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Do Labor Market Conditions Affect the Strictness of Employment Protection Legislation?Riccardo TilliDepartment of Public Economics, Sapienza - University of Rome Enrico SaltariUniversity of Rome I - Department of Public Economics March 17, 2009 Economics Bulletin, Vol. 10, No. 4, pp. 1-9, March 2008 Abstract: We provide a theoretical microfoundation for the negative relationship between firing costs and labor market tightness and its effects on labor market performance. The optimal level of firing costs is chosen by the employed worker -- i.e. the insider -- by maximizing her human capital. Performing a comparative statics exercise, we analyze the effects of labor market tightness on the optimal choice of firing costs. The results are clear cut and allow to obtain a decreasing firing costs function in the labor market tightness. Moreover, we show that this negative relationship can give rise to a labor market configuration characterized by multiple equilibria: prolonged average duration of unemployment will produce a labor market with low flows and high strictness of employment protection, and vice versa.
Keywords: Firing Costs, Multiple Equilibria JEL Classification: J64, J65 Accepted Paper SeriesDate posted: March 18, 2009Suggested CitationContact Information
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