Does an Employment Protection Law Matter? A Panel Data Analysis of Selected OECD Countries, 1985–2012

Abstract

This study examines the economic effects of employment protection law (EPL) between 1985 and 2012 in 26 OECD countries through a dynamic panel data analysis. It uses three alternative dynamic panel data models—dynamic fixed effect, mean group, and pooled mean group models—and examines the short-term as well as long-term effects of employment protection on various measures of unemployment rate—overall unemployment rate, long-term total unemployment rate, and long-term youth unemployment rate. Apart from the effect on the unemployment rate, it also considers the impact on union density and labor share. To supplement the dynamic panel data modeling, it uses vector rrror correction (VEC) Granger causality tests. This study shows that EPL does not increase long-term unemployment rate irrespective of whether one considers total or youth working population. Nor is there any impact on labor share. The causal impact of EPL on trade union penetration (as measured by union density) is also insignificant. There is no reverse causality. The implication is: EPL is independent of union penetration—they are not related in a bond of mutual causation. Furthermore, the unemployment scenario does not lead to relaxation of EPL and vice versa.