Layoffs in a Recession and Temporary Employment Subsidies when a Recovery is Expected

Sunk firing and hiring costs shelter existent employment. This effect is typically amplified by uncertainty due to an option value of waiting. Thus, if (i) sunk firing costs are high, for example due to an employment protection legislation or due to the loss of firm-specific human capital, or if (ii) (after a future recovery) recruiting a new qualified staff is difficult and recession-related losses are expected to be only transitory, firms have to consider labour hoarding as a relevant strategy. In this environment a moderate temporary employment subsidy will be sufficient to avoid layoffs by firms currently operating at losses. Depending on the size of sunk (re-)hiring costs, cyclical layoffs or even permanent job destruction can be avoided by short run subsidies during the beginning of a recession.