Financial Frictions and Un(der)employment Insurance

Marco Brianti and Tzuo Hann Law
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Tzuo Hann Law: Boston College

No 1303, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: We study the effects of unemployment insurance (UI) and underemployment insurance (EI) in a general equilibrium model of search and matching featuring financial frictions and risk-averse workers. Equilibrium is inefficient because the market insures risk-averse workers through low-unemployment and low-wage jobs. Additionally, our model features underemployment risk which manifests in two ways. First, employed workers inefficiently separate because firms cannot retain workers due to financial frictions. Second, employed workers face wage uncertainty. Underemployment risk further lowers capital utilization. UI alleviates unemployment risk but exacerbates underemployment risk. EI is required to restore efficiency even when workers are risk neutral. UI and EI together restore efficiency when workers are risk averse.

Date: 2018
New Economics Papers: this item is included in nep-dge and nep-ias
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