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Uncertainty and the Politics of Employment Protection

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  • Andrea Vindigni

    ()
    (IMT Lucca Institute for Advanced Studies)

  • Cristina Tealdi

    ()
    (IMT Lucca Institute for Advanced Studies)

Abstract

This paper investigates the social preferences over labor market flexibility, in a general equilibrium model of dynamic labor demand where the productivity of active firms evolves as a Geometric Brownian motion. A key result demonstrated is that how the economy responds to shocks, i.e. unexpected changes in the drift and standard deviation of the stochastic process describing the dynamics of productivity, depends on the power of labor to extract rents and on the status quo level of firing costs. In particular, we show that when firing costs are initially relatively low, a transition to a rigid labor market is favored by all and only the employed workers with idiosyncratic productivity below some threshold value. A more volatile environment, and a lower rate of productivity growth, i.e. "bad times," increase the political support for more labor market rigidity only where labor appropriates of relatively large rents. Moreover, we demonstrate that when the status quo level of firing costs is relatively high, the preservation of a rigid labor market is favored by the employed with intermediate productivity, whereas all other workers favor more flexibility. The coming of better economic conditions need not favor the demise of high firing costs in rigid high-rents economies, because "good times" cut down the support for flexibility among the least productive employed workers. The model described provides some new insights on the comparative dynamics of labor market institutions in the U.S. and in Europe over the last few decades, shedding some new light both on the reasons for the original build-up of "Eurosclerosis," and for its relative persistence until the present day.

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File URL: http://eprints.imtlucca.it/1427/1/EIC_WP_6_2012.pdf
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Bibliographic Info

Paper provided by IMT Institute for Advanced Studies Lucca in its series Working Papers with number 6/2012.

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Length: 58 pages
Date of creation: Nov 2012
Date of revision: May 2013
Handle: RePEc:ial:wpaper:6/2012

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Keywords: employment protection; job creation and destruction; firing costs; idiosyncratic productivity; volatility; growth; political economy; voting; rents; status quo; path dependency; institutional divergence.;

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  1. Gilles Saint-Paul, 1993. "On the Political Economy of Labor Market Flexibility," NBER Chapters, in: NBER Macroeconomics Annual 1993, Volume 8, pages 151-196 National Bureau of Economic Research, Inc.
  2. Andrea Vindigni, 2002. "Uncertainty and the Politics of Employment Protection," Working Papers 844, Princeton University, Department of Economics, Industrial Relations Section..
  3. Prat Julien, 2006. "Job Separation Under Uncertainty and the Wage Distribution," The B.E. Journal of Macroeconomics, De Gruyter, vol. 6(1), pages 1-34, January.
  4. Giuseppe Moscarini, 2005. "Job Matching and the Wage Distribution," Econometrica, Econometric Society, vol. 73(2), pages 481-516, 03.
  5. Daron Agemoglu & Davide Ticchi & Andrea Vindigni, 2006. "Emergence and Persistence of Inefficient States," LABORatorio R. Revelli Working Papers Series 54, LABORatorio R. Revelli, Centre for Employment Studies.
  6. Adriana Kugler & Giovanni Pica, 2003. "Effects of employment protection and product market regulations on the Italian labor market," Economics Working Papers 722, Department of Economics and Business, Universitat Pompeu Fabra.
  7. Olivier J. Blanchard, 1986. "Hysteresis and Unemployment," Working papers 430, Massachusetts Institute of Technology (MIT), Department of Economics.
  8. Paul Oyer & Scott Schaefer, 2002. "Litigation Costs and Returns to Experience," American Economic Review, American Economic Association, vol. 92(3), pages 683-705, June.
  9. Brügemann, Björn, 2006. "Employment Protection: Tough to Scrap or Tough to Get?," IZA Discussion Papers 2297, Institute for the Study of Labor (IZA).
  10. Michael Pries & Richard Rogerson, 2005. "Hiring Policies, Labor Market Institutions, and Labor Market Flows," Journal of Political Economy, University of Chicago Press, vol. 113(4), pages 811-839, August.
  11. Björn Brügemann, 2012. "Does Employment Protection Create Its Own Political Support?," Journal of the European Economic Association, European Economic Association, vol. 10(2), pages 369-416, 04.
  12. Julien Prat, 2006. "The Rate of Learning-by-Doing: Estimates from a Search-Matching Model," 2006 Meeting Papers 647, Society for Economic Dynamics.
  13. David H. Autor & William R. Kerr & Adriana D. Kugler, 2007. "Do Employment Protections Reduce Productivity? Evidence from U.S. States," NBER Working Papers 12860, National Bureau of Economic Research, Inc.
  14. Christopher A. Pissarides, 2000. "Equilibrium Unemployment Theory, 2nd Edition," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262161877, December.
  15. Amable, Bruno, 2003. "The Diversity of Modern Capitalism," OUP Catalogue, Oxford University Press, number 9780199261147.
  16. Pedro Portugal & Olivier Blanchard, 2001. "What Hides Behind an Unemployment Rate: Comparing Portuguese and U.S. Labor Markets," American Economic Review, American Economic Association, vol. 91(1), pages 187-207, March.
  17. Adriana Kugler & Juan F. Jimeno & Virginia Hernanz, 2002. "Employment consequences of restrictive permanent contracts: Evidence from Spanish labor market reforms," Economics Working Papers 651, Department of Economics and Business, Universitat Pompeu Fabra.
  18. Tealdi, Cristina, 2011. "How do employment contract reforms affect welfare? Theory and evidence," MPRA Paper 33573, University Library of Munich, Germany.
  19. Fernandez, Raquel & Rodrik, Dani, 1991. "Resistance to Reform: Status Quo Bias in the Presence of Individual-Specific Uncertainty," American Economic Review, American Economic Association, vol. 81(5), pages 1146-55, December.
  20. Kugler, Adriana & Pica, Giovanni, 2003. "The effects of employment protection and product market regulations on the Italian labor market," Discussion Paper Series In Economics And Econometrics 0310, Economics Division, School of Social Sciences, University of Southampton.
  21. Samuel Bentolila & Juan Jose Dolado & Juan F. Jimeno, 2008. "Two-tier Employment Protection Reforms: The Spanish Experience," CESifo DICE Report, Ifo Institute for Economic Research at the University of Munich, vol. 6(4), pages 49-56, December.
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