Unemployment Risk and Temporary UI Benefits Increases

Abstract

I study the effects of fiscal policy responses to aggregate shocks in an economy where households face idiosyncratic unemployment risk in a search and matching (SaM) labor market. By assuming zero liquidity, the households’ distribution is degenerate and the model is easily tractable. In the wake of the Federal Pandemic Unemployment Compen sation program, I show that the effects of transitory increases in Unemployment Insurance (UI) benefits are largely dependent on the state of the economy and the type of adverse shock. The most welfare-improving fiscal stimuli appear to be rather small and over a long period. Front-loaded increases in public spending may have important adverse effects on inflation, welfare, and the labor market.