DP2126 Equilibrium Unemployment Insurance

Author(s): John Hassler, José Vicente Rodríguez Mora, Kjetil Storesletten, Fabrizio Zilibotti
Publication Date: April 1999
Keyword(s): Comparative Advantage, Employment, Political Equilibrium, Search, Specialization, Unemployment Insurance
JEL(s): D72, E24, J24, J64, J65
Programme Areas: International Macroeconomics, Labour Economics
Link to this Page: www.cepr.org/active/publications/discussion_papers/dp.php?dpno=2126

In this paper, we incorporate a positive theory of unemployment insurance into a dynamic overlapping generations model with search-matching frictions and on-the-job learning-by-doing. The model shows that societies populated by identical rational agents, but differing in the initial distribution of human capital across agents, may choose very different unemployment insurance levels in a politico-economic equilibrium. The interaction between the political decision about the level of the unemployment insurance and the optimal search behavior of the unemployed gives rise to a self-reinforcing mechanism which may generate multiple steady-state equilibria. In particular, a European-type steady-state with high unemployment, low employment turnover and high insurance can co-exist with an American-type steady-state with low unemployment, high employment turnover and low unemployment insurance. A calibrated version of the model features two distinct steady-state equilibria with unemployment levels and duration rates resembling those of the U.S. and Europe, respectively.