Hiring and Firing with Labor Market Frictions.

I analyze how hiring and firing costs as well as firing delay effects a firm's labor market demand with a stochastic control model. These frictions are substantial in practice. I model also "firm-sized" firing and hiring costs that are proportional to the number of employees. Examples of these costs are some regulations that applies only to larger firms. My model gives the optimal employment policy for a firm to maximize its expected discounted cash flows. I first derive analytical solutions for the value of the company as a function of the fraction of labor to demand and then solve numerically for the parameters of the value functions. I also show that the solution to the firm's problem exists, and is unique. I develop a numerical algorithm that finds the optimal policy. The firing delay encourages firms to fire earlier. The firing delay also causes fewer workers to be fired. Firm-sized firing cost postpones a firm's firing, but raises the firing quantity. Similarly, increasing the firm-sized hiring cost reduces the chance of hiring, but raises the amount hired. I apply the model to Ford Motor Company. It accurately predicts the fall in Ford's employment level from 2006 to 2009. My model also accurately estimates Ford's gross value. Productivity and wages have the largest impact on Ford's equity value, followed by the interest rate, and then the consumer demand parameters. Changing firing frictions has a negligible impact on equity value. Based on the impacts of changing the model parameters, Ford would benefit the most from a one percent increase in the productivity or decrease in wage costs would have the biggest impact for Ford. Small reductions in the delay in shutting down factories or reducing firing costs would not have much of an impact, so Ford could offer raising the delay and severance packages to the union in negotiations, in exchange for wage reductions or productivity increases.PHDIndustrial & Operations EngineeringUniversity of Michigan, Horace H. Rackham School of Graduate Studieshttp://deepblue.lib.umich.edu/bitstream/2027.42/93894/1/timmaull_1.pd