Optimal Unemployment Insurance and International Risk Sharing

By Stéphane Moyen, Nikolai Stähler and Fabian Winkler

http://d.repec.org/n?u=RePEc:fip:fedgfe:2016-54&r=dge

e discuss how cross-country unemployment insurance can be used to improve international risk sharing. We use a two-country business cycle model with incomplete financial markets and frictional labor markets where the unemployment insurance scheme operates across both countries. Cross-country insurance through the unemployment insurance system can be achieved without affecting unemployment outcomes. The Ramsey-optimal policy however prescribes a more countercyclical replacement rate when international risk sharing concerns enter the unemployment insurance trade-off. We calibrate our model to Eurozone data and find that optimal stabilizing transfers through the unemployment insurance system are sizable and mainly stabilize consumption in the periphery countries, while optimal replacement rates are countercyclical overall. Moreover, we find that debt-financed national policies are a poor substitute for fiscal transfers.

This is another attempt to realize within the EU what is already happening within some countries: regional risk sharing through flexibility in unemployment insurance eligibility and benefits. The theory, while complex, is still relatively simple compared to the politics that would be required for EU members to give up another layer of sovereignty for their own good. We know now that this is an uphill battle.