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

  • Pissarides, Christopher A.

    ()

    (London School of Economics)

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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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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