I develop a theoretical framework that determines the optimal design of disability insurance by explicitly incorporating employer behavior. Standard analyses balance insurance benefits against
workers’ labor supply incentives, but I account for a novel type of firm-side moral hazard: because employers do not bear the costs of workers’ disability insurance, they may underprovide accommodation. This framework allows me not only to identify the optimal level of experience rating, a policy linking firms’ disability insurance contributions to disability costs of their employees, but also to show how the standard optimal policy levels of DI eligibility and benefit generosity are altered when firm behavior is endogenized.