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Uncertainty, Unemployment Insurance, Individual’s Optimal Stopping Time and Duration of Unemployment

  • Tan Wang

    (Sauder School of Business, Finance Division, University of British Columbia, Canada)

  • Tony S. Wirjanto

    ()

    (School of Accounting & Finance and Department of Statistics & Actuarial Science, University of Waterloo, Canada)

Building on the tools developed for American call options in financial markets and the optimal timing of investment under uncertainty in economics, this paper proposes a stylized equilibrium model to study the optimal time for a risk-averse unemployed individual, who receives an unemployment insurance benefit and may receive a recall from the old job, to exit from a waiting (and hence unemployment) state and start a new job. It is shown that as a result of the individual’s exercising the optimal timing strategy, there is a duration of “waiting” and that this duration is affected by a number of economic factors, prominent among which are uncertainty on the part of the unemployed individual and the attitude of this individual toward risk.

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Paper provided by The Rimini Centre for Economic Analysis in its series Working Paper Series with number 31_13.

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Date of creation: May 2013
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Handle: RePEc:rim:rimwps:31_13
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  1. Pindyck, Robert S, 1991. "Irreversibility, Uncertainty, and Investment," Journal of Economic Literature, American Economic Association, vol. 29(3), pages 1110-48, September.
  2. Dale T. Mortensen, 1977. "Unemployment insurance and job search decisions," Industrial and Labor Relations Review, ILR Review, Cornell University, ILR School, vol. 30(4), pages 505-517, July.
  3. Lucas, Robert Jr. & Prescott, Edward C., 1974. "Equilibrium search and unemployment," Journal of Economic Theory, Elsevier, vol. 7(2), pages 188-209, February.
  4. Albrecht, James W & Axell, Bo, 1983. "An Equilibrium Model of Search Unemployment," Working Paper Series 99, Research Institute of Industrial Economics.
  5. Avinash Dixit, 1992. "Investment and Hysteresis," Journal of Economic Perspectives, American Economic Association, vol. 6(1), pages 107-132, Winter.
  6. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-69, July.
  7. Lawrence F. Katz, 1986. "Layoffs, Recall and the Duration of Unemployment," NBER Working Papers 1825, National Bureau of Economic Research, Inc.
  8. Tan Wang & Tony Wirjanto, 1997. "The Role of Risk Aversion and Uncertainty in Individual's Migration Decision," Working Papers 98003, University of Waterloo, Department of Economics, revised Nov 1997.
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