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doi:10.1093/wbro/lkj003 Advance Access publication 14 February 2006 21:49–89
Choosing a System of Unemployment Income Support: Guidelines for Developing and Transition Countries
Milan Vodopivec
Mounting evidence suggests that excessive job protection reduces employment and labor market flows, hinders technological innovations, pushes workers into the informal sector, and hurts vulnerable groups by depriving them of job opportunities. Flexible labor markets stimulate job creation, investment, and growth, but they create job insecurity and displace some workers. How can the costs of such insecurity and displacements be minimized while ensuring that the labor market remains flexible? Each of the main unemployment income support systems (unemployment insurance, unemployment assistance, unemployment insur- ance savings accounts, severance pay, and public works) has strengths and weaknesses.
Country-specific conditions—chief among them labor market and other institutions, the capacity to administer each type of system, and the size of the informal sector—determine which system is best suited to developing and transition countries.
This article evaluates five systems of unemployment income support, identifying the key strengths and weaknesses of each system, assessing the applicability of each sys- tem to developing and transition counties, and drawing lessons about the design of income support systems. Two sets of criteria are used to judge the desirability of each type of system in a particular country. Performance criteria assess how well a system typically works—how well it protects workers’ incomes and how it affects efficiency and income distribution. Design and implementation criteria assess how suitable a system is in a particular country given the country-specific conditions.
To evaluate the desirability of a particular income support system, the article examines theoretical and empirical insights about its performance and examines how the prevailing conditions in developing and transition countries are likely to affect its functioning. This pragmatic approach is used to supplement the findings of economic models, which can provide only partial guidance for policymakers in
50 The World Bank Research Observer, vol. 21, no. 1 (Spring 2006)
developing and transition countries, because implicit assumptions of theoretical modeling (such as the existence of suitable institutional capacity and strict enforce- ment of law and order) often do not apply.
What Are the Options?
Policymakers can choose among various income support systems for the unemployed.
Five systems are examined here: unemployment insurance, unemployment assis- tance, unemployment insurance savings accounts, severance pay, and public works.
Unemployment Insurance
Unemployment insurance (together with pension and health insurance) is provided as part of social insurance. The system typically requires that workers and their employers pay earnings-related contributions that, upon separation, entitle workers to unemployment benefits according to predetermined eligibility conditions. While it mimics market insurance, the system deviates from actuarial principles by charging premiums that do not reflect individual risks. To qualify for benefits, a worker must satisfy the minimum covered employment or contribution requirement. The cause of dismissal may affect the individual’s eligibility for benefits, with workers who quit their jobs often disqualified. Continuing eligibility requires that applicants be avail- able for jobs, actively search for them, and be willing to accept them. Benefits are typically determined by the replacement rate—the proportion of the individual’s pay in the most recent employment spell. The initial replacement rate is usually 40–75 percent. If provided, unemployment insurance is mandatory in developed countries, where it is the most widely used income protection system for the unemployed, typi- cally covering all workers (table 1).
Why is unemployment insurance provided by the public and not the private sec- tor? The market fails to provide unemployment insurance primarily because of sig- nificant information asymmetries, which give rise to “moral hazard” and adverse selection problems that cannot be handled by private providers (moral hazard arises because unemployment insurance reduces self-protection; adverse selection arises because information problems prevent insurers from charging higher premiums to poor risks). Correcting for market failures calls not only for regulation—obligatory membership to avoid adverse selection—but also for its public provision, to improve monitoring capacity. Another advantage of publicly providing unemployment insurance is the enhanced ability to pool resources across large groups, which reduces strains on the system arising from the covariant nature of unemployment risk. Moreover, financial backing by the government is often provided when the sys- tem faces financial difficulties.
Table 1.Unemployment Support Systems, by Country Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Low-income countries Afghanistann.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———n.a. Angolan.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———n.a. Armenia$4–$712n.a.n.a.n.a.n.a.n.a.2——22.926.7 Azerbaijan70%6n.a.n.a.n.a.n.a.n.a.4——1— Bangladeshn.a.n.a.n.a.n.a.n.a.n.a.n.a.9.30.2—2.5— Beninn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— Burkina Fason.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———65 Burundin.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———n.a. Cambodian.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——2.2n.a. Cameroonn.a.n.a.n.a.n.a.n.a.n.a.n.a.6.75———— Central African Rep.
n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a. Chadn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a. ChinaFlat (set below minimum wage) 12–24n.a.n.a.n.a.n.a.n.a.20——321.9 Congo, Dem. Rep. of
n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a. Congo, Rep. ofn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a. Côte D’Ivoiren.a.n.a.n.a.n.a.n.a.n.a.n.a.6.8n.a.n.a.—— Ethiopian.a.n.a.n.a.n.a.n.a.n.a.n.a.9.31——— Gambia, Then.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.11.9 (Continued)
Table 1.(Continued) Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Ghanan.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.0.1——72.3 Guinean.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a. Haitin.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———n.a. Hondurasn.a.n.a.n.a.n.a.n.a.n.a.n.a.81.8—3.7— Indian.a.n.a.n.a.n.a.n.a.n.a.n.a.62.1——50.4 Indonesian.a.n.a.n.a.n.a.n.a.n.a.n.a.92.2—5.237.4 Kenyan.a.n.a.n.a.n.a.n.a.n.a.n.a.100——40.8 Korea, Dem. People’s Rep. of
n.a.n.a.n.a.n.a.n.a.n.a.n.a.20———— Kyrgyz Rep.100%–150% of minimum wage
6n.a.n.a.n.a.n.a.n.a.1———40 Lao PDRn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— Liberian.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Madagascarn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a.—57.5 Malawin.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—n.a.—51.7 Malin.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.0.1——36 Mauritanian.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——28.9— Moldova50%–60% of average wage
—n.a.n.a.n.a.n.a.n.a.2——6.1— Mongolian.a.n.a.n.a.n.a.n.a.n.a.n.a.1——5.711.5 Mozambiquen.a.n.a.n.a.n.a.n.a.n.a.n.a.28.5———72.5 Myanmarn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——
Table 1.(Continued) Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Nepaln.a.n.a.n.a.n.a.n.a.n.a.n.a.20——1.1— Nicaraguan.a.n.a.n.a.n.a.n.a.n.a.n.a.201.1—14.6— Nigern.a.n.a.n.a.n.a.n.a.n.a.n.a.6.80.2——— Nigerian.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——7.848.9 Pakistann.a.n.a.n.a.n.a.n.a.n.a.n.a.200.1—5.760 Rwandan.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— Senegaln.a.n.a.n.a.n.a.n.a.n.a.n.a.10.5——62.4 Sierra Leonen.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— Somalian.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Sudann.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— Tajikistann.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— Tanzania, United Rep. of
n.a.n.a.n.a.n.a.n.a.n.a.n.a.12———42.2 Togon.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.———— TurkmenistanLimit of three monthly wages
n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Ugandan.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——7.456.4 Vietnamn.a.n.a.n.a.n.a.n.a.n.a.n.a.3———— Yemen, Rep. ofn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——11.5— Zambian.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——15— Zimbabwen.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——6.533.9 (Continued)
Table 1.(Continued) Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Lower-middle-income countries AlbaniaFlat12–18n.a.n.a.n.a.n.a.n.a.10——15.8— Algeria75%–300% of base
12–36n.a.n.a.n.a.n.a.n.a.n.a.—n.a.28.3— Belarus50%–70%6.5n.a.n.a.n.a.n.a.n.a.3——2.7— Bolivian.a.n.a.n.a.n.a.n.a.n.a.n.a.206.8—3.951.3 Bosnia and Herzegovina
30%–40%3–12n.a.n.a.n.a.n.a.n.a.6.7———— Bulgaria60%4–12Flat3n.a.n.a.n.a.1—014.863 Colombian.a.n.a.n.a.n.a.Lump sum9.3% + 026.8——13.653.8 Costa Rican.a.n.a.n.a.n.a.n.a.n.a.n.a.86.2—5.7— Cuban.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Dominican Rep.
n.a.n.a.n.a.n.a.n.a.n.a.n.a.15.3n.a.n.a.16.152 Ecuadorn.a.n.a.n.a.n.a.Lump sum8% + 020——12.858.8 Egypt, Arab Rep. of
60%4–7n.a.n.a.n.a.n.a.n.a.n.a.1.3—21.364.2 El Salvadorn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.0.6—7.7— GeorgiaFlat6n.a.n.a.n.a.n.a.n.a.1——11.936.7 Guatemalan.a.n.a.n.a.n.a.n.a.n.a.n.a.20———— Iran, Islamic Rep. of 55% of average wage 6–50n.a.n.a.n.a.n.a.n.a.20n.a.n.a.—— Iraqn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—
Table 1.(Continued) Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Jamaican.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——16— Jordann.a.n.a.n.a.n.a.n.a.n.a.n.a.20n.a.n.a.15— Kazakhstann.a.n.a.n.a.n.a.n.a.n.a.n.a.1n.a.n.a.12.740 Latvia90%6n.a.n.a.n.a.n.a.n.a.1——16— Lithuania50%6n.a.n.a.n.a.n.a.n.a.24——15— Macedonia, FYR
40%–50%24n.a.n.a.n.a.n.a.n.a.10——33.4— Moroccon.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——19.8— Papua New Guinea
n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Paraguayn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.8.2— Perun.a.n.a.n.a.n.a.Lump sum8% + 0120.807.654.6 Philippinesn.a.n.a.n.a.n.a.n.a.n.a.n.a.200—8.630.6 Romania50%–55%930%18n.a.n.a.n.a.n.a.——6.842.7 Russian Federation
45%–75%n.a.n.a.n.a.n.a.n.a.n.a.1——11.542.2 South Africa45%6n.a.n.a.n.a.n.a.n.a.5——21.2— Sri Lankan.a.n.a.n.a.n.a.n.a.n.a.n.a.20——11.331.3 Swazilandn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— (Continued)
Table 1.(Continued) Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Syrian Arab Rep.
n.a.n.a.n.a.n.a.n.a.n.a.n.a.17.5n.a.n.a.—— Thailandn.a.n.a.n.a.n.a.n.a.n.a.n.a.10——1.9— Tunisian.a.n.a.Minimum wage
3n.a.n.a.n.a.3n.a.n.a.—57.1 Ukraine35%–60%1275% of minimum wage
6n.a.n.a.n.a.1——9.1— Uzbekistan50%6n.a.n.a.n.a.n.a.n.a.2——0.4— Yugoslavia, Fed. Rep. (Serbia/ Montenegro)
n.a.n.a.70%3–30n.a.n.a.n.a.4———— Upper-middle-income countries Argentina60%4–12n.a.n.a.Lump sum (available only in construction) 12% (8% after first year) + 0
106.4—15.9— Botswanan.a.n.a.n.a.n.a.310.2—21.5— Brazil50%6–11n.a.n.a.Lump sum, plus 40% of individual’s pre- unemployment wage if not dismissed for “just cause”)
8% + 06——7.949.2
Table 1.(Continued) Unemployment InsuranceaUnemployment AssistanceaUnemployment Insurance Savings Accounts Severance Payb (Benefits After 20 Years of Service)
Public WorkscReference Variables Country
Replacement Rate (Percent of Individual’s Pre-unemployment Wage where not Indicated Otherwise) Maximum Duration (Months)Replacement Rate Maximum Duration (Months) Replacement Rate (Percent of Individual’s Pre-unemployment Wage)Potential Duration Contribution Rate (Employer + Worker Obligation)Participation Rates Expenditure as Percent of GDPUnemployment Rated
Share of Informal Employmente Chilen.a.n.a.n.a.n.a.30–50%5 months
2.4% + 0.6%
117.7—6.540 Croatia60%–80%2.5–1016% of average wage (in 2001)
—n.a.n.a.n.a.10——11.270 Czech Republic40%–50%6n.a.n.a.n.a.n.a.n.a.20.205.6— Estonian.a.n.a.$236n.a.n.a.n.a.4—010.2— Gabonn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Hungary65%9–12Flat9n.a.n.a.n.a.52.20.28.7— Korea, Rep. of50%3–8n.a.n.a.n.a.n.a.n.a.205.2—3.9— Lebanonn.a.n.a.n.a.n.a.n.a.n.a.n.a.10——8.6— Libyan.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Malaysian.a.n.a.n.a.n.a.n.a.n.a.n.a.12——2.9— Mauritiusn.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.——9.8— Mexicon.a.n.a.n.a.n.a.n.a.n.a.n.a.17.44.40.53.7— Omann.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.n.a.—— Panaman.a.n.a.n.a.n.a.Lump sum—50.7—13.4— PolandFlat, 23% of average wage (in 2001)
6–18n.a.n.a.n.a.n.a.n.a.n.a.0.70.112— Saudi Arabian.a.n.a.n.a.n.a.n.a.17.5n.a.n.a.—— (Continued)
