Optimal taxation to correct job mismatching

Abstract

This paper characterises efficiency-enhancing taxes when job search activities generate excessive mismatching between firms and workers. Workers can direct and modulate their search efforts towards particular firms before matching and bargaining over wages. A composition externality arises because workers do not internalise the consequences of mismatching on the entry decision of firms, resulting in lower average sectoral productivity and suboptimal job creation. The optimal policy taxes low-surplus matches and subsidises high-surplus matches. The model is calibrated on occupational mismatching in the United States. In addition to the pre-existing flat tax, the corrective taxes subsidise each $1 increase in productivity by $0.45 to $0.87 on average.