The most common forms of government-mandated job displacement insurance are Severance Pay (SP; lump-sum payments at layoff) and Unemployment Insurance (UI; periodic payments contingent on non-employment). While there is a vast literature on UI, SP programs have received much less attention, even though they are prevalent across countries and more common than UI schemes in developing countries. In particular, little is known about the insurance value they provide to displaced workers, which relies critically on workers’ ability to “dis-save” their lump-sum amount optimally after layoff. This paper contributes to filling this gap. We follow a standard approach in the UI literature that evaluates workers’ need for insurance and the insurance value of various policies by studying workers’ ability to smooth consumption after layoff. We take advantage of a rare combination of high-frequency expenditure data and matched employee-employer data for more than 400,000 workers over five years in the state of Sao Paulo, Brazil. This is a rich empirical setting in which displaced workers are eligible for both UI and SP, with variation in benefits across workers that we can exploit. We find that workers increase consumption at layoff by 35% despite experiencing a long-term consumption loss of 17% when they stop receiving any benefits. We use the word “consumption” because these patterns are robust across expenditure categories, and are not driven by durable goods. The long-term loss is comparable to estimates from other papers that study UI programs, despite the high labor market informality in our setting. In contrast, the increase in consumption at layoff is unique to this paper and the presence of SP. It is larger for workers eligible for higher SP amounts, it is large across worker groups and realized non-formal-employment durations, but it is not found for workers ineligible for any benefits who experience a sharp and persistent drop in consumption at layoff. Using administrative data on UI payments, we also find that workers spend 20% more in the week they receive their monthly UI paycheck. In addition, they fail to smooth consumption in anticipation of the (expected) drop in income at UI exhaustion, which is associated with a 10% drop in consumption. These results highlight the importance of the different “disbursement” policy between SP and UI – beyond their different “contingency” policy – when consumption is highly sensitive to the timing of benefit payment, and shed new light on the need for job displacement insurance in a context of high informality.

Paper available here: www.dropbox.com/s/3v0rpkkk51gcl0m/consumption-SP-UI.pdf?dl=0

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