Taxes on labour and unemployment in a shirking model with union bargaining

This paper studies the impact of a cut in labour taxes in a model that combines two explanations for equilibrium unemployment: employee shirking and union bargaining. It is shown that if the ratio of unemployment compensation to the net-of-tax wages is kept fixed, a tax cut leads to higher unemployment. When the unemployment benefits are fixed in real terms, the effect of a tax cut on unemployment is ambiguous. Adverse employment effects are ruled out if unions are powerless or the labour share is constant.