DP7333 A Positive Theory of Unemployment Insurance and Employment Protection

Author(s): Vincent Anesi , Philippe De Donder

Publication Date: June 2009

Keyword(s): bidimensional voting , citizen-candidate , flexicurity , labor market rigidities , party competition

JEL(s): D72 , J65 , J68

Programme Areas: Labour Economics

Link to this Page: www.cepr.org/pubs/dps/DP7333.asp.asp

The objective of this paper is to provide a political economy explanation of the empirically observed negative correlation between employment protection and insurance. We study an economy composed of four groups of agents (capitalists, unemployed people, low- and high-skilled workers), each one represented by a politician. Politicians first form political parties and then compete in a winner-takes-all election by simultaneously proposing policy bundles composed of an employment protection level and an unemployment benefit. We first show that, in the absence of parties (i.e., in a citizen-candidate model), low-skilled workers are decisive and support a maximum employment protection level together with some unemployment benefit. We then obtain that, under some conditions, allowing for party formation results in all policy equilibria being in the Pareto set of the coalition formed by high-skilled workers together with unemployed people. Policies in this Pareto set exhibit a negative correlation between employment protection and unemployment benefit.