Reforming Employment Protection in Egypt: An Evaluation Based on Transition Models with Measurement Errors

Do reforms introducing more flexibility in developing countries’ labor markets reduce unemployment? This paper proposes to evaluate the new Egyptian labor market law, which was introduced in 2003, aiming to enhance the flexibility of the hiring and the firing processes. The Egypt labor market panel surveys (ELMPS 2006 and ELMPS 2012) are used to measure the impact of this reform on the dynamics of separation and job finding rates, and to quantify their contributions to overall unemployment variability. Using synthetic panel data created from the retrospective accounts of the 2006 and 2012 cross-sections, and by overlapping the two surveys, we estimate annual and semi-annual transition probabilities of workers among employment, unemployment and inactivity labor market states. A unique and novel model is built to correct for the recall and design bias observed in the retrospective data. Using our “corrected” data, we show that the reform significantly increases the separation rates in Egypt, but leads to non-significant effects on the job finding rates. The combined net effect is therefore an increase in the levels of the Egyptian unemployment rate. By performing counterfactuals analysis, we show evidence of the increasingly dominant role of the job separation rate in accounting for Egyptian unemployment fluctuations.