A quantitative theory of time-consistent unemployment insurance

During recessions, the U.S. government substantially increases the duration of unemployment insurance (UI) benefits through multiple extensions. Benefit extensions increase UI coverage and lead to higher average consumption of unemployed workers, but the expectation of an extension may reduce unemployed worker’s job search incentives and lead to higher future unemployment. We show that benefit extensions in recessions arise naturally when the government forgoes prior commitment and makes discretionary UI policies. We endogenize a time-consistent non-commitment UI policy in a stochastic equilibrium search model, and use the model to quantitatively evaluate the benefit extensions implemented during the Great Recession. Switching to the (Ramsey) commitment policy would reduce the unemployment by 2.9 percentage points with small welfare gains.