Efficient Unemployment Insurance

Abstract

This paper constructs a tractable general equilibrium model of search with risk aversion. An increase in risk aversion reduces wages, unemployment, and investment. Unemployment insurance has the opposite effect: insured workers seek high‐wage jobs with high unemployment risk. An economy with risk‐neutral workers achieves maximal output without any unemployment insurance, but an economy with risk‐averse workers requires a positive level of unemployment insurance to maximize output. Therefore, moderate unemployment insurance not only improves risk sharing but also increases output.