Talent discovery, layoff risk and unemployment insurance

In talent-intensive jobs, workers' quality is revealed by their performance. This enhances pro-ductivity and earnings, but also increases layoff risk. We show that, if firms compete for talent, they cannot insure workers against this risk, so that the more risk-averse workers will choose less quality-revealing jobs. This lowers expected productivity and salaries. Our model predicts that public unemployment insurance corrects this inefficiency, increasing employment in talent -sensitive industries. This prediction is consistent with the distribution of U.S. employment across occupations and states. Unemployment insurance dominates legal restrictions on firms' dismissals, which penalize more talent-sensitive firms and thus depress expected productivity.