Subsidization and Stabilization: Optimal Employment Policy under Aggregate Uncertainty
Author(s)
Puhakka, Mikko; Wright, Randall
Abstract
An economy in which externalities provide an explicit role for intervention and technology shocks generate aggregate uncertainty is studied. Laissez-faire is inefficient in the model; it involves too much unemployment. The optimal allocation can always be supported as a decentralized equilibrium using a self-financing linear employment subsidy. Generally, this subsidy is a function of economic conditions; the way in which it varies with the shock is characterized. A special case of the results indicates that a simple restriction on technology – homotheticity – implies that the optimal subsidy is constant, or independent of unemployment. The homotheticity result is appealing in that a constant subsidy may be relatively easily implemented, economizing on information processing and administrative costs that are likely to be important in the real world.
