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Can labour market rigidity foster economic efficiency? A model with non-general purpose technical change

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Abstract

The contrasting effects of labour market rigidity on efficiency are investigated in a model where technological change is non-general purpose and different types of skills are available to workers. Ex ante efficiency calls for high labour market rigidity, as this favours workers’ acquisition of specific skills which have higher productivity in equilibrium. Ex post efficiency calls for low market rigidity, as this allows more workers to transfer to the innovating sector of the economy. The trade-off between these two mechanisms results in an inverse-U shaped relationship between output and labour market rigidity, which implies that a positive level of labour market rigidity is in general beneficial for the economy.

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Notes

  1. Some of the aspects that have been analysed are firing costs (Bentolila and Bertola 1990), the unemployment benefit system (Layard et al. 1991), the loss of human capital during unemployment spells (Ljungqvist and Sargent 2002), insider-outsiders relations (Blanchard and Summers 1987), the inability of systems to adjust either to macroeconomic shocks (Blanchard and Wolfers 2000) or to microeconomic ones (Gottshalk and Moffitt 1994).

  2. Atkinson (1999) has objected that the rolling back of the welfare state to which the process of liberalization would lead may in fact decrease labour markets efficiency. Nickell and Layard (1999) conclude that the empirical evidence on the negative impact of labour market rigidity is limited to some institutions, mainly unemployment benefits and strong and uncoordinated unions, but is at best weak for the remaining ones. Others have pointed to the social costs associated with market liberalization (Rodrik 1997), and have noted that welfare institutions tend to be larger in more open countries, thus underlining their positive function in absorbing macroeconomic shocks (Agell 1999). See also Howell et al. (2007).

  3. Firms too will have fewer incentives to impart on-the-job training leading to specific human capital in more slack labour markets, given the higher probability of losing this investment should the worker leave the firm. This model will not take into account the latter aspect, as it will only focus on workers’ incentives.

  4. GP and non-GP innovations are likely to be interlinked. The introduction of a GPT is likely to generate different paths of technical innovations in different sectors and different firms, thus triggering what are in fact non-GP innovations.

  5. It might appear counter-intuitive that market rigidity engenders a cost for a worker, rather than representing a form of protection. However, this characteristic of the model may be easily made more realistic by modelling explicitly managers’ choices, and assuming that the transfer cost was paid by the firm rather than by the worker. Even in this case, transfer costs would hinder workers’ cross-sector transferability and would reduce the possibility of being re-employed in the innovating sector of the economy. Hence, the same results would be obtained as in the present form of the model.

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Acknowledgments

I thank Donatella Gatti for useful discussions on the basic ideas of this paper, and Elena Meschi for her comments to the previous draft of the paper. I also thank two anonymous referees for their comments, and Karen Whyte for efficient proofreading and assistance. All errors are my sole responsibility. I acknowledge financial support from the Spanish Ministry of Science and Innovation (grant ECO 2011-23634), Bancaixa (P1·1A2010-17), Junta de Andalucía (P07-SEJ-03155), and Generalitat Valenciana (grant GV/2012/045).

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Authors and Affiliations

  1. Universitat Jaume I, Av. de Vicent Sos Baynat, 12071, Castelló de la Plana, Espanya

    Gianluca Grimalda

  2. Kiel Institute for the World Economy, Christian Albrecht University of Kiel, Kiellinie 66, 24105, Kiel, Germany

    Gianluca Grimalda

  3. Centre for Global Cooperation Research, University of Duisburg Essen, Essen, Germany

    Gianluca Grimalda

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Correspondence to Gianluca Grimalda.

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Grimalda, G. Can labour market rigidity foster economic efficiency? A model with non-general purpose technical change. Eurasian Bus Rev 6, 79–99 (2016). https://doi.org/10.1007/s40821-015-0024-2

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