Unemployment and Welfare State: What do the Data Tell Us?

The aim of this paper is to analyze the relationship between welfare expenditure by government and unemployment outcomes. Using a panel of 34 OECD countries from 1980 to 2010 and a two-way fixed effect model for panel data subject to endogeneity test and persistence test, the results of the paper suggest that total welfare expenditure as a percentage of GDP has a statistically significant positive impact on unemployment outcomes (total unemployment, long-term unemployment and youth unemployment). Among the four major components of national welfare expenditure, only income support and pension benefit are found to have the significant positive effect on all unemployment outcomes, public expenditure on health services has marginally significant positive impact on total unemployment rate, but not on long-term unemployment rate and youth unemployment rate and public social expenditures on other social services provided by government have no significant impact on unemployment. The econometric estimation results also provide evidence to support the hypothesis that one channel through which public social expenditure impacts unemployment is investment rate and the hypothesis that immigration can decrease a nation’s total unemployment rate.