In this paper, the authors present a matching model with adverse selection that explains
why flows into and out of unemployment are much lower in Europe compared to North
America, while employment-to-employment flows are similar in the two continents.
In the model, firms use discretion in terms of whom to fire and, thus, low quality
workers are more likely to be dismissed than high quality workers. Moreover, as hiring
and firing costs increase, firms find it more costly to hire a bad worker and, thus,
they prefer to hire out of the pool of employed job seekers rather than out of the
pool of the unemployed, who are more likely to turn out to be 'lemons'. In the research
they use microdata for Spain and the U.S. and find that the ratio of the job finding
probability of the unemployed to the job finding probability of employed job seekers
was smaller in Spain than in the U.S. Furthermore, using U.S. data, Adriana D. Kugler
and Gilles Saint-Paul found that the discrimination of the unemployed increased over
the 1980's in those states that raised firing costs by introducing exceptions to
the employment-at-will doctrine.
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