Unemploymentinsurancewithahiddenlabormarket$

Weconsidertheproblemofoptimalunemploymentinsurance(UI)inarepeatedmoral hazardframework.Unlikeexistingliterature,unemployedindividualscansecretly participateina hidden labormarket. Thisextensionmodifiesthestandardproblemin threedimensions.First,itimposesanendogenouslowerboundforthelifetimeutility thatacontractcandeliver.Second,itbreakstheidentitybetweenunemployment payments andconsumption.Andthird,ithardenstheencouragementofsearcheffort. The optimalunemploymentinsurancesysteminaneconomywithahiddenlabor marketissimple,withaninitialphaseinwhichpaymentsarerelativelyflatduring unemploymentandwithnopaymentsforlong-termunemployedindividuals.This schemedifferssubstantiallyfromtheoneprescribedwithoutahiddenlabormarketand resembles unemploymentprotectionprogramsinmanycountries