Do Labour Market Institutions Matter in Transition Economies? An Analysis of Labour Market Flexibility in the Late Nineties

Abstract

The objectives of this paper are to develop initiatives on how to measure the flexibility of the labour markets of transition countries and shed some light on the ongoing debate on the role of labour market institutions in labour market performances. Labour market regulations are introduced with the objectives of improving workers' welfare through benefits or/and social security programmes. But because benefits have costs, budget constraints need to be considered in policy choices: in a market economy benefits may then reduce employment, and employment protection may protect some workers (insiders) at the expense of others (youth, long-term unemployed, etc.). It is often argued for example, that the poor performance of European countries compared with that of the United States is due to labour market rigidities. It follows from this controversial argument that the road of maximal labour market flexibility should be taken (for example by weakening trade unions power and labour market regulations). This proposition has strong political implications, since it questions both the access to employment and the quality of this employment. While more emphasis is given in this paper to employment protection legislation (i.e. the limitations for employer to dismiss workers at will), other forms of labour market regulations are also considered, such as the unemployment benefit systems, wage setting institutions, active labour market policies and taxes on labour. It should be already noted, that the analysis of this paper deals with enterprises and workers in the formal sector, although the strong growth of the informal sector can be interpreted as part of the process of labour market flexibilization. As stated before, some of the institutional schemes have to do with the welfare state, as they provide income guarantees; when considered 'too generous', they are accused of creating unemployment through two mechanisms: work disincentives and wage behaviour. Others may influence the wage structure and/or the labour costs. The 'Eurosclerosis' debate (i.e. European labour market to be said 'sclerotic', because of their full range of labour protection) has renewed relevance with the possible enlargement of the European Union (EU hereafter) to Central and Eastern Europe countries (CEE countries). As the candidate countries are required to harmonize their laws and regulations with those of the EU (acquis communautaire), it is interesting to examine where CEE countries stand in terms of labour market flexibility/rigidities. The two key issues here are therefore: to first assess the extent to which these countries - and more generally the transition countries - have adopted the same labour market institutions as the EU; secondly, to assess the impact, if any, of these institutions on labour market performances. In a nutshell, this paper will try to answer the following question: do labour market institutions matter in transition countries and why? It opens with a presentation of a set of policies and labour market institutions during the 1990s for a group of nine transition countries (i.e. Bulgaria, the Czech Republic, Estonia, Hungary, Poland, Russian Federation, Slovakia, Slovenia and Ukraine). A special highlight is given to employment protection legislation, as new indicators are constructed following the methodology used by the OECD (1997; 1999). This makes it possible to compare the labour market institutions of the transition countries with those of the OECD countries, but also within transition countries. It should also be noted that this analysis is largely focused on numerical (external) flexibility, leaving aside other types of flexibility such as functional flexibility or flexibility in working hours. The second part presents some theoretical and empirical evidence based on western industrialized countries. The aim is to identify possible effects of the labour market institutions on the labour market performance of the selected transition countries. Finally, an econometric analysis is conducted to provide some preliminary evidence on the role played by these institutions in the context of the economic transition.