By Benjamin Hartung, Philip Jung and Moritz Kuhn
A key question in labor market research is how the unemployment insurance system affects unemployment rates and labor market dynamics. We revisit this old question studying the German Hartz reforms. On average, lower separation rates explain 76% of declining unemployment after the reform, a fact unexplained by existing research focusing on job finding rates. The reduction in separation rates is heterogeneous, with long-term employed, high-wage workers being most affected. We causally link our empirical findings to the reduction in long-term unemployment benefits using a heterogeneous-agent labor market search model. Absent the reform, unemployment rates would be 50% higher today
I am really puzzled by the paper. Usually, when you have an economy with high unemployment rate, the job finding rate and the separation rate are both really low. A labor market reform then typically involves allowing the separation rate to increase, and then the job finding rate increases as well. But here, the separation rate decreased even further, with little consequence for the job finding rate. In other words, the labor market became even less flexible, yet the unemployment rate decreased substantially.