@article{f576c34a3c484c61bc7a6596d388d12d,
title = "Consumption commitments and employment contracts",
abstract = "We examine an economy in which the cost of consuming some goods can be reduced by making commitments that reduce flexibility. We show that such consumption commitments can induce consumers with risk-neutral underlying utility functions to be risk averse over small variations in income, but sometimes to seek risk over large variations. As a result, optimal employment contracts will smooth wages conditional on being employed, but may incorporate a possibility of unemployment.",
author = "Andrew Postlewaite and Larry Samuelson and Dan Silverman",
note = "Funding Information: Now fix β and κ sufficiently small that the consumer makes commitments and hold β fixed while letting κ decrease. As κ and γ get small, U/f′(n2) is bounded (because the firm optimally sets f′(n2) ≥ β, to ensure the feasibility of dUdU consumptioncommitments)whiledw1+dw2approachesinfinity(becausesmallκallowsincreasesinw2toyieldever larger increases in yˆ, the marginal utility of which remain large as γ gets small). Noting that θ is by assumption bounded awayfrom0,theinequality(andcontradiction)thusholdsifα−w1/f′(n2)ispositiveandboundedawayfrom0.Itis positive by (the counterpart for the two-period model of) Lemma 3. We then note that w1/f′(n2) approaches 1, for fixed β and κ, as γ gets small and ζ and ψ get large, since in the limit increments in the state-1 wage are worthless. We then need only set γ sufficiently small and ζ and ψ sufficiently large.18 ‖ Acknowledgements. We thank Andy Abel, Jesus Fernandez-Villaverde, and Richard Rogerson for helpful conversations and two referees for a number of constructive suggestions. We also thank the National Science Foundation for financial support.",
year = "2008",
month = apr,
doi = "10.1111/j.1467-937X.2008.00472.x",
language = "English (US)",
volume = "75",
pages = "559--578",
journal = "Review of Economic Studies",
issn = "0034-6527",
publisher = "Oxford University Press",
number = "2",
}