Dual Labor Markets and Labor Protection in an Estimated Search and Matching Model
Temporary contracts, as well as labor protection, have been used to reduce unemployment with the latter leading to fewer job destructions. This paper estimates a search and matching model with labor protection and dual labor markets in which the use of temporary contracts is endogenous. Chilean data is used to evaluate the role of labor protection legislation and the use of temporary contracts in unemployment, welfare, and inequality. Results indicate that both types of contracts survive in equilibrium. Temporary contracts negatively affect the frequency with which regular jobs arrive, offsetting any positive effect of firing costs on unemployment. Temporary contracts increase flexibility but welfare gains are observed only if labor protection is very stringent.