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Consumption Commitments and Employment Contracts, Fourth Version

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Author Info

  • Andrew Postlewaite

    ()
    (Department of Economics, University of Pennsylvania)

  • Larry Samuelson

    ()
    (Department of Economics, University of Wisconsin and Yale University)

  • Dan Silverman

    ()
    (Department of Economics, University of Michigan)

Abstract

We examine an economy in which the cost of consuming some goods can be reduced by making commitments that reduce flexibility. We show that such consumption commitments can induce consumers with risk-neutral underlying utility functions to be risk averse over small variations in income, but sometimes to seek risk over large variations. As a result, optimal employment contracts will smooth wages conditional on being employed, but may incorporate a possibility of unemployment.

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Bibliographic Info

Paper provided by Penn Institute for Economic Research, Department of Economics, University of Pennsylvania in its series PIER Working Paper Archive with number 07-020.

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Length: 32 pages
Date of creation: 07 Dec 2006
Date of revision: 09 Jul 2007
Handle: RePEc:pen:papers:07-020

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Keywords: Unemployment; consumption commitments; optimal contracts;

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References

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  1. Stephen H. Shore & Todd Sinai, 2005. "Commitment, Risk, and Consumption: Do Birds of a Feather Have Bigger Nests?," NBER Working Papers 11588, National Bureau of Economic Research, Inc.
  2. Azariadis, Costas, 1975. "Implicit Contracts and Underemployment Equilibria," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 83(6), pages 1183-1202, December.
  3. Raj Chetty & Adam Szeidl, 2004. "Consumption Commitments: Neoclassical Foundations for Habit Formation," NBER Working Papers 10970, National Bureau of Economic Research, Inc.
  4. Akerlof, George A & Miyazaki, Hajime, 1980. "The Implicit Contract Theory of Unemployment Meets the Wage Bill Argument," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 47(2), pages 321-38, January.
  5. Raj Chetty & Adam Szeidl, 2006. "Consumption Commitments and Risk Preferences," NBER Working Papers 12467, National Bureau of Economic Research, Inc.
  6. Baily, Martin Neil, 1974. "Wages and Employment under Uncertain Demand," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 41(1), pages 37-50, January.
  7. Ellingsen, Tore & Holden, Steinar, 1995. "Sticky Consumption and Rigid Wages," Working Paper Series in Economics and Finance, Stockholm School of Economics 62, Stockholm School of Economics.
  8. Ellingsen, Tore & Holden, Steinar, 1997. "Indebtedness and Unemployment: A Durable Relationship," Working Paper Series in Economics and Finance, Stockholm School of Economics 186, Stockholm School of Economics.
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