Economic Report of the President

ship between incomplete experience rating and employment instability.Most States use experience rating to some extent, in that some employerscontribute to the State unemployment compensation fundpartially on the basis of the unemployment experience of their ownemployees. The degree of experience rating is highly imperfect,however, for two reasons.First, a significant share of benefits paid are not directly charged tofirms, but rather, are spread across all the firms in a State. These includebenefits paid to job leavers, benefits to employees of firms nolonger doing business in a State, and allowances for dependents. Extendedbenefits, which are available in high unemployment States toworkers who have exhausted their regular unemployment insurance,are also not directly charged to employers.Second, employer contributions are limited by minimum and maximumtax rates. Firms stuck at the maximum or minimum tax rateswill find that their tax rates do not change even if the unemploymentexperience of their workers is altered. As a consequence they face reducedeconomic incentives to smooth employment fluctuations.One measure of the extent of experience rating is the proportionof benefits received that are not effectively charged to theformer employer. A value of 100 percent represents perfect experiencerating. A recent study of nine States over the period 1971-1978found that on average, less than 60 percent of total benefits were experiencerated, by this definition. The degee of experience rating fellto 47.5 percent during the 1975 recession and reached a high of 62.6percent in 1978, a year with relatively low unemployment.The problem of imperfect experience rating has been partially remediedby a provision of the Tax Equity and Fiscal ResponsibilityAct of 1982 which raised the federally proscribed lower bound onState maximum unemployment insurance tax rates from 2.7 percentto 5.4 percent of employers' taxable payroll. Because of this change,fewer firms are likely to face the maximum tax rate.CONCLUSIONSThe dual problems of cyclical and structural unemployment areboth extremely serious. Increased unemployment during cyclicaldownturns, and the high levels of unemployment that prevail evenafter the economy recovers, impose large costs on the unemployedand the economy as a whole. Fortunately, both can be ameliorated byprudent public policy. Sound macroeconomic policies will avoid recurrencesof the rising inflation of the 1970s and subsequent in-49