The challenging need for common unemployment insurance in EU
“The strain which sprang from unemployment might induce foreign tension”, said Karl Polanyi in 1944. Despite a modest recovery, the unemployment rate in the EU is still much higher today (9.6%) than it was before the crisis (7.1%) (Eurostat). Social instability created by unemployment should be domestic problem, but it becomes a region-wide issue when countries share a same currency. In the euro-area, unemployment policies are led independently by each government (France Strategie), which can lead to sub-optimal situation in case of an asymmetric shock and which calls for greater regional economic cooperation (Catherine Sifakis-Kapetanakis).
Labor markets are a crucial component of an Optimal Currency Region (OCR), as theorized by Mundell (1961). The Eurozone is imperfect, in several regards: low mobility of factors of production, absence of a centralized fiscal authority or of transfer systems and lack of real convergence. Fostering a regional labor market would help alleviate one of those factors. A recent Italian proposal re-evoked the idea of a European unemployment benefit scheme, first introduced by the 1975 Marjolin report—though it currently remains a debate between economists and not between politicians.
The European unemployment insurance has two main purposes, which link economic and social issues (Arthur Sode and Anne Epaulard): first, to reinforce automatic stabilizers at the European level (CEPS) (in the absence of a fiscal union (Commissioner Andor)), and second, to foster labor market convergence. Effects could also be positive on citizen’s living conditions, potentially improving European social integration. This unemployment benefit could first be implemented at a euro zone level, and then be extended at a EU level—a logical second step given that the EU federal budget is for the whole EU. Name of the author (CEPS) estimates that if such a scheme had been put in place in 1999, it could have prevented a substantial European GDP loss during the crisis. A 2013 study of Sebastien Dullien and Ferdinand Fichtner shows that a quarter of Spain GDP decrease could have been avoided with such a scheme.
What are the different proposals for unemployment insurance systems in the EU and how could potential challenges be tackled?
From individual unemployment systems to a European system
The diversity of unemployment benefits systems in Europe
The unemployment benefits systems within the European Union diverge greatly depending on: entitlement conditions, benefit duration, contribution rate, compensation level or the minimum compensation level perceived (European Commission). These heterogeneous policies reveal weaknesses in EU optimality and the existence of national preferences. Nonetheless, three country groups can be identified based on a common base of the unemployment benefit system, reducing disparities among them (IZA).
• The Nordic model (Denmark, Finland, the Netherlands, Sweden) is characterized by a generous unemployment benefit system, provides long benefit duration and a generous compensation (90% of income level in Denmark, 80% in Sweden). It is highly redistributive but strictly conditional on job search and work availability.
• The conservator model (Austria, Belgium, Germany, France, Luxembourg) matches a generous unemployment benefit system, albeit less than the Nordic model and with shorter benefit duration. Unemployment assistance often complements income support, in order to maintain a relatively high income for workers.
• The Anglo-Saxon model (Ireland, the UK) is based on a modest unemployment benefit system, which aims at motivating the unemployed to return as fast as possible on the labor market. In this type of model, the State only intervenes as a last resort, while providing wide assistance support to weaker populations.
Unemployment insurance system is relatively homogenous between countries within a same model. But when taking EU as a whole we notice great disparities between its members. For instance, the net pension replacement rate, i.e. percentage of past wage received by unemployed benefits, varies considerably across EU countries, from 80% in Luxembourg to 13% in the UK. It is the same for duration benefits (21 weeks in Lithuania, 104 weeks in France, unlimited in Belgium); sources of funding (100% is funding by employer in Czech Republic, Poland, and 80% Italy); conversely employee funding 100% by employee in Denmark; the form of participation which can be a fixed contribution (Luxembourg), State-covered deficit (Austria, Poland), State-provided subsidy (Germany, Greece), State does not contribute (Estonia, France).
Despite this heterogeneity, a common base may provide a good starting point towards a common European unemployment system.
European unemployment benefits systems
A common unemployment system at the European level could reinforce optimality in the EMU. Two main options are considered: basic unemployment scheme and catastrophic insurance scheme.
The basic unemployment scheme would give a common base between the European countries, defining minimum social standards in Europe (Trésor-Economics). In addition to this minimum European compensation, other national compensations could be added nationally, in accordance to the average national income level (argument for countries to remain sovereign). Because it is the most affected by negative shocks, the cyclical unemployment (between 3 and 12 months) will be targeted (Commissioner Andor). The national insurance contributions would directly finance the European unemployment insurance, such as environmental and financial transactions taxes. For such a scheme to efficiently function, there would need to be, on the long run, a convergence between the different current unemployment schemes in Europe. The level of compensation and of the duration will have to be settled between countries.
The catastrophic unemployment insurance would provide benefits to the cyclically unemployed, but only when the unemployment rate increases sharply due to an adverse conjectural shock (Bénassy-Quéré). For instance, if the unemployment rate exceeds a certain threshold (e.g. 12% or 15%) or 2% of the NAWRU (EUI study), or if it deviates significantly from the European average or from the long term natural unemployment rate (Deutsche Bank). This system would be complementary to the national system in charge of the structural unemployment. To fund it, two options are considered. First, countries’ annual contribution, equal to 0.1% of the national GDP, until the fund reaches 0.5% of EU GDP (EUI study). Second, creating a borrowing capacity (Deutsche Bank), which, nonetheless, is less likely to happen in the current context of fiscal consolidation. Such systems currently exist in the US, allowing the extension of the regular 26 weeks duration of the unemployment benefits by a couple of weeks.
Both schemes have their advantages and disadvantages:
• Catastrophic unemployment insurance has smaller costs for the member countries (Deutsche Bank) and estimated at less than 0.1% of annual GDP by an EUI study, is more effective (because only triggered exceptionally), and is much easier to implement (Dullien, 2014).
• The basic unemployment scheme would trigger a stronger convergence of European labor markets, yet not entail permanent transfers (Deutsche Bank).
What is at stake?
Advantages to a common scheme
• It would play the role of an “automatic stabilizer” (Bruegel; Dolls, Fuest, Neumann and Peichl, 2014).
• It would lower macroeconomic risks between European countries, strengthening solidarity and social cohesion.
• It would also be a positive signal towards a deeper fiscal integration in Europe (Lellouch and Sode, 2014).
• It would bring great harmonization of the European labor market (Deutsche Bank and Bruegel).
• Because with such scheme worker’s contributions would no longer be attached to a specific country (Bénassy-Quéré), labor mobility within Europe would be facilitated.
• Finally, feasibility would be relatively high as national sovereignty is preserved, even if EU unemployment system convergence is required in the long-term.
Disadvantages to a common scheme
• Permanent transfers from traditionally low unemployment rate countries to high unemployment rate countries (Deutsche Bank). A fiscal rule could link the allowance received to the countries’ structural unemployment rate (Bénassy-Quéré). Countries’ contributions could be revised and adjusted every year in order to equalize the contribution and benefits received over the last five years (Lellouch and Sode, 2014). Another fiscal rule could be an additional contribution equal to 0.2% of the GDP if the country’s cumulative deficit exceeds 1% of the GDP (Four presidents). This threshold would be higher in countries with traditionally high unemployment rate, allowing countries that are implementing structural reforms on the labor market to decrease their contributions to the fund.
• Moral hazard: such scheme could reduce incentives for the national authorities to undertake reforms against unemployment, as the cost is shared with other countries. A threshold on the amount of allowances received by countries could be fixed. The fact that such scheme would insure short-term unemployment while national systems would insure long-term unemployment mitigates the risk of moral hazard (Deutsche Bank).
• Because the European unemployment insurance would only be taking care of the short-term unemployment it might lead to the multiplication of precarious short-term contracts (Bénassy-Quéré).
• Furthermore, in case of a severe global recession, the European unemployment system’s capacity may not be large enough to financially support all the countries in need. It would lead to a sub-optimal situation, countries facing difficulties having to transfer funds to worse-off countries. An option to avoid these situations would be to create a borrowing facility to fight against global recessions (Dullien & Fichtner, 2013).
• As homogenization of labor markets is required on the long-term for schemes to be efficient, a question arises. Which system should the EU converge to? Shall it be the Nordic model or the Anglo-Saxon model? Because there are historical preferences, there is no political consensus on the matter. Therefore it would be easier to design a structure, such as VAT, which would take the median of each component, and all countries would converge towards it.
European unemployment system could be considered as financial assistance. If implemented well, EU countries could go further and, for instance, fund training programs at a European level. Such policies aim at focusing on structural unemployment (VoxEU), which is one of the main causes of inequalities and social exclusion. Efficient labor market is therefore essential (5 presidents report).
Despite strong political pressure in favor of the development of social dimension in the European Union, for the moment, the Commission has made no legislative proposals for an EU Unemployment Insurance Scheme. It would be a very ambitious measure reinforcing euro zone optimality, by playing the role of automatic stabilizer and improving labor market mobility. It could also lead towards deeper integration in the euro zone, such as a euro zone budget, a finance minister for the euro area (Eurointelligence). However, strong heterogeneity of national unemployment insurance, no political consensus on the matter and rising of far-right political party (which are often anti-EU parties) might delay the implementation of such a scheme.
