Business Environment and Labor Market Outcomes in European and Central Asian Countries

Firm entry has been proven to be fundamental for job creation in transition economies. The creation of new ventures as well as their survival and expansion depends on the business environment of the country. It is therefore important to adopt policies aimed at improving the framework conditions in which firms are created and operate. The aim of this paper is to assess which of those conditions are most important for private sector employment creation in Eastern and Central Europe and Central Asia. For that purpose we run a multivariate regression where employment creation is explained by means of the interaction of a macroeconomic shock with the set of institutions shaping the business environment of the country. The rationale is that the investment climate determines the response of the labor market to the transition shock. We find that among European transition economies, the development of the financial sector is the most important variable. Market regulation (credit and labor regulation), start-up costs, and the tax burden are all found to significantly affect employment as well. Among those economies further away from a market economy, especially those in Central Asia, market regulation, corruption, and the (bad) quality of the legal system are found to be the most deterrent institutions for employment creation in the private sector. Next in line comes the access to the required financial means to create and expand a business.