The Moral Cost of Unemployment Insurance

Generous unemployment benefits paradoxically make it easier for firms to lay off workers.

people in line; unemployment
Economics & Policy, The Workplace
By Stephen Chupaska

Since the start of the pandemic, almost 20 million Americans have applied for unemployment insurance. Embedded in that figure is the likelihood that executives and managers have, in the past months, made the tough decision to lay off or fire workers.

“If you talk to executives they will tell you that hardest part of their work is when they have to let people go,” says Professor Stephan Meier.

For those laid off during the pandemic, Congress, though the CARES Act, temporarily expanded unemployment benefits, providing a softer landing for some workers.

But new research published in July from Meier, the James P. Gorman Professor of Business, and Assistant Professor Daniel Keum, shows that those same government measures create a moral condition that makes it more likely that managers will lay off their employees.

Keum, whose recent work has centered on the consequences of employment protection laws, says that most executives engage in what he calls “pro-sociality,” or the idea that they seek to “do good.”

“We have a certain amount of good we want to do and there’s a need to take care of people,” he says. “But if the government steps in and does the same thing, some say ‘Great, then they don’t need me to.'”

In their study, Keum and Meier analyzed expansions in state unemployment benefits between 1976 and 2007 in light of economic downturns during that period when companies executed layoffs.

They found that during that three-decade stretch, firms that were performing below their industry average laid off 4.3 percent of their workforce, but that a 10 percent increase in unemployment insurance allocations increased the layoff by 18.1 percent, or 0.78 percentage points.

Using that data, Keum and Meier then conducted additional analysis to determine if the jump in the number of layoffs was due to the moral concerns of an executive or external pressures such as demands from shareholders. Keum says the moral cost is more pronounced in states whose corporate governance laws insulate firms from shareholder pressures than those with fewer regulations.

“If you examine firms that are more beholden to shareholder capitalism, there’s very little consideration of moral cost,” Keum says. “Unless managers reduce their workforce, they would themselves be fired by shareholders.”

In so-called “protected firms,” the situation is better for employees, where even those who are low performing are more likely to keep their jobs. That can change when better government insurance programs become available.

“Then executives feel more licensed to fire people,” Keum says. “It is an irony that once the government gives you a better safety net, you lay off more people.”

The researchers also found that executives who are more likely to consider the moral cost of layoffs, tend to hold political views similar to Democratic Party policies, which generally seek to bolster unemployment benefits.

According to Keum, Republican executives, on average, typically value greater efficiency and think that they are “doing good” by streamlining firms and are therefore more aggressive in laying people off.

Democratic executives, however, experience greater moral costs, and tend to retain marginal workers, unless there is the promise of a social safety net.

“The logic is that they care about their employees,” Meier says. “When the landing is softer because of increased unemployment benefits, the moral cost goes down.”

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