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The Effect of Employment Protection Legislation and Financial Market Imperfections on Investment: Evidence from a Firm-Level Panel of EU countries

  • Federico Cingano

    ()

    (Bank of Italy)

  • Marco Leonardi

    ()

    (University of Milan and IZA)

  • Julian Messina

    ()

    (University of Girona, FEDEA and IZA)

  • Giovanni Pica

    ()

    (Università di Salerno and CSEF)

This paper analyzes the joint effect of EPL and financial market imperfections on investment, capital-labour substitution, labour productivity and job reallocation in a cross-country framework. In the spirit of Rajan and Zingales (1998) and Ciccone and Papaioannou (2006), we exploit variation in the need for reallocation at the sectoral and aggregate level to assess the average effect of EPL on firms’ policies. Then, exploiting firm-level information we study if the effect of EPL is stronger in firms with lower levels of internal resources. We find that, on average, EPL reduces investment per worker, capital per worker and value added per worker in high reallocation sectors relative to low reallocation sectors. The reduction in the capital-labour ratio is less pronounced in firms with higher internal resources, suggesting that financial constraints exacerbate the negative effects of EPL on capital deepening.

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Paper provided by Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy in its series CSEF Working Papers with number 227.

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Date of creation: 01 May 2009
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Publication status: Published in Economic Policy, Volume 25, Issue 61, pp. 117-163.
Handle: RePEc:sef:csefwp:227
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