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OUTPUT STABILIZATION PROPERTIES of a EUROPEAN UNEMPLOYMENT BENEFIT SCHEME: WHAT IS KNOWN SO FAR Inês Sofia Alves Oliveira Da Rosa

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OUTPUT STABILIZATION PROPERTIES of a EUROPEAN UNEMPLOYMENT BENEFIT SCHEME: WHAT IS KNOWN SO FAR Inês Sofia Alves Oliveira Da Rosa OUTPUT STABILIZATION PROPERTIES OF A EUROPEAN UNEMPLOYMENT BENEFIT SCHEME: WHAT IS KNOWN SO FAR Inês Sofia Alves Oliveira da Rosa Dissertation Master in Economics Supervised by Álvaro Aguiar 2019 Acknowledgments At the end of this stage, I would like to express my sincere thanks to all those who directly or indirectly contributed to the realization of this dissertation. Firstly, I would like to thank Professor Álvaro Aguiar, my supervisor, for the endless help, availability and patience, as well as for all the constructive criticism and knowledge shared during this process. Secondly, I want to thank my parents, my sister and Pedro, my boyfriend, for always supporting me in achieving my goals and pushing me to be the best version of myself. Finally, I would also like to thank all my colleagues and friends, especially Mafalda de Castro and Rita Reis, for the never-ending patience and support throughout this project. i Abstract The recent Great Recession rekindled the debate over the need for a transfers’ mechanism that allows for output stabilization inside the euro area, namely a European Unemployment Benefit Scheme. This question was firstly analysed in the contexts of the Theory of the Optimum Currency Areas and the Theory of Fiscal Federalism. Several Institutions and academics have since put forward proposals on this scheme as a mean to further increase the stabilization of the euro area, mainly against asymmetric shocks. This dissertation develops a simple common metric that is applied to five proposals in order to assess what is known, so far, about the stabilization capacity of further euro area fiscal integration (minimal fiscal union) in the form of a fiscal-transfers’ stabilizing mechanism, particularly a European Unemployment Benefit Scheme. To address this question, two main objectives are set: to determine (i) how far the studies produced/published so far support the implementation a European Unemployment Benefit Scheme; (ii) what essential elements are still lacking in the studies and therefore need further work in terms of quantification. The core task towards these objectives is to gather, explore and compare the methods and results of the most relevant (both academically and institutionally) economic simulations produced so far about the output stabilization capacity of a Euro Area Unemployment Benefit Scheme. After analysing the results of the simulations, it was concluded that all proposed schemes provide average stabilization to the participating countries, even though some non-dominant procyclical effects can be expected. Additionally, the scheme would work in a more than proportional countercyclical way during a period of more severe recession, as simulated during the Great Recession. Its implementation could, therefore, improve the functioning of the monetary union, in terms of benefits as it is in line with the theories and its desirable characteristics. JEL codes: E24, E61, E62, E63, F15, F45 Keywords: Fiscal Integration, EMU, Stabilization Mechanisms, European Unemployment Benefit Scheme ii Resumo A recente Grande Recessão reacendeu o debate relativamente à necessidade da criação de um sistema de transferências na área euro, com o objetivo de incrementar a estabilização macroeconómica, nomeadamente através de um Sistema de Subsídio de Desemprego Comum Europeu. Esta questão foi primeiramente desenvolvida na Teoria das Zonas Monetárias Ótimas e na Teoria do Federalismo Orçamental. Com o intuito de analisar a capacidade de estabilização macroeconómica de um Sistema de Subsídio de Desemprego Comum Europeu, algumas Instituições e grupos de académicos desenvolveram propostas e simulações. Deste modo, e com o objetivo de analisar e avaliar a capacidade de estabilização macroeconómica deste esquema, foi desenvolvida, nesta dissertação, uma métrica comum, que foi aplicada a cinco propostas de esquemas, com o objetivo de: (i) determinar, até que ponto, os estudos realizados apoiam a implementação deste esquema; (ii) determinar que elementos e fatores estão ausentes nos estudos e necessitam de quantificação. Para atingir estes objetivos será realizada uma análise e comparação da metodologia e resultados das mais importantes simulações empíricas (a nível académico e institucional) relativas à capacidade de estabilização macroeconómica deste esquema. Após a análise dos resultados, conclui-se que todos os sistemas propostos apresentam uma estabilização média contracíclica para os países participantes, ainda que possam ser esperados alguns efeitos procíclicos. Adicionalmente, foi concluído que o esquema funcionaria de forma contracíclica mais do que proporcional durante períodos de recessão mais severa, tal como foi simulado durante a última grande recessão. A implementação deste esquema poderia, portanto, melhorar o funcionamento da união monetária em termos de benefícios, dado que está alinhada com as teorias e características desejáveis do mesmo. Códigos JEL: E24, E61, E62, E63, F15, F45 Palavras-chave: União Económica e Monetária, área euro, Sistema de Subsídio de Desemprego Comum Europeu, Política orçamental iii Index 1. Introduction ............................................................................................................................... 1 1.1. Framework .......................................................................................................................... 1 1.2. Research and objectives .................................................................................................... 3 1.3. Structure .............................................................................................................................. 4 2. The Context of Academic and Institutional Literature on Fiscal Union in the EMU ... 5 2.1 Fiscal Union in the EMU ................................................................................................. 5 2.2 Stabilization Transfer Mechanism in the Euro Area ................................................. 15 2.3 Interactions with Political Union and Banking Union .............................................. 21 3. How to Assess the Stabilizing Properties of the European Unemployment Benefit Scheme .............................................................................................................................................. 23 3.1 Stabilization and Basic Design of the European Unemployment Benefit Scheme 24 3.2 Simulations and Comparison ........................................................................................ 26 3.3 A Common Metric to Compare Stabilization Properties: Uniformization ........... 30 4. Assessing the Stabilizing Performance of the Proposals for a European Unemployment Benefit Scheme ................................................................................................................................ 35 4.1. General Results .................................................................................................................... 35 4.2. Procyclical and Countercyclical effects ............................................................................ 43 4.3. Stabilization effects during the recent Great Recession ................................................ 45 5. Conclusion .................................................................................................................................... 49 6. Bibliographic References ............................................................................................................ 51 Annex ................................................................................................................................................... 1 iv Table Index Table 1: Simplified stages of the papers that propose a European Unemployment Benefit Scheme .............................................................................................................................................. 23 Table 2: Design characteristics of the considered proposals on the European Unemployment Benefit Scheme ................................................................................................................................ 27 Table 3: Contributions and budget neutrality of each proposal ............................................... 29 Table 4: Multiplier effects and stabilization metric of each proposal ...................................... 30 Table 5: Concept of procyclical and countercyclical effects of the common stabilization metric ................................................................................................................................................. 32 Table 6: Interpretation of the stabilization coefficients obtained through the common metric ............................................................................................................................................................ 34 Table 7: Stabilization effects under the common metric ........................................................... 36 Table 8: Analysis of net contributors and net recipients ........................................................... 42 Table 9: Procyclical, neutral and countercyclical effects of the proposals .............................. 44 Table 10: Stabilization effects of the scheme during the recent Great Recession ................. 46 Figure Index Figure 1: Graphic representation of the schemes' simulations ................................................. 39 v 1. Introduction The purpose of this master’s dissertation is to assess the output stabilization properties
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