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Labor Market Institutions and the Cost of Recessions

Tom Krebs () and Martin Scheffel ()
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Martin Scheffel: University of Cologne

No 10442, IZA Discussion Papers from Institute for the Study of Labor (IZA)

Abstract: This paper studies the effect of two labor market institutions, unemployment insurance (UI) and job search assistance (JSA), on the output cost and welfare cost of recessions. The paper develops a tractable incomplete-market model with search unemployment, skill depreciation during unemployment, and idiosyncratic as well as aggregate labor market risk. The theoretical analysis shows that an increase in JSA and a reduction in UI reduce the output cost of recessions by making the labor market more fluid along the job finding margin and thus making the economy more resilient to macroeconomic shocks. In contrast, the effect of JSA and UI on the welfare cost of recessions is in general ambiguous. The paper also provides a quantitative application to the German labor market reforms of 2003- 2005, the so-called Hartz reforms, which improved JSA (Hartz III reform) and reduced UI (Hartz IV reform). According to the baseline calibration, the two labor market reforms led to a substantial reduction in the output cost of recessions and a more moderate reduction in the welfare cost of recessions in Germany.

Keywords: labor market institutions; cost of recessions; german labor market reform (search for similar items in EconPapers)
JEL-codes: E21 E24 D52 J24 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-dge and nep-mac
Date: 2016-12
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