Assessing the Welfare Effects of Countercyclical Unemployment Insurance

Abstract

During each recession in the U.S. over the last 40 years, the Congress has enacted additional extensions or supplements to the Unemployment Insurance (UI) program. I assess the welfare benefits of an automatic UI extension rule using a quantitative HANK model that features endogenous search effort, unemployment risk, and heterogeneous labor transition rates across the wage distribution. Conditional on a negative demand shock, the UI rule that replicates the discretionary UI extension during 2001 and 2008 increases the welfare of the unemployed at the cost of the employed, leading to a mild increase in the average welfare. The welfare gain is larger if monetary policy is more accommodative and can become negative if monetary policy is inactive, highlighting the importance of monetary-fiscal coordination.