U.S. Should Try Germany's Unemployment Medicine

As the U.S. unemployment rate surged to 10.2 percent in October, economists scratched their heads and puzzled over the job-creation failure of the biggest stimulus package in the nation's history. Across the Atlantic in Germany, policy makers were high-fiving as their unemployment rate unexpectedly ticked lower for a second time after peaking at 8.3 percent in June and July.

While economic differences can be difficult to explain, the remarkable resilience of the German labor market is clearly and directly attributable to a specific economic policy. German policy makers have been innovative and clever. The Germans have discovered a secret medicine that can cure unemployment, or at least minimize its spread. Americans would do well to take some.

The Germans have discovered a secret medicine that can cure unemployment, or at least minimize its spread.

The policy in question is called "Kurzarbeit," which translates approximately as "short work." Firms that face a temporary decrease in demand avoid shedding employees by cutting hours instead. If hours and wages are reduced by 10 percent or more, the government pays workers 60 percent of their lost salary. This encourages firms to use across-the-board reductions of hours instead of layoffs.

Here's how the program works.

A firm facing the challenges of the recession cuts Angela's hours from 35 to 25 per week, thus reducing her weekly salary to 714 euros from 1,000 euros. Angela does not work for the firm during those hours. As part of its short-work program, the government now pays Angela 171 euros--60 percent of her lost salary. Most important, she still has a job. Effectively, the government is giving her unemployment insurance for the 10 hours a week that she is not employed.

Economic Case

The economic argument in favor of such a policy is powerful.

When a recession strikes, firms are faced with a dilemma: sales and profits are down, and many workers are idle. But finding skilled workers is costly and time-consuming, involving large fixed costs. If a firm fires workers, it may incur large hiring and training costs when the recession ends and sales turn back up. Thus, a firm would prefer, all else equal, to hoard labor during a recession.

Firms might well prefer to respond to a 20 percent cut in sales by reducing everyone's work by 20 percent. That way, employees remain part of the firm, and ramping up production is less costly down the road.

A number of factors discourage American firms from making that choice. The biggest is government policy. If a firm lays off workers, the government mails the unemployed a check. If the firm reduces work-hours, there is no government assistance, and employees are left to face the entire decrease in wages on their own.

Keep Team Intact

A U.S. program based on Germany's would be attractive to firms, workers and taxpayers.

It would subsidize firms as they hoard labor, enabling them to keep the best parts of their team even when sales dip. As the economy expands, firms will then be able to expand rapidly too, without sinking tons of time and resources into costly search.

For workers, having a part-time job is vastly preferable to being unemployed. Showing up at work every day, even for shorter hours, keeps them in contact with the labor force, making it much easier to search for alternative employment. Plus their income would likely be higher than if they were let go and living off unemployment insurance alone.

For the government, supporting a worker whose hours are reduced would be less costly than trying to replace the entire lost salary. Moreover, fewer workers would be stigmatized by being laid off, significantly reducing the chances that long- term unemployment skyrockets. The faster recovery that results should push government revenue up sooner as well.

U.S. Work-Sharing

In the U.S., this sort of hour-trimming is most commonly known as work-sharing, and 17 states utilize it in some form to make up part of employees' reduced wages. But few companies are participating, mostly because the government's contribution is not large enough to make work-sharing attractive.

If the U.S. is to share in the labor-market success of its German friends, it needs a significant expansion of subsidies for work-sharing. Compared with the $787 billion economic stimulus, the costs would be low.

The German program so far this year has cost a measly $2.85 billion. Adjusting for the larger U.S. population, that suggests the U.S. could fully copy the German system for $10.6 billion--about one-seventieth the cost of the stimulus.

It is not too late to adopt and expand work-sharing. This recession would have been far less harmful to workers if we had adopted aggressive job-sharing sooner, but job destruction must be slowed before job creation can be the headline story.

Work-sharing would do the trick. The sad fact is, the labor market is still bleeding jobs. German medicine might help.

Kevin A. Hassett is a senior fellow and the director of economic policy studies at AEI.

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