Targeted wage subsidies and long-term unemployment : theory and policy evaluation
Prolonged experience of high and long-term unemployment has led many governments to a renewed interest in active labour market policies. In particular, targeted wage subsidies have been seen as a means of both directly getting longterm unemployed people into work, and improving their future prospects of finding and keeping jobs. We examine three issues. Firstly, we look at the macroeconomic theory of targeted wage subsidies, and, to a lesser extent, job search assistance, within efficiency wage, union bargaining and search theoretic frameworks. Subsidies directly increase labour demand, but we also find that their effectiveness is enhanced by general equilibrium effects from targeting: wage pressure is reduced; and the average quality of the unemployed pool rises as long-term unemployed workers are removed from it, increasing the incentives for other firms to open vacancies. Secondly we address the optimal degree of policy targeting, using an extension of the Mortensen-Pissarides job creation and destruction model. We argue that there are real gains to targeting the long-term unemployed, but also diminishing returns. Hence, as the level of policy expenditure rises, the extent of targeting should fall. Simulating the model for the UK, we find that policy could have a significant impact on equilibrium unemployment, with more modest welfare gains. Finally, we look at longer-term employability effects by evaluating the Australian Special Youth Employment Training Program (SYETP). Controlling for selection bias using a bivariate probit, we find that participation increased the chances of having a job by 26% between 8 and 13 months after subsidy expiry, and 20% a year later. Much of this gain arose from retention of initially subsidised jobs, but even excluding this, participants were significantly more likely to be employed in subsequent years than if they had not gone on the programme.