We provide a theoretical microfoundation for the negative relationship between firing costs and labor market tightness and its effects on labor market performance. The optimal level of firing costs is chosen by the employed worker -- i.e. the insider -- by maximizing her human capital....

We use a matching framework to explore the hypothesis that firing costs are a decreasing function of labor market tightness. Conventional wisdom suggests that differences in employment protection legislation (EPL) cause differences in labor market performance. Our hypothesis suggests a reverse...