Multiple equilibria in a firing game with impartial justice

In many European countries, a majority of employees are hired under very protective labor contracts that restrict the ability of the employer to dismiss them. In particular, employees can take to courts the firm’s layoff motive. Given the high costs specific to so-called economic motives and judges’ limited ability to process an ever growing flow of cases, in the last few years firms have been tempted to invoke faked personal motives for firing "good" workers. This paper shows that the interaction between firms, employees and the labor judicial system is consistent with multiple equilibria. Hence firing costs depend not only on variables under the control of the government, but also on the nature of the equilibrium. Policies aiming at increasing flexibility, interpreted as a reduction in firing costs, should consider the possibility of shifting from a high to a low firing costs equilibrium.