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Labor-Market Volatility and Financial Development in the Advanced OECD Countries: Does Labor-Market Regulation Matter?

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Abstract

This paper investigates the relationship between financial development and labor-market volatility in 15 OECD countries from 1974 to 2007. I argue that financial development should affect corporate governance and then how firms will determine wages and the number of hours worked, especially for low-skilled workers. First, my results indicate that financial development is associated with higher employment and wage volatility, but with no significant differences across skill levels. Second, using a threshold regression model, I show that the increasing effect of higher financial development on labor-market volatility is larger in countries with more labor-market regulation.

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Notes

  1. For instance, the traditional compromise between blockholders, managers and trade unions in Germany was undermined when large German banks (such as Deutsche Bank, Dresdner Bank) in the mid-1980s ceased to play their traditional role of ‘patient capital’ providers to benefit from the internationalization of the Anglo-Saxon banks. Gradually, banks sold the shares they held in firms, withdrew from their management and supervisory boards and became investment banks. Obviously these evolutions directly affected the behavior of large German firms, becoming more sensitive from the pressures to generate ‘shareholder value’.

  2. Automatic stabilizers are specific features of government spending to dampen the fluctuations in real GDP. Fatas and Mihov (2001) show that government expenditure through automatic stabilizers has a reducing effect on output volatility.

  3. Rodrik (1997) finds no empirical evidence of this argument when country-specific characteristics are controlled for fixed-effects.

  4. Labor compensation converted into constant US dollar is obtained by using the exchange rate series from the Penn World Tables and by deflating by the US output price index.

  5. I use in robustness checks the share of domestic credit to private sector by banks in the GDP as another common measure of financial sector depth.

  6. Other common measures of labor market regulation, such as the strictness of employment protection legislation and the degree of coordination in wage bargaining, have been used in the analysis. But, the threshold regression method used in the empirical analysis in the section ‘Estimation results’ indicates that these two different variables cannot be used to sample-split. I fail to reject the null hypothesis of no threshold H0:β1=β2.

  7. Unemployment and sickness generosity indexes are calculated on replacement rate, qualification period, duration, waiting days and coverage. Pension generosity index is calculated on replacement rate, expected pension duration years, pension qualification years and employee pension funding ratio.

  8. F-tests have been run to test the presence of year fixed-effects. The null hypothesis assumes that all year coefficients are equal to zero. If I fail to reject the null, no time fixed-effects are needed only when considering employment volatility as dependent variable.

  9. I find very similar and robust results when calculating my measures of labor market volatility with different values of λ (such as λ=100). Using alternative filters such as the Baxter–King filter, gives substantially similar results.

  10. Results of this test are not here reported.

  11. Using more bootstrap replications gives very similar results.

  12. Models (7) and (8) indicae that higher stock market development is associated with a reduction (and not an increase as expected) in labor-market volatility for higher values of welfare generosity. Some recent contributions have shown that labor market institutions have a reducing effect on the volatility of real wage growth (Macit, 2010; Buch and Schlotter, 2011). Strong labor market regulation allows to maintain workers’ wages and lead to smoother responses in real wages. Accordingly, the increasing effect of financial development on wage volatility is undermined by the reducing effect of welfare state and labor market variables, including for high-skilled workers.

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Acknowledgements

The author wants to thank Bruno Amable, Karim Azizi, Christophe Rault, Antoine Rebérioux, all participants of the 25th Annual Conference of the Society for the Advancement of Socio-Economics (SASE) at the University of Milan, 27–29 June 2013, two anonymous referees and the Editor for valuable comments on a previous version.

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  1. Maison des Sciences Economiques, University of Paris I Panthéon-Sorbonne, 106-112 Boulevard de l’Hôpital, Paris, 75013, France

    Thibault Darcillon

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Darcillon, T. Labor-Market Volatility and Financial Development in the Advanced OECD Countries: Does Labor-Market Regulation Matter?. Comp Econ Stud 58, 254–278 (2016). https://doi.org/10.1057/ces.2016.2

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