Unemployment Benefits Show the Power of Incentives


May 19, 2020 11:26AM

In grade school most of us are taught the various laws of science—most people are familiar with theories like the law of gravity. Sadly, despite living in the country with the greatest free-market tradition, most of us are never taught some of the basic “laws” of economics. While economic truths aren’t as set in stone as the law of gravity, there are some commonly accepted principles. One is the idea that incentives matter. 

As rational beings acting in our own self-interest, we respond to incentives. The free market creates incentives all the time.  We go to Kroger despite it being out of the way to get fuel reward points. And who can pass up a good BOGO (buy-one-get-one) sale? But the government also creates incentives either purposefully or inadvertently. As only the Great Communicator Ronald Reagan could articulate, “if you want more of something, subsidize it; if you want less of something, tax it.” 

The provisions of the recent CARES Act, the federal stimulus bill passed by Congress in March, provides another example of the unintended consequences of government policy. One provision of the CARES Act adds an additional $600 per week to unemployment benefits. This extra money is on top of the $275 that the state already provides. For a forty-hour workweek, this works out to $21.87 an hour. For many workers in professions that have been severely affected by the pandemic, this is more than they earned while working. As the economy has begun to reopen in Tennessee and elsewhere, some businesses are reporting having problems getting employees to return to work. When you incentivize unemployment, you end up getting higher unemployment. For those workers, not wanting to come back to work when you can make more binge-watching Netflix is a rational choice. While the state has come out saying refusing to come back to work could jeopardize unemployment benefits, people know how the system is overloaded and many are willing to take that risk. 

Unfortunately, we see these types of incentives in government frequently. Take other benefits like Medicaid for example. Many who receive Medicaid are unwilling to take a raise as they approach the “fiscal cliff” where an additional $1 could mean the loss of thousands of dollars in benefits. While they could be better off in the long run, they are incentivized to make a short-term decision and stay trapped at an income level low enough to maintain those benefits. Turning down that pay raise and keeping those benefits is a completely rational decision.

Examples like these should serve as a reminder to lawmakers. Good public policy should always be designed to incentivize people to get back to work, aligning the short-run with the long-run. Sometimes the best of intentions— in this case helping those who lost their job due to government shutdowns—could end up hurting those they intended to help.