Document Type

Working Paper

Publication Date


Working Paper Number

WP #06042, December 2006; Old working paper #12704


In a dynamic model of the labor market with moral hazard, equilibrium layoff is modeled as termination of an optimal long-term contract. Termination, together with compensation (current and future), is used as an incentive device to induce worker efforts. I then use the model to study analytically the effects of a firing tax on termination and worker compensation and utility. There are three layers to the impact of a firing tax on layoff and worker utility. A higher firing tax could either reduce aggregate termination and increase worker utility, or increase aggregate termination and reduce worker utility, depending on the structure of the environment.

JEL Classification

E20, J41, J63

File Format



36 pages

File Function

This version: November 2006 (First draft: November 2004)

Included in

Economics Commons