Labour Market Institutions: Sensitivity to the Cycle and Impact of the Crisis in European Regions

Abstract

ABSTRACTThe current economic crisis has had spatially differentiated impacts in both the US and Europe. A growing collection of literature investigates the determinants of the magnitude of this recession across regions. This paper aims to contribute to this literature by analysing variations in unemployment rate across European regions over the period 2004–11. In particular, we focus on two apparently neglected issues, namely labour market rigidity and the sensitivity of the local economy to the national or European business cycle. The rigidity of the labour market is increasingly viewed as a possible reason for differences among countries in terms of the performance of labour markets, although existing empirical evidence remains inconclusive. In this respect, our aim is to assess the relevance of national labour legislation, as measured by the OECD Employment Protection Legislation (EPL) Index for the performance of regional labour markets by taking advantage of the natural experiment provided by the crisis. Furthermore, for the first time in economic literature, we employ quarterly data on unemployment rate for all European regions over the period 2000–11 to construct an index of co–movement regarding regional cycles with national or European cycles, to be used as an important determinant of variation in the unemployment rate. After controlling for a number of covariates, as well as for spatial dependence in various forms, our results indicate that EPL did not affect unemployment growth over the entire period. However, we did find that regions with a low long–term unemployment rate in countries with high EPL performed better in the pre‐crisis period (2004–07), whereas no effect was found during the crisis. We also found that synchronisation of the regional cycle with the national one was significant for explaining regional labour market performance. Taken together, these results denote the limited relevance of national policies and legislation for accommodating spatially differentiated shocks, whereas policies aimed at modifying local cycles may prove to be more effective.