Does self-employment reduce unemployment?

This paper investigates the dynamic relationship between self-employment and unemployment rates. On the one hand, high unemployment rates may lead to start-up activity of self-employed individuals (the refugee effect). On the other hand, higher rates of self-employment may indicate increased entrepreneurial activity reducing unemployment in subsequent periods (the entrepreneurial effect). This paper introduces a new two-equation vector autoregression model capable of reconciling these ambiguities and estimates it for data from 23 OECD countries between 1974 and 2002. The empirical results confirm the existence of two distinct relationships between unemployment and self-employment: the refugee and entrepreneurial effects. We also find that the entrepreneurial effects are considerably stronger than the refugee effects. (C) 2008 Elsevier Inc. All rights reserved.