An index of labour market flexibility is, in the usual sense, a measure of the speed with which labour markets adjust to shocks. In times of crisis, such as the sovereign debt crisis of 2010, labour market flexibility is frequently mentioned as a necessary requirement for exiting the crisis. For instance, in a paper on Greece’s adjustment program, produced by the European Commission’s Directorate-General for Economic and Financial Affairs (ECFIN), it is written that “Employment Protection Legislation has been hampering the functioning of the labour market. [...] Major labour market reforms are now advanced well ahead of the December 2010 deadline. [...] These initiatives will increase adjustment capacity of firms, ultimately boosting employment.” (ECFIN, 2010a, pp.41-42). Even before the current sovereign debt crisis, the European Commission had recommended on several occasions the reform of labour markets as a necessary condition for making the European Union the world’s most competitive economy, as stated in the Lisbon Strategy (see, for example, European Commission, 2003).
In what concerns public finance, productivity and balance of payments indicators, Portugal has been Greece’s partner in crime and, as such, has been urged to reform its labour market with a view to reducing rigidity, within the “flexicurity” approach favoured by the European Commission – see, e.g., ECFIN (2010b). Nevertheless, one widely used measure of labour market rigidity, the OECD’s (with the collaboration of ILO experts) Employment Protection Legislation index (EPL) – discussed in section 2.1 below – indicates that labour market flexibility in Portugal has been converging to the average OECD level. Indeed, many, namely trade unionists, argue that the Portuguese labour market is already flexible enough. But there are also Portuguese corporate officials reported as saying that labour market regulations have not hindered their activities.
In this paper we study the issue of labour market flexibility at the sector level. Our hypothesis is that actual labour market flexibility may differ from what one can infer from reading labour market legislation alone, and that this difference may be detected at the sector level by means of adequate indicators. A consequence of this hypothesis is that differences in sectoral labour market flexibility should also become visible when analysing the reaction of sectoral employment to shocks.
To study this hypothesis we take advantage of the existence of a rich linked employer-employee dataset for Portugal: “Quadros de Pessoal”, provided by the Portuguese Ministry of Labour and Social Solidarity (Portugal, MTSS, 1988-2006). This dataset is based on a compulsory survey that matches all firms and establishments with at least one employee. Our study covers the period 1988-2006. In 1988, it included 122,774 firms and 1,996,933 workers, covering 44.6% of total employment. In 2006, it included 344,024 firms and 3,099,513 workers, covering 60.5% of total employment. With this dataset, we compute an index of sectoral labour market flexibility, which we then use to assess the relevance of labour market flexibility for the adjustment of sectoral employment to exchange rate movements.
Download
Sectoral labour market flexibility in a small open economy
