Optimal speed of transition with a shrinking labour force and under uncertainty *

In the 1990s - during the restructuring of large state enterprises - Central European economies experienced high unemployment. Social policy expenditures, particularly targeted to the non-employed, grew faster than expected due to the need to finance the "out-of-the-labour" categories. In 1992, after the Passive Labour Market Policies' reforms, the pace of transition decelerated. Unemployment dynamics, speed of transition and non-employment policies are modelled based on the assumption that the labour force is shrinking over time. Dismissed workers have the opportunity to choose an "outside-option" alternative to labour force participation. Individual uncertainty is assumed in a first phase of transition, while aggregate uncertainty - generating opposition to restructuring - is modelled in a second phase. The model predicts a slowdown in the speed of transition. Copyright (c) The European Bank for Reconstruction and Development, 2006.