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Consumption and Savings with Unemployment Risk: Implications for Optimal Employment Contracts

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  • Pissarides, Christopher A.

    ()
    (London School of Economics)

Abstract

This paper derives optimal employment contracts when workers are risk averse and there are employment and unemployment risks. Without income insurance, consumption rises during employment and falls during unemployment. Optimal employment contracts offer severance compensation and sometimes give notice before dismissal. Severance compensation smoothes consumption during employment but dismissal delays insure partially against the unemployment risk because of moral hazard. During the delay consumption falls to give incentives to the worker to search for another job. No dismissal delays are optimal if exogenous unemployment compensation is sufficiently generous.

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Bibliographic Info

Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 1183.

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Length: 40 pages
Date of creation: Jun 2004
Date of revision:
Handle: RePEc:iza:izadps:dp1183

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Keywords: employment risk; unemployment risk; severance compensation; notice of dismissal;

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References

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  1. Rasmus Lentz & Torben Tranæs, 2002. "Job Search and Savings: Wealth Effects and Duration Dependence," CAM Working Papers 2004-11, University of Copenhagen. Department of Economics. Centre for Applied Microeconometrics, revised Nov 2003.
  2. Nickell, Stephen & Layard, Richard, 1999. "Labor market institutions and economic performance," Handbook of Labor Economics, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 46, pages 3029-3084 Elsevier.
  3. Gruber, Jonathan, 1997. "The Consumption Smoothing Benefits of Unemployment Insurance," American Economic Review, American Economic Association, vol. 87(1), pages 192-205, March.
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  6. Ljungqvist, Lars & Sargent, Thomas J., 1997. "The European Unemployment Dilemma," Working Paper Series in Economics and Finance 178, Stockholm School of Economics.
  7. Gilles Saint-Paul, 2002. "The Political Economy of Employment Protection," Journal of Political Economy, University of Chicago Press, vol. 110(3), pages 672-701, June.
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  15. Mortensen, Dale T & Pissarides, Christopher A, 1999. "Unemployment Responses to 'Skill-Biased' Technology Shocks: The Role of Labour Market Policy," Economic Journal, Royal Economic Society, vol. 109(455), pages 242-65, April.
  16. Sampson, A A, 1978. "Optimal Redundancy Compensation," Review of Economic Studies, Wiley Blackwell, vol. 45(3), pages 447-52, October.
  17. Jovanovic, Boyan, 1979. "Job Matching and the Theory of Turnover," Journal of Political Economy, University of Chicago Press, vol. 87(5), pages 972-90, October.
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  20. Wang, Cheng & Williamson, Steve, 1996. "Unemployment Insurance with Moral Hazard in a Dynamic Economy," Staff General Research Papers 5088, Iowa State University, Department of Economics.
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  23. Andolfatto, David & Gomme, Paul, 1996. "Unemployment insurance and labor-market activity in Canada," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 44(1), pages 47-82, June.
  24. Azariadis, Costas, 1975. "Implicit Contracts and Underemployment Equilibria," Journal of Political Economy, University of Chicago Press, vol. 83(6), pages 1183-1202, December.
  25. Bertola, Giuseppe, 1999. "Microeconomic perspectives on aggregate labor markets," Handbook of Labor Economics, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 45, pages 2985-3028 Elsevier.
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Citations

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Cited by:
  1. Andersson, Linda, 2008. "Net Taxes,Income Stabilization and Regional Job Flows in Sweden," Working Papers 2008:5, Örebro University, School of Business.
  2. Blanchard, Olivier J & Tirole, Jean, 2007. "The Joint Design of Unemployment Insurance and Employment Protection. A First Pass," CEPR Discussion Papers 6127, C.E.P.R. Discussion Papers.
  3. Giulio Fella, 2007. "Optimal Severance Pay in a Matching Model," Working Papers 07-02, Utrecht School of Economics.
  4. Olivier Blanchard & Jean Tirole, 2004. "The Optimal Design of Unemployment Insurance and Employment Protection. A First Pass," NBER Working Papers 10443, National Bureau of Economic Research, Inc.
  5. Guler, Bulent & Guvenen, Fatih & Violante, Giovanni L., 2012. "Joint-search theory: New opportunities and new frictions," Journal of Monetary Economics, Elsevier, vol. 59(4), pages 352-369.

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