as functions of the other
firms employment
level in the industry: {A, j, hzj;j # i}. In particular,
it can
be shown that employment
is a strategic substitute:r3
an,,<,,
s= 1,2,
an,
i# j.
Because the reaction curves are well defined, it would be possible to show
that there exists a Nash equilibrium.i4
Now, because all firms in the industry
are identical, the equilibrium
obtained here is a sy mmetric Nash equilibrium:
nli=nlj=nl,
vi,j,
n,,=nzj=n2,
vi,j,
wi=wj=w,
Vi,j,
/ISi= fiSj = @,, Vi, j;
s=
1,2.
Then, using eqs. (8) and (9) it is possible
to obtain:
k,-(m+l)n,=k,-(m+l)n,.
This
implies that for both m endogenous
or m exogenous,
n, >n,
since
Furthermore,
this implies that if there are layoffs in state 2, the
number of layoffs will be greater than in state 1. For simplicity, I will, from
now on, concentrate
on the case where n, = N and n, = n< N. It could be
demonstrated
that a pair of {k,,k,)
exists such that it is the case.r’ That
k, > k,.
r3This can be obtained
in the following
way. Recall that it has been assumed
that
j31i=/?2i=0.
Therefore,
differentiating
eqs. (5), (8), and (9) for the endogenous
variables
{r~,,,n,~, wi} and the exogenous
variables {nlj,naj} yields a system of equations
characterizing
the contract. Routine manipulations
yield that an, Jdn, j < 0, Vi # j, and dn,,/dn,j ~0, Vi # j.
14A Nash equilibrium
exists if (a sufficient condition): (1) the number of players is finite; (2)
the strategy sets are compact (closed and bounded)
and convex; and (3) the payoffs of each
player are continuous,
bounded and strictly quasi-concave
in their own strategies. None of these
three conditions
seems to pose a particular
problem, although it might be necessary to make
some further assumptions
to satisfy (2).
“See Burdett and Hool (1983) or BW for a similar simplifying assumption.
244
N. M arceau, Unemploy ment insurance and market structure
simplification implies that eq. (3) is no longer relevant and that we can set
pzi = 0. Thus, from eqs. (1)<9), only two equations remain that determine the
endogenous variables {w, ri} as functions of the exogenous variables of
interest here (e, Sj:
k,--(m+l)n-w+eb+
1’
a(w, l)-4b,O)
=O
(10)
U,(W 1) zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQP
[
(11)
Let us now turn to the no entry and free entry cases. It will be shown that
in the no entry case, the conventional results hold, i.e. an increase in
experience rating leads to less layoffs and to an increase in average
employment. However, it will be shown that in the case of free entry, an
increase in experience rating has a negative impact on the number of firms
that enter the industry. This effect, the free
effect, will then
to a
decrease
even if layoffs have
under a rather weak
here
the
entry
would be present even
firm
effect.
tax, it is shown that
when there
free entry. This result
same spirit as the one obtained zyxwvutsrqponm
entry
there is no entry, m is parametric
eqs.
variables {n, w}. The following
z=aw
z=
and
for the endogenous
Hb>()
IDI
’ zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDC
(i-~)bz,~
(DI
’ ’
as ZPO,
where H=AN +(l -I)n>O
is the average employment
per firm, r=
-ur r(w, l)/ui(w, 1) >O is the coefficient of absolute risk aversion of the
workers, and JDI= - - H(m + 1) -( zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJI
1 - zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLK
;l)rZ’ < 0.
The results obtained here are conventional. The standard effect an/&>O,
N. M arceau, Unemploy ment insurance and market structure
245
i.e. the firm decreases the number of layoffs it makes in bad states of nature
as it bears a heavier fraction of the cost of a layoff, has been recognized by
Feldstein (1976) and Baily (1977) among others. Using that result, it has been
argued previously that increasing e would then increase employment. Indeed,
holding m (and N) constant, and defining the average level of layoffs in the
industry by L=( zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFED
1 -2)m(N - n) and the average level of employment in the
industry by M =lmN +(l -Qrrn, it is then possible to obtain that aL/de<O
and aM/ae> 0. Thus, average employment
increases because average
layoffs
have decreased. As
be seen,
is misleading
it
on a fixed level of m (and
if L is decreasing in e, then M is
in
us now
to the
of the
6. Since 6 appears
nowhere in
(1 l), it
= aw/&Y 0.
is
again a conventional result. It
be seen
to different
to the
of free
in the
it
to
note
of a firm
a fixed number of
as the
of the UI scheme
To see
by EII(e,&m)
by use of the
S,
&
CSt
-(l--J)
(m-l)n$+(N-n)h
~0,
aEII(e, 6, m) zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDCBA
= -N<O.
a6
lll=CSt
Consequently, and since the entry decision of a firm is made on the basis of
the expected profits, the number of firms that will enter the industry will vary
as the tax parameters are changed. This is a motivation for the exercise
performed in the following section.
4. Free entry
If there is free entry in the industry, the number of firms m will be
endogenously determined so that the expected profits of entering firms are
zero:i6
16Note that this assumes a continuous
number of firms. If the number of firms is a discrete
number, the so-called ‘integer problem’ may arise. This problem has been dealt with, for the case
of Cournot-Nash
equilbria, by Novshek (1980) and Mankiw and Whinston (1986). In this case,
the equilibrium number of firms m* will be given by the following two conditions rather than eq.
(12): En(m
and EL’(m*+ 1)cO.
246
N. Marceau,
EH=A[N(k,
Unemployment
insurance and market structure
-mN)-NW]
+(l-A)[n(k,-mn)-nw--(N-n)eb]-6N-c=O.
(12)
Eq. (12), along with eqs. (10) and (1 l), now determine the endogenous
variables {n,m, w}. By differentiating those equations, the impact of a change
in the experience-rating parameter on the endogenous variables can be
obtained: zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDCBA
an
HZNb,O
z=- w
’
- n)rZ2 + H(N -
(1 -I)HNbZ,O
de
IEI
+
1) +
-
l)] <
as ZGO,
”
as in
no entry case,
a free entry effect,
is obtained.
Thus,
increase in
of layoffs
of firms. This last
is understood to be
consequence of
in profits associated with the increase in
experience rating. It can be seen that, once
of layoffs
in
L, will decrease as
result of a
of experience
rating:
‘:=(I-i)(N-n)
2
is also present.”
- (i- L)m$<O.
on average employment A4 is ambiguous:
dM
(1-I)Hb
- =- - - - - - - de
IEI
Moreover,
- [- (l- A)(N- n)rZ2- HN+2Hn]><O.
a weak sufficient condition
for aM /de <O is simply that n is
“Note
that the free entry
is also present in the case
firms in a
in this case, a
on prices,
as given, could also
present
it would mitigate
monopolistically
competitive industry was thus made for heuristic reasons.
to the fact
of
N. Marceau,
Unemployment
insurance and market structure
241
sufficiently zyxwvutsrqponmlkjihgfedcbaZYXWVUTSRQPONMLKJIHGFEDCBA
small, i.e. n< N/2. This sufficient condition will be satisfied if zyxwvutsrqponmlk
k2 is
itself small enough. To see this, simply note that, from eqs. (10)-(12):
.u-I+(I-~)H~~,~,
-=_-1El
dk2
Thus, for smaller and smaller k,, the chances are that the sufficient condition
will be satisfied. Obviously, as long as k2 is not bounded from below, there
exists a k2 such that the sufficient condition is satisfied since ultimately, n
goes to 0 as k, goes to 0.
It has thus been demonstrated that because of the free entry effect,
increasing the experience-rating parameter can be harmful to employment.
This result is in the same vein as the one obtained by BW when they
consider the firm size effect. Note that the fact that there is exit from the
industry when the experience rating increases means that, at least in the
short run, the newly unattached workers will join the permanently unemployed. In the short run, therefore, the unemployment rate will increase. In
the long run, those workers will reallocate themselves in other industries so
that the adverse effects of the experience rating, described above, will vanish.
Now consider the impact of a change in the payroll tax on the endogenous
variables:
am
a6=
aw
as=-
-N[(m+1)H+(l-i)rZ2]<0
IEl
(1-A)NnZ
50,
JEJ
____
’ zyxwvutsrqponmlkjihgfedcbaZYXWVUTSR
as ZSO.
The first result obtained is that &/&3>0. This is explained by the fact that,
in this framework, the size of the firm is identified with its capacity and it
becomes more and more costly to have unused capacity when the payroll tax
increases. Consequently, layoffs will decrease in bad times. A second result
obtained here is that, as for the experience-rating parameter, the number of
firms decreases as the payroll tax is increased: am/a6 < 0. Consequently, even
if average layoffs decrease, i.e. iYL/&Y< 0, average industrial employment falls,
i.e. aM/aS ~0. Note that these results are in contrast to the previous
literature. The payroll taxes here have an effect that could not be obtained
with an exogenous labor force, N, and a fixed number of lirms, m.
As was pointed out by an anonymous referee, the fact that the UI system
is not self-financed is important. If the UI system was self-financed at the
248
N. M arceau, Unemploy ment insurance and market structure
industry level, a decrease in experience rating would have to be compensated
by, say, an increase in lump-sum taxes on firms. If the increase in lump-sum
taxes turns out to decrease the profits by more than the increase associated
with the decrease in experience rating, then the above results are reversed. It
seems, however, to be the case that most UI schemes are not self-financed at
the industry level. Deere (1991) reports that in the United States there is
redistribution from the relatively more volatile industries to the relatively
more stable ones. A complete analysis would therefore also have to include
the shifts in resources due to the redistribution and this would require a
general equilibrium model.
Finally, note that the variations in the number of workers reported to be
important in North America by Burdett and Wright (1989a, table 1) can be
viewed as evidence of the claim made here. Indeed, variations in the number
of workers can be explained by changes in the size of the firms, but also by
changes in the number of firms.
5. Conclusion
This paper has examined the impact of UI on employment and unemployment. The main contribution of this paper has been to consider the case
where the prices in the economy can vary.
It has been shown that under Cournot competition and free entry,
increasing the taxes used to finance the UI scheme would decrease average
industrial employment under a weak sufficient condition. This result is in the
same spirit as the one obtained by BW when they considered the firm size
effect. In fact, combining the results of BW’s paper with those described here,
it can be said that if the experience rating or the payroll tax is increased, the
number as well as the size of the firms might be decreased. There are thus
mechanisms through which employment can fall if the firms have to bear a
heavier fraction of their unemployment costs. This conclusion contradicts the
conventional view in that a decrease in unemployment is not necessarily
associated with an increase in employment.
A more general conclusion is that for industries or economies with
different degrees of market power, the same UI scheme may well have
drastically different impacts.
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