Is it illegal to give someone free hours of work just so they could get employment insurance?

There is something missing in your observation: People don't just get to earn unemployment benefits because they work and get a paycheck. They earn it because part of their wages are deducted and added to the fund. The employer adds money to that fund also. So... your uncle giving the friend a paycheck and then getting the money back in cash means that no money was ever paid into the fund or else it means only your uncle is paying into the fund the "friend' is able to take unemployment from that fund when he quits? Somehow that does not make sense. They can exchange checks for cash as long as they want that does not mean any money is paid into unemployment and all the other taxes and nothing is happening and the friend is not getting any unemployment benefits. looks to me as if your uncle isn't too happy about your snooping and is feeding you a story so you don't find out what is really going on between your uncle and his 'friend".