Unemployment Insurance Experience Rating of Firms and Layoffs.

The US unemployment insurance system is experience rated. Firms using the system more often have to pay higher UI taxes in order to cover the additional burden imposed on the system. Experience rating introduces a tax on layoffs which is supposed to counterbalance the implicit layoff subsidy resulting from the UI system. In turn, this is expected to reduce excess layoffs. In reality, however, experience rating implies higher payroll taxes on the remaining workforce of firms experiencing layoffs. In a theoretical model, we show that because of the backward looking nature of experience rating and its incompleteness particularly for firms which have reached their top tax ratings, a world with imperfect experience rating can actually lead to more layoffs than would have occured had there been no experience rating at all.