Permanent Job Loss

The UI system in the U.S. has been established under both federal and state laws.  The federal statutes lay down general guidelines, under which the states have substantial leeway to fashion systems to suit their own circumstances.  Thus, the Federal Unemployment Tax Act (DUTA) mandates that there be experience-rated payroll taxes, but the determination of the exact method of experience rating is left to the individual states.  States have enacted various methods of experience rating and, within the same methods, different parameter values.  Two forms of experience rating are used predominantly the reserve ratio method (used in 32 states) and the benefit ratio method (used in 15 states).  Although these approaches have much in common, their differences may have important implications for the economic incentives they give to employers to alter employment patterns.  First, we will review the common characteristics of these approaches.

Common Features of the Two Experience-Rating Methods

The two experience-rating methods share five features.  These elements are (1) the computation of the taxable payroll, (2) the concept of charged benefits, (3) time lags, (4) the suspension of experience rating under certain circumstances, and (5) trust fund solvency provisions.

The Taxable Payroll

The firm’s UI tax bill (T) for a particular calendar year is the product of its tax rate (τ) and its taxable payroll (W) for that year.  The taxable payroll, in turn, consists of the cumulated earnings of all employees up to the taxable wage base (ŵ) for each employee in each calendar year.  On January 1, the process of cumulating earnings starts over again.  The minimum taxable wage base is set by FUTA, but higher bases may be mandated by state legislatures.  In 1994, the federal taxable wage base was $7,000 and the state bases ranged up to $25,000.

Throughout this book, we assume that the taxable payroll per employee is equal to the taxable wage base and that the employer’s total taxable payroll is the product of the taxable wage base and the mean of the employment levels at the beginning and the end of the year.

Thus, if the taxable wage base is $10,000 and the employer’s work force falls from 500 at the beginning of the calendar year to 400 at the end of the year, the taxable payroll is assumed to be ($10,000) (1/2) (500+400)=$4,500,000.

The preceding approximation of the taxable payroll may be distorted for two reasons.  First, employment growth may not be smooth between January 1 and December 31, so that the average employment in the example may not be 450.  Second, even if the level of employment does not change during the year, interfirm labor turnover tends to influence the size of the taxable payroll.  Suppose, for example, that the taxable wage base is $10,000 and that the annual wage paid in a particular job is $20,000.  If the job is filled by one employee for the entire year, then the taxable payroll with respect to this position is $10,000. If, on the other hand, the same job is filled by one employee in the first six months and by a different employee during the second six months, then the taxable payroll is $20,000 because the employer has to cumulate earnings up to $10,000 for each employee.  See Brechling (1977) for a general formulation and elaboration of these points and Brechling (1981) for an empirical verification.

Our approximation of the taxable payroll may be stated in equation form:

(8.1)    Wt= ŵ <!– /* Font Definitions */ @font-face {font-family:”Cordia New”; panose-1:2 11 3 4 2 2 2 2 2 4; mso-font-charset:0; mso-generic-font-family:swiss; mso-font-pitch:variable; mso-font-signature:-2130706429 0 0 0 65537 0;} @font-face {font-family:”Cambria Math”; panose-1:2 4 5 3 5 4 6 3 2 4; mso-font-charset:0; mso-generic-font-family:roman; mso-font-pitch:variable; mso-font-signature:-1610611985 1107304683 0 0 159 0;} @font-face {font-family:Calibri; panose-1:2 15 5 2 2 2 4 3 2 4; mso-font-charset:0; mso-generic-font-family:swiss; mso-font-pitch:variable; mso-font-signature:-1610611985 1073750139 0 0 159 0;} /* Style Definitions */ p.MsoNormal, li.MsoNormal, div.MsoNormal {mso-style-unhide:no; mso-style-qformat:yes; mso-style-parent:”"; margin-top:0cm; margin-right:0cm; margin-bottom:10.0pt; margin-left:0cm; line-height:115%; mso-pagination:widow-orphan; font-size:11.0pt; mso-bidi-font-size:14.0pt; font-family:”Calibri”,”sans-serif”; mso-ascii-font-family:Calibri; mso-ascii-theme-font:minor-latin; mso-fareast-font-family:”Times New Roman”; mso-fareast-theme-font:minor-fareast; mso-hansi-font-family:Calibri; mso-hansi-theme-font:minor-latin; mso-bidi-font-family:”Cordia New”; mso-bidi-theme-font:minor-bidi;} .MsoChpDefault {mso-style-type:export-only; mso-default-props:yes; mso-ascii-font-family:Calibri; mso-ascii-theme-font:minor-latin; mso-fareast-font-family:”Times New Roman”; mso-fareast-theme-font:minor-fareast; mso-hansi-font-family:Calibri; mso-hansi-theme-font:minor-latin; mso-bidi-font-family:”Cordia New”; mso-bidi-theme-font:minor-bidi;} .MsoPapDefault {mso-style-type:export-only; margin-bottom:10.0pt; line-height:115%;} @page Section1 {size:595.3pt 841.9pt; margin:72.0pt 72.0pt 72.0pt 72.0pt; mso-header-margin:36.0pt; mso-footer-margin:36.0pt; mso-paper-source:0;} div.Section1 {page:Section1;} –>

Where Nt represents employment at year-end and Nt-1 represents employment at the beginning of year t.  In general, the subscript t refers to a calendar year.  The equation relates to the formal analysis that will be developed in later chapters.