Redundancy Pay and Collective Dismissals

Redundancy payments for collective dismissals are incorporated into a Shapiro-Stiglitz model of efficiency wages. It is shown that a lump-sum payment will lower wages, leaving employment and welfare unaffected if there are neither wage-dependent taxes nor additional firing costs. If payroll taxes exceed firing costs, employment and welfare will rise with redundancy payments. If these payments are also a function of previous wages or reduce unemployment benefits, positive employment effects will be mitigated or reversed. A substitution of wage-dependent for lump-sum redundancy payments can lower employment, allowing for a continuous variation of effort.