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Labor-market Frictions, Incomplete Insurance and Severance Payments

Listed author(s):
  • Etienne Lalé

    ()

We analyze the effects of mandated severance payments in an economy with search and matching in the labor market, risk-averse individuals and imperfect insurance against shocks. Our model emphasizes a tension between efficient worker-firm bargains and consumption smoothing: a well-designed contract dictates a downward shift in entry wages to offset expected severance payments, and thus goes against having a smooth consumption path. As a result, we find that severance payments produce mostly negative welfare effects. There are large allocation and welfare effects in the absence of savings which limits the response of wages to severance payments. With savings, the impact on equilibrium allocations is considerably dampened, but the welfare losses remain substantial.

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File URL: http://www.efm.bris.ac.uk/economics/working_papers/pdffiles/dp16648.pdf
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Paper provided by Department of Economics, University of Bristol, UK in its series Bristol Economics Discussion Papers with number 14/648.

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Length: 32 pages
Date of creation: Nov 2014
Date of revision: 16 Aug 2016
Handle: RePEc:bri:uobdis:14/648
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  1. Mortensen, Dale & Pissarides, Christopher, 2011. "Job Creation and Job Destruction in the Theory of Unemployment," Economic Policy, Russian Presidential Academy of National Economy and Public Administration, vol. 1, pages 1-19.
  2. Giuseppe Bertola, 2004. "A Pure Theory of Job Security and Labour Income Risk," Review of Economic Studies, Oxford University Press, vol. 71(1), pages 43-61.
  3. Fella Giulio & Tyson Christopher J., 2013. "Privately optimal severance pay," The B.E. Journal of Macroeconomics, De Gruyter, vol. 13(1), pages 1-39, October.
  4. Burda, Michael C, 1992. " A Note on Firing Costs and Severance Benefits in Equilibrium Unemployment," Scandinavian Journal of Economics, Wiley Blackwell, vol. 94(3), pages 479-489.
  5. Alain Delacroix & Etienne Wasmer, 2009. "Layoff Costs and Efficiency with Asymmetric Information," Sciences Po publications info:hdl:2441/5l6uh8ogmqi, Sciences Po.
  6. Fabien Postel‐Vinay & Hélène Turon, 2014. "The Impact of Firing Restrictions on Labour Market Equilibrium in the Presence of On‐the‐job Search," Economic Journal, Royal Economic Society, vol. 124(575), pages 31-61, 03.
  7. Adriana D. Kugler & Gilles Saint-Paul, 2004. "How Do Firing Costs Affect Worker Flows in a World with Adverse Selection?," Journal of Labor Economics, University of Chicago Press, vol. 22(3), pages 553-584, July.
  8. Gilles Saint-Paul, 1995. "The High Unemployment Trap," The Quarterly Journal of Economics, Oxford University Press, vol. 110(2), pages 527-550.
  9. Fella, Giulio, 2007. "When do firing taxes matter?," Economics Letters, Elsevier, vol. 97(1), pages 24-31, October.
  10. Edward P. Lazear, 1990. "Job Security Provisions and Employment," The Quarterly Journal of Economics, Oxford University Press, vol. 105(3), pages 699-726.
  11. Ljungqvist, Lars & Sargent, Thomas J., 2007. "Understanding European unemployment with matching and search-island models," Journal of Monetary Economics, Elsevier, vol. 54(8), pages 2139-2179, November.
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