When overzealous job “protection” makes matters worse

By Donal Curtin 09/03/2015 5

I’ve gone on a bit in some recent posts about the necessity of efficient, flexible labour markets – noting (here, here and here) that the labour market tends to have huge gross flows with small net outcomes, and that it’s easy, with good intentions but bad policy, to stuff up the flexible working of hiring and firing. I also found some evidence that our own labour market stacks up pretty well, when considered in long-run international perspective, in keeping unemployment down.

I’d said in that last post that “if you’re concerned about unemployment, you’re likely to be better off if you come up with some form of social protection that doesn’t impede the flexible working of the labour market, rather than reaching for some “job protection” measure that makes it harder for employers to lay people off. Making it harder to fire, for example, makes it less attractive to hire in the first place”. I didn’t include anything concrete to back that up, but over at his blog Jim Rose happened to be writing about some recent local court decisions which appeared to be re-regulating employers’ ability to lay off staff (his two articles are here and here), and as part of his argument he’d found this.

Isn’t that neat? There’s a clear link between how tightly protected existing jobs are, and how long people are stuck in unemployment before they get their next one – with the best of intentions, policymakers trying to make the labour market more secure from an employee’s perspective have produced a completely counterproductive outcome. It’s good to know that again our own labour market shows up to international advantage, with relatively low long-term unemployment and indeed even lower long-term unemployment than you’d expect from a country with our level of job protection. Australia scrubs up pretty well, too.

I asked Jim where the chart came from, and he pointed me to the source, a June ’14 article in the IMF’s Finance & Development publication profiling the career of Christopher Pissarides, who won the Nobel prize in economics for his work on labour markets and unemployment. It’s a good read. From a policy point of view, the bottom line is

“protect workers, not jobs.” Trying too hard to protect existing jobs through excessive restriction of dismissals can stop the churning of jobs that is necessary in a dynamic economy. It is better to protect workers from the consequences of joblessness through unemployment benefits and other income support—accompanied by active policies to get the unemployed back to suitable jobs before their skills and confidence deteriorate

Incidentally, if Jim is right that our Employment Court “stands apart from the modern labour economics of human capital and job search and matching as well as the modern theory of entrepreneurial alertness, and the market as a discovery procedure and an error correction mechanism”, maybe there’s a case for it to sit with a lay member who knows something about labour economics. The High Court sits with an experienced economist, when there are major competition or regulation cases, and it’s a system that works well.

5 Responses to “When overzealous job “protection” makes matters worse”

  • The Employment Court judges the merits of arguments about interpretation of employment law and contract. Nothing more or less. To think otherwise is to tacitly require the court to change its rulings subtly in times of high and low unemployment.

    Most studies of our employment law and its outcomes find that employees rarely if ever gain compensation that truly reflects the costs to them of wrongful dismissal. Given this, a real case could be made that the employment court is not sufficiently connected to economic reality – but in the opposite direction to your suggestion.

    Perhaps the EC should be sending stronger signals to employers that they should adhere to the terms of both the law and their employment agreements. This would have the effect of weeding out poor performing employers and providing reassurance to those employers who largely stick to the rules.

    Perhaps less useful for labour market churn, but equally, more useful for business certainty.

  • I would find it difficult to publish such a graph suggesting such a linear correlation along with a tenuous conclusion that “there’s a clear link”.

  • I think it is far from clear “there’s a clear link”. Compare Norway and Sweden to Italy and Belgium. The correlation appears slight if it exists at all.

  • Thanks Ashton for the comment. Re your 2nd para, I too would be concerned if employees were not getting the compensation they are due, and I’m not suggesting they oughtn’t. The costs and delay of the legal process make civil redress onerous enough already for much of middle New Zealand without the courts taking employee-unfriendly positions.
    On your 1st para, the EC of course judges the merit of different interpretations of the law. But it and other courts can and do take systematically and progressively broader or narrower approaches to the law: many people would argue, for example, that the courts have gutted s36 of the Commerce Act of most of its relevance (ironically enough, by taking an abstruse economics approach). All I’m saying is that IF, as Jim Rose argued, the EC is systematically taking a more employee-focussed interpretation, then it may not in the end be doing employees any favours if the countervailing reaction from employers is to offer less employment or on less favourable terms

  • Ross, Brent, thanks for your comments. Whether there’s a pattern in a scatter plot is sometimes in the eye of the beholder, but I think you’re partly right here: I’ve likely overstated the strength of the link. I did a regression on the data (I don’t have the exact numbers so I used eyeball estimates from the graph) to see if the index of protection “explains” the duration of unemployment. Two results (bearing in mind this is rough and ready). Yes, there is a statistically significant link between the index and duration, with a 1-point rise in the index being associated on average with an extra 3.5 months of unemployment, so yes, there is a link. But it’s not a strong one, so you’re right there: the index explains about 25% of what’s going on, and there is a lot left unexplained. I suspect that countries vary a lot in the degree of success they have with ‘active’ labour market policies designed to get people back into work