How Would Firms Adjust Employment if Labor Market Regulations Were Eliminated?

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How Would Firms Adjust Employment if Labor Market Regulations Were Eliminated? Evidence from the Enterprise Surveys This Discussion Paper has been presented as a part of the workshop called The Social-Economic Situation of Middle East Youth on the Eve of the Arab Spring, hosted on December 8 - 9th, 2012 at the American University in Beirut. The present paper avoids some of the well-known pitfalls in estimating the effects on employment arising from actual labor market deregulation in particular countries or cross country comparisons of the rigidity of such regulations. It does so by making use of a rather new and different way of estimating the potential effect on employment at the firm level based on firm-specific responses to a common hypothetical question about the extent to which they would hire or dismiss workers if all existing labor regulations were to be eliminated. The analysis is based on a two stage analysis in which in the first stage the subjective seriousness of labor regulations as an obstacle to the firm’s operations and growth is estimated with an ordered probit analysis, the results of which are then used to estimate the effects on percentage changes in employment in the second stage. Hypotheses are put forward about the directions of effects of labor deregulation on measures of both job creation and job destruction for each of several firm, industry and country characteristics. The procedure allows us to test two different links, that between existing measures of the rigidity of existing labor regulations and firm-specific perceptions of the serious of labor regulations as an obstacle to doing business and then between the latter and changes in that firm’s employment if all existing regulations on labor were eliminated. The estimates are obtained by taking advantage of firm-specific data from the World Bank’s Enterprise Surveys and Doing Business Surveys for some 73 countries and 124 different surveys. While there are limitations on the surveys themselves and the answers to hypothetical questions may not reflect what firms would actually do, the results support the hypothesized relationships and show that the effects could be quite large for those countries with high labor law rigidity indexes and certain firm and industry characteristics.


Jeffrey B. Nugent, Yanyu Wu

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