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An Adverse Selection Model of Optimal Unemployment Insurance

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  • Marcus Hagedorn
  • Ashok Kaul
  • Tim Mennel

Abstract

We ask whether offering a menu of unemployment insurance contracts is welfare improving in a heterogeneous population. We adopt a repeated moral-hazard framework as in Shavell/Weiss (1979) supplemented by unobserved heterogeneity about agents’ job opportunities. Our main theoretical contribution is an analytical characterization of the sets of jointly feasible entitlements that renders an efficient computation of these sets feasible. Our main economic result is that optimal contracts for ”bad” searchers tend to be upward-sloping due to an adverse-selection effect. This is in contrast to the well-known optimal decreasing time-profile of benefits in pure moral hazard environments that continue to be optimal for ”good” searchers in our model.

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Paper provided by Institute for Empirical Research in Economics - University of Zurich in its series IEW - Working Papers with number 237.

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Handle: RePEc:zur:iewwpx:237

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Keywords: Unemployment Insurance; Recursive Contracts; Adverse Selection; Repeated Moral Hazard;

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  1. Thomas, Jonathan & Worrall, Tim, 1990. "Income fluctuation and asymmetric information: An example of a repeated principal-agent problem," Journal of Economic Theory, Elsevier, Elsevier, vol. 51(2), pages 367-390, August.
  2. Steven Shavell & Laurence Weiss, 1978. "The Optimal Payment of Unemployment Insurance Benefits over Time," Cowles Foundation Discussion Papers, Cowles Foundation for Research in Economics, Yale University 503, Cowles Foundation for Research in Economics, Yale University.
  3. Gilles Joseph & Thomas Weitzenblum, 2003. "Optimal Unemployment Insurance: Transitional Dynamics vs. Steady State," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 6(4), pages 869-884, October.
  4. Fredriksson, Peter & Holmlund, Bertil, 2003. "Improving incentives in unemployment insurance: A review of recent research," Working Paper Series, IFAU - Institute for Evaluation of Labour Market and Education Policy 2003:5, IFAU - Institute for Evaluation of Labour Market and Education Policy.
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  19. Marcus Hagedorn & Ashok Kaul & Tim Mennel, 2007. "An Adverse Selection Model of Optimal Unemployment Insurance," IEW - Working Papers, Institute for Empirical Research in Economics - University of Zurich 315, Institute for Empirical Research in Economics - University of Zurich.
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Citations

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Cited by:
  1. Jean-Olivier Hairault & François Langot & Sébastien Ménard & Thepthida Sopraseuth, 2012. "Optimal Unemployment Insurance for Older Workers," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) hal-00668989, HAL.
  2. Hagedorn, Marcus & Kaul, Ashok & Mennel, Tim, 2002. "An adverse selection model of optimal unemployment insurance," ZEI Working Papers B 30-2002, ZEI - Center for European Integration Studies, University of Bonn.
  3. David Fuller, 2008. "Adverse Selection and Moral Hazard: Quanitative Implications for Unemployment Insurance," 2008 Meeting Papers 889, Society for Economic Dynamics.
  4. Anne Bucher & Sébastien Ménard, 2010. "Employment Protection Legislation and Adverse Selection at the Labor Market Entry," Working Papers halshs-00812099, HAL.
  5. Hairault, Jean-Olivier & Langot, François & Ménard, Sébastien & Sopraseuth, Thepthida, 2009. "Optimal Unemployment Insurance for Older Workers," IZA Discussion Papers 4071, Institute for the Study of Labor (IZA).
  6. Tobias Laun, 2012. "Optimal Social Insurance with Endogenous Health," 2012 Meeting Papers, Society for Economic Dynamics 438, Society for Economic Dynamics.
  7. O'Flaherty, Brendan, 2009. "When should homeless families get subsidized apartments? A theoretical inquiry," Journal of Housing Economics, Elsevier, Elsevier, vol. 18(2), pages 69-80, June.
  8. Arpad Abraham & Nicola Pavoni, 2008. "Efficient Allocations with Moral Hazard and Hidden Borrowing and Lending: A Recursive Formulation," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(4), pages 781-803, October.

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