Labor Market Screening and Social Insurance Program Design for the Disabled

Abstract

We evaluate social insurance program designs for the disabled by empirically implementing a frictional labor market model with screening employment contracts. In the model, firms post a screening contract consisting of wage and job amenities, and workers with different levels of disability make labor supply decisions. We first theoretically analyze the optimal structure of disability insurance (DI) and firm subsidies for hiring the disabled. Then, by exploiting policy variation in hiring subsidies for the disabled, we empirically examine which job amenities may be used by firms to screen out the disabled, and we structurally estimate our equilibrium model. Using the estimated model, we quantitatively explore the optimal joint design of DI and firm subsidies for employing disabled workers. We find a welfare improving role of firm subsidies that encourage firms to provide more job amenities, mitigating the labor supply disincentives of DI and labor market distortions induced by firms screening contracts. Finally, we show that the presence of a firm's screening incentive significantly affects the effectiveness of the policies: the optimal level of DI should be higher to ameliorate contract distortions caused by the firm's screening activities.