March 21, 2006
Alvarez on Fixed-Term Employment Contracts
University of Chicago economist Fernando Alvarez has a new paper looking at the growing use of fixed term employment contracts as a way of dealing with high employment-protection legal regimes. It's called Fixed Term Employment Contracts in an Equilibrium Search Model. Here's the abstract:
Fixed term employment contracts have been introduced in a number of European countries as a way to provide flexibility to economies with high employment protection levels. We introduce these contracts into the equilibrium search model in Alvarez and Veracierto (1999), a version of the Lucas and Prescott island model, adapted to have undirected search and variable labor force participation. We model a contract of length J as a tax on separations of workers with tenure higher than J. We show a version of the welfare theorems, and characterize the efficient allocations. This requires solving a control problem, whose solution is characterized by two dimensional inaction sets. For J = 1 these contracts are equivalent to the case of firing taxes, and for large J they are equivalent to the laissez-faire case. In a calibrated version of the model, we evaluate to what extent contract lengths similar to those observed in Europe, close the gap between these two extremes.
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