Imagine a world where your car insurance company charges everybody the same premium; the premium doesn’t depend on your driving record or the number of claims you make. Nor does the premium depend on your age or other characteristics that increase your risk of getting into an accident.
Such a system seems absurd because it benefits bad drivers at the expense of good drivers. But this is exactly how Canada’s employment insurance (EI) program operates.
In an attempt to "make Employment Insurance work better for Canadians," the federal government recently proposed some changes to EI—a program that cost more than $16 billion last year. Unfortunately, the changes do not address fundamental problems with the EI system. To truly reform EI for the benefit of Canadians, the EI system needs to operate like a true insurance system where premiums are adjusted for the risk of making a claim.
One of the many problems with EI is that premiums are not adjusted this way. Employers and workers pay the same premium rate ($2.56 and $1.83 per $100 of insurable earnings, respectively) regardless of claim history or occupation.
Predictably, EI is prone to misuse since the system provides an incentive for seasonal employers to game the system by offering workers enough hours to qualify for EI, laying them off, and then rehiring them next season when they are needed again. After all, no penalties are levied either in the form of higher premiums or lower benefits for workers.
Not surprisingly, some workers structure their work life around the EI system. A study by economists David Card and Craig Riddell found evidence that "Canadian workers have increasingly tailored their labor supply behavior to the characteristics of the [EI] system." Specifically, the study found that over time there was an increase in the number of Canadians who became unemployed after working the exact number of weeks needed to qualify for EI. Another study by David Green and Timothy Sargent examined the EI program in the late 1980s and early 1990s and found evidence of “substantial tailoring of job durations” in seasonal jobs to meet EI eligibility criteria. Put differently, the study found that some workers plan the duration of their employment based on qualifying periods for EI benefits.
The federal government recently proposed reforms that clarify what constitutes “suitable employment” for those on EI. What’s suitable will depend on an EI recipient’s claim history and how many weeks they’ve been on the program. Compared to infrequent EI users, frequent users will have to accept employment that pays a lower percentage of their previous wage (as low as 70 per cent). All EI recipients will generally have to accept jobs that are within a one hour commute from home.
While the proposed rules are intended to get EI recipients "back to work" quicker, they do not address underlying problems with the program.
The practice of "experience rating" would significantly improve EI because premiums would vary depending on one’s risk of making a claim. With experience rating, employers that regularly lay-off and rehire workers would pay higher premiums, as would workers who use the system more often.
The federal government briefly experimented with a form of experience rating in the 1990s; the reforms were implemented in 1996 but ultimately repealed in 2001. Despite being in effect for only a short period, research by professors Alice Nakamura and Erwin Diewert suggests that experience rating successfully reduced EI program expenditures.
Several U.S. states have also experimented with various forms of experience rating. The U.S. evidence shows that experience rating reduces temporary lay-offs and unemployment. A study by Professor Stephen Woodbury examined employment insurance systems in Missouri, Washington, and Pennsylvania and found that "increased experience rating significantly reduces layoffs." A 1998 study published in the Journal of Labor Research also examined the impact of state policies on county and metropolitan unemployment rates and found greater experience rating is associated with lower jobless rates.
Employment Insurance should provide temporary assistance to Canadians who unexpectedly lose their job through no fault of their own. If Canadians want a system that achieves that goal while limiting opportunities for it to be abused, then EI needs bolder reforms to allow it to function like a true insurance system. In this regard, experience rating is a must.