Labor Unemployment Insurance and Pension Asset Allocations

Abstract

This paper examines the effect of unemployment risk on pension investment decisions of defined benefit (DB) pension plans. In particular, we examine whether unemployment insurance (UI) benefits result in increases in pension investment risk. Using fixed-effects and difference-in-difference analysis, we find evidence that firms take higher pension investment risk by investing more heavily in equities after unemployment insurance benefits increase. These results, which are robust to a number of sensitivity tests, are consistent with the notion that firms undertake more risk when the costs of unemployment decrease. In additional analyses, we find that changes in unemployment risk also affect other pension-related decisions such as earnings management using the expected rate of return on pension plan assets (ERR) and DB plan freezes.