We evaluate the allocation of risk between firms and their workers using matched employer‐employee panel data. Unlike previous contributions, this paper focuses on idiosyncratic shocks to the firm, which are the correct empirical counterpart of the theoretical notion of diversifiable risk. We allow for both temporary and permanent shocks to output and find that firms absorb temporary fluctuations fully but insure workers against permanent shocks only partially. Risk‐sharing considerations can account for about 15 percent of overall earnings variability, the remainder originating from idiosyncratic shocks to individual workers. Our welfare calculations indicate that firms are an important vehicle of insurance provision.

Using a firm-level international panel data set, we study if unemployment insurance offered by the government and by firms are substitutes. We exploit cross-country and time-series variation in public unemployment insurance as a shifter of workers’ demand for insurance within firms, and family versus nonfamily ownership as a shifter of firms’ supply of insurance. Our evidence supports the substitutability hypothesis: employment stability in family firms is greater, and the wage discount larger, in countries and periods with less generous public unemployment insurance, whereas no such substitutability emerges for nonfamily firms. Received July 18, 2015; editorial decision August 8, 2017 by Editor Francesca Cornelli.