Reducing Youth Unemployment and Dualism

Transcription

1 MUTUAL LEARNING PROGRAMME: AUTUMN 2011 SEMINAR Reducing Youth Unemployment and Dualism Thematic Review Seminar on "The reduction of labour market segmentation: addressing the needs of young people" Brussels, 27 June 2011 A paper submitted by Tito Boeri, Università Bocconi and Fondazione Rodolfo Debenedetti, Italy in consortium with GHK and CERGE-EI Date: 17/06/11

2 This publication is supported for under the European Community Programme for Employment and Social Solidarity ( ). This programme is managed by the Directorate-General for Employment, Social Affairs and Inclusion of the European Commission. It was established to financially support the implementation of the objectives of the European Union in the employment and social affairs area, as set out in the Social Agenda, and thereby contribute to the achievement of the Lisbon Strategy goals in these fields. The seven-year Programme targets all stakeholders who can help shape the development of appropriate and effective employment and social legislation and policies, across the EU-27, EFTA- EEA and EU candidate and pre-candidate countries. PROGRESS mission is to strengthen the EU contribution in support of Member States' commitments and efforts to create more and better jobs and to build a more cohesive society. To that effect, PROGRESS will be instrumental in: providing analysis and policy advice on PROGRESS policy areas; monitoring and reporting on the implementation of EU legislation and policies in PROGRESS policy areas; promoting policy transfer, learning and support among Member States on EU objectives and priorities; and relaying the views of the stakeholders and society at large For more information see: The information contained in this publication does not necessarily reflect the position or opinion of the European Commission.

3 CONTENTS 1 EXECUTIVE SUMMARY WAS THERE A GREAT MODERATION FOR YOUNG PEOPLE? THE LEGACY OF THE GREAT RECESSION CONCLUSIONS: THE FATE OF THE GREAT RECESSION GENERATIONS REFERENCES... 17

4 1 EXECUTIVE SUMMARY Young workers have been disproportionally hit by the Great Recession. Youth unemployment is always more sensitive to cyclical conditions than joblessness among other age groups. This is because the first reaction of employers when facing demand shortages is to freeze new hires and to hoard labour, notably in the context of relatively high dismissal costs. This time, however, the relative position of young workers deteriorated much more sharply than during previous recessions. An additional reason behind the disproportionate increase in youth unemployment was the concentration of labour market risk among young workers with temporary contracts. There was, in other words, not only longer unemployment among school leavers and first-time job seekers, slowing down transitions from school or vocational education to employment, but also more job losses among young workers. Youth unemployment is an important policy concern, as here is evidence of longer-term, scarring, effects associated with unemployment spells experienced relatively early in the working life. Moreover, there is evidence that on-the-job training has been reduced after the Great Recession. This opens up the possibility that entire Great Recession generations, entering working age during the global financial crisis, may suffer a serious human capital loss that could potentially affect their long-term productivity growth and hence the performance of the country they live in. Employment Protection Legislation (EPL) and passive labour market policies are generally ill-suited to cope with youth unemployment. They tend not to protect young workers on-thejob, nor do they offer unemployment compensation to most of those losing temporary jobs. It is argued in this paper that rather than devising ad hoc policies for young workers, it is essential to tackle labour market dualism by reducing the asymmetry between fixed-term and open-ended contract types. This asymmetry is a key reason behind the vulnerability of young workers to macroeconomic shocks. This paper documents the evolution of youth unemployment before and during the crisis. It then looks at potential longer-term consequences of these developments and finally concentrates on policies dealing with the Great Recession generations. 4

5 2 WAS THERE A GREAT MODERATION FOR YOUNG PEOPLE? The period since the mid-1980s is generally considered as the era of the so-called Great Moderation which means a reduced volatility of aggregate macroeconomic time-series, such as GDP, industrial production, employment and unemployment. However, the reduction in the time-series variation of aggregate labour market variables has been largely concentrated among the older age groups. Youth unemployment and employment rates of those aged became more volatile with a spectacular decline during the long expansion preceding the recent recession and then a similarly marked increase in the period. The decade 1997 to 2007 was characterised by a spectacular reduction in the youth unemployment rate (red bars in Figure 1), unmatched by the overall decline in unemployment rates (blue bars). In countries like Spain the youth unemployment rate declined by as much as 20 percentage points. Similar developments occurred in the other so-called Club-Med countries (France, Greece and Italy). This fall in unemployment occurred in conditions of greater labour market turnover, notably for young workers. Unemployment inflows and outflows, as measured from the European Labour Force Survey, increased significantly together with mobility across the main labour market statuses (employment, unemployment and inactivity) and job-to-job flows. Alongside the change in unemployment, most EU countries, experienced an increase in mobility. As shown by Boeri and Garibaldi (2009), the relationship between declining unemployment and increasing mobility appears to hold across different statistical measures (scalar measures of mobility across labour market statuses, job and labour turnover, job-to-job shifts). Over the last decade, the increase in mobility is thus the other side of the coin of the decrease in youth unemployment. Figure 1 Source: Eurostat LFS, yearly data,

6 What could have induced such a strong increase in labour mobility in association with the fall in unemployment? The answer is provided by Figure 2. Job creation among youngsters in this period of time, especially in the Club Med, has been concentrated in temporary contracts amounting in some countries for up to 60 per cent of dependent employment among youngsters (Figure 2). Figure 2 Source: Eurostat LFS, yearly data, Temporary employment is typically associated with shorter tenures and a higher exposure to unemployment risk. Rather than being a port of entry in the labour market, fixed-term contracts are rarely converted into permanent contracts, notably in dual countries, like Italy, France, Spain and Sweden. The insecurity associated with temporary employment is not mitigated by higher wages that could compensate for this risk. Table 1 provides, in the first column, an estimate of the wage premium provided by permanent contracts vis-a-vis temporary contracts. It is estimated from micro-data (from the European Union Survey on Income and Living Condition and the European Community Household Panel) as the coefficient μ of a dummy variable capturing permanent contracts, in a (monthly) wage regression carried out over male dependent employment, controlling for education and tenure. In particular, the following equation was estimated: Where w denotes monthly wages of individual "i", EDU is years of schooling, TEN is years of tenure and PERM is the dummy taking the value one in case of permanent contracts and zero otherwise. The table indicates that in all European countries workers on permanent contracts are paid, other things being equal, substantially more than workers on temporary contracts. The estimated premia are always statistically significant and range from a low 6.5 per cent in the UK to almost 45 per cent in Sweden. μ 6

7 The second column of Table 1 displays the yearly transition probability from fixed-term to permanent contracts, as can be estimated from matched records across waves of the European Union Survey of Income and Living Conditions (EU-SILC) in the period. As can be seen, this transition probability in 9 countries out of 14 is very low, involving about one out of five workers each year, i.e., an average waiting period of about 5 years before entering the protected labour market of open-ended contracts. Table 1 Percentage wage premium for permanent contracts Transition prob. from temporary to permanent contracts Austria Belgium Denmark 17.7 Finland France Germany 26.6 Greece Ireland Italy Netherlands 35.4 Portugal Spain Sweden 44.7 United Kingdom Sources: EU SILC (mid 90s ECHP estimates for Netherlands) and matched records of EU SILC for (last data available). The increase of temporary employment has not involved some disadvantaged groups of youngsters who remained unemployed or outside the labour market. In several countries up to 60 per cent of youth unemployment was made up of persons with lower educational attainments (Figure 3). 7

8 Figure 3 Source: Eurostat Education database, yearly data, Inactivity was also large in these groups (Figure 4). Moreover, non-employment for these groups is generally not associated with investments in human capital (OECD, 2010). In other words, many low educated young people remained in the so-called NEET status, persons neither in employment, nor in education or training. This condition is rather widespread among youngsters cumulating a number of disadvantages (school dropouts, membership of ethnic minority groups, parents with lower educational attainments and living in deprived areas) who are at risk of dropping out, not only of school, but also of the labour market. Figure 4 Source: Eurostat Education database, yearly data,

9 3 THE LEGACY OF THE GREAT RECESSION The global crisis has hit young people hard and the short-term outlook for many young people is rather gloomy. Figure 5 seems to be the mirror image of Figure 1. It documents the rapid growth of unemployment among persons aged 15 to 24 in the period, undoing most of the progress made in the previous decade in reducing joblessness among young people. Figure 5 Source: Eurostat LFS, yearly data, As a result of this very strong rise, the youth unemployment rate is, with the notable exception of Germany, between 2 to 5 times larger than among the other age groups. Put another way, the risk of unemployment is up to 5 times as large for those aged 15 to 24 than for older workers (Figure 6). 9

10 Figure 6 Source: Eurostat LFS, yearly data, Youth unemployment always increases more than overall unemployment during recessions as the first reaction of employers is to freeze new hires, preventing school leavers from having access to the labour market. However, this time the concentration of labour market risk among the youngsters was stronger than in previous recessions. Figure 7 suggests that the odds ratio (the ratio of youth to total unemployment) was larger in this recession in many countries than in previous recessions. The reason is once more in the dualism of many labour markets. The rise of youth unemployment was not only a byproduct of a hiring freeze, but also of mass layoffs among temporary workers. This is documented by Table 2: the share of dismissals in total separations doubled among young people from 2007 to In all the other age groups the increase was less marked. This recession was particularly painful for young workers, who are less protected on the job (and also outside employment as they are not eligible to unemployment benefits) than older generations. It is also notable that dismissals of such workers did not lead to flows to education and training. Actually the share of separations ending in some sort of human capital investment declined throughout this period (last two columns of Table 2). 10

11 Table 2 Separations by reasons and Age 2007 and 2009 Dismissed or made redundant Education or training Age Class Average Source: Eurostat European LFS, microdata Notes: The analysis is restricted to all the unemployed people who lost their jobs within the last 11 months and who already had work experience. The table represents the percentage of layoffs by reason of leaving the job per age category. The other categories not reported here are: "A job of limited duration has ended", "Looking for children or incapacitated children", "Other personal or family responsibilities", "Own illness or disability", "Early retirement", "Normal retirement", "Compulsory military or community service", "Other reasons", "No answer". Figure 7 Source: Eurostat LFS, yearly data, There are two legacies of the Great Recession that should not be overlooked. The first is that job loss at early stages of a career has longer term consequences. Sizeable long-term effects of unemployment at labour market entry on annual earnings have been documented in France, Germany, Italy, Spain, the UK and the US. In particular, in the UK, a 1 percentage point increase in the unemployment rate at entry appears to reduce earnings by almost 8%. This effect declines over time to just 2% ten 11

12 years after entry and disappears thereafter. In the US, the contemporaneous decline in earnings is of the order of 2-3 per cent and it dissipates within ten years of labour market entry. More persistent effects are observed among the low-educated. In France and Spain, the negative contemporaneous effect among this group is of the order of 2-3% on earnings, but persists up to 15 years after labour market entry. Panel studies following cohorts of job losers over time also highlight longer term effects of unemployment spells. Ellwood (1982) indicates that a poor start induces lower lifetime wages and lower employment opportunities. Mroz and Savage (2006) document that unemployment at the age of 22 implies earnings 30 per cent lower at the age of 25, and below -2-3 per cent at the age of 30. Kletzer and Fairlie (2003) document that long-term unemployment at the point of entry into the labour market implies wage losses over the lifetime of 8 per cent for men and 13 per cent for women. Gregg and Tominey (2004) find that lifetime wage losses are even larger (13 to 21 per cent). Arulampalam (2001) finds that early unemployment increases the risk of new job losses later on in the career. Finally, Bell and Blanchflower (2009), as well as von Wachter (2009) point to health effects even 20 years after the loss of a job. The second legacy is related to the disappearance of open-ended contracts at entry into the labour market. The recovery from the recession was characterized almost everywhere by an increase in segmentation at entry. As shown by Table 3, the share of hiring in openended contracts has decreased at all ages since For the EU as a whole, in 2009, about one person out of four was hired on an open-ended contract compared to out of three in In Spain, Italy and Greece, only three hirings out of one hundred in 2009 were in permanent positions. The fact of the matter is that typically fixed-term contracts (and self-employment schemes) involve much less training on the job than open-ended contracts as both employers and employees do not have the right incentives to invest in human capital formation when jobs are not supposed to last. Under these conditions, there is a non-negligible risk that the generations entering the labour market during and after the Great Recession will accumulate much less human capital on the job than previous cohorts. Figure 8 below is drawn from the European Community Household Panel. It shows the difference in the incidence of vocational training between workers with permanent contracts and fixed-term contracts. Recoveries from financial crises are typically associated with a large use of temporary contracts as uncertainty and liquidity constraints discourage firms from making long-term commitments. The experience of Japan and Sweden in the 1990s is quite revealing in this context. These two countries experienced a strong rise in the share of temporary contracts. This meant also less human capital formation at the workplace for new generations of workers. 12

13 Ireland Denmark Germany Austria Portugal Belgium Spain United Kingdom Italy Greece Finland France Netherlands Mutual Learning Programme 2011 Figure 8 Strictness of EPL for Permanent Contracts and share of Dual Workers On The Job Training: Difference Between Permanent and Temporary Employment Sources: OECD, Labor Force Statistics; Eurostat; and IMF staff calculations. The next section discusses policies that could deal with segmentation and improve human capital formation among new entrants in the labour market. Table 3 Share of Hiring in Permanent Contracts 2007 and 2009 European average Spain, Italy, Greece Age class 2007 Delta Delta Average Source: Eurostat European LFS, microdata

14 4 CONCLUSIONS: THE FATE OF THE GREAT RECESSION GENERATIONS The above suggests that tackling labour market segmentation is essential to reduce the risk that the Great Recession generations are lost generations. However, reducing labour market dualism is not an easy task. The most obvious thing one may be tempted to do is to phase out temporary contracts. This would, by definition, prevent dualism in the formal labour market. Moreover, it could be a rather popular policy: in light of the strong job losses associated with these contracts in the 2008/09 recession, pressures to phase them out are strong. However, discontinuing temporary contracts after a recession would mean experiencing the worst of the dual regime, the strong decline in employment during the downturn, without getting the honeymoon during the recovery. As shown in section one, temporary contracts significantly increased the employment content of growth during the global upturn. If countries want to reduce dualism without giving up the benefits of the job-creationenhancing effect of the increased employment volatility in the recovery, they should find a way to credibly maintain flexibility in labour markets, even in the presence of strong pressures to go back to the rigid regime. Another issue relates to the fact that temporary workers receive less training than workers with open-ended contracts. One way to encourage more hiring during the recovery and to foster on-the-job training is to reduce the dualism of labour markets by allowing for graded employment security, that is, dismissal costs in permanent contracts gradually increasing with tenure length. In particular, policymakers could promote entrance into the permanent labour market in stages, making job security provisions in the form of mandated severance payments, increasing steadily as workers acquire tenure without large discontinuities. To give a few examples, in Italy, permanent contract holders are protected from the start by norms forcing employers to reinstate the worker in the firm in the case of unfair dismissal, in addition to paying them a statutory severance pay. In France, when the worker reaches two years in a permanent contract, the employer must provide a personalized plan to help the employee to find another job. In Spain, economic dismissals from permanent contracts require an administrative approval. Employers typically avoid going to Court by paying upfront the worker. These costs can be as high as 36 months of salary in Italy. A graded tenure scheme could involve in all of these cases a statutory severance payment increasing steadily with tenure length (e.g., 5 days of severance per quarter) reaching gradually up to the maximum level currently envisaged by national regulations. This reduces the uncertainty of firms in relation to the costs of dismissals, reducing the costs of employment protection for employers. At the same time, it allows flexibility to be preserved without creating a dual labour market structure. The fact of the matter is that dualism originates from the asymmetry in employment protection between permanent and open-ended contracts. As visually indicated by Figures 9 and 10, countries which have the strictest employment protection provisions for permanent contracts are precisely those having the largest share of dependent employment in fixed-term contracts and experiencing lower transitions from temporary to permanent contracts. 14

15 5 Share of temp workers Transition Probability Mutual Learning Programme 2011 Figure 9 Strictness of EPL for Permanent Contracts and share of Dual Workers GBR IRL AUT BEL ITA GRC ESP FIN FRA PRT EPL Regular Contracts Index Source: OECD EPL database and Eurostat LFS, 2008 (originally published in Boeri, 2010, pp. 1201). Figure 10 Strictness of EPL for Permanent Contracts and Probability that a Fixed-term contract is transformed into an Open-ended contract within one year ESP PRT NLD ITA FRA FINGRC SWE USA GBR JPN DNK IRL BEL EPL Regular Contracts Index AUT Source: OECD EPL database and Eurostat LFS, 2008 (originally published in Boeri, 2010, pp. 1202). 15

16 One should also take into account that dualism is likely to deeply affect future pension entitlements of the youngsters by three main channels: i) workers with temporary contract earn, ceteris paribus, less than workers with open-ended contracts; ii) they experience more frequent career breaks, and iii) they are generally not covered by unemployment insurance and not paying contributions to the pension insurance. According to our estimates (Boeri and Galasso, 2011), dualism implies a reduction to 59% of the replacement rate of pensions in Italy and to 56% in Sweden. Overall, there is no time to waste in addressing the dualism of labour markets and preventing a huge human capital loss for entire crisis generations. Recoveries from financial crises are typically associated with a large use of temporary contracts as uncertainty and liquidity constraints discourage firms from making long-term commitments. The experience of Japan and Sweden in the 1990s is quite revealing in this context. These two countries experienced a strong rise in the share of temporary contracts. This meant also less human capital formation in the workplace for generations of workers. Europe cannot afford such a loss. 16

17 5 REFERENCES Arulampalam, W. (2001), Is Unemployment Really Scarring? Effects of Unemployment Experiences on Wages, Economic Journal, Vol. 111(475), pp. F Bell, D. and Blanchflower, D. (2009) What should be done about rising unemployment in the OECD?, IZA DP No Boeri, T. (2010), Institutional Reforms and Dualism in European Labor Markets, in Ashenfelter, O. and Card, D. (eds.), Handbook of Labor Economics, Vol. 4B, Elsevier. Boeri, T. and Garibaldi, P. (2009), Beyond Eurosclerosis, Economic Policy, Vol. 24(59), pp Boeri, T. and Galasso, V. (2011), Is Social Security Secure with NDC, in Holzmann, R., Palmer, E. and Robalino, D. (a cura di), NDC Pension Schemes: Progress and Frontiers in a Changing Pension World, forthcoming. Ellwood, D. T., (1982), Teenage Unemployment: Permanent Scars or Temporary Blemishes?, in The Youth Labor Market Problem: Its Nature, Causes, and Consequences, pp NBER. Gregg, P. and Tominey, E. (2005) The wage scar from male youth unemployment, Labour Economics, Vol. 12(4), pp Kletzer, L. G. and Fairlie, R. W. (2003), The Long-Term Costs of Job Displacement for Young Adult Workers, Industrial and Labor Relations Review, Vol. 56(4), pp Mroz,T. A. and Savage, T. H. (2006), The Long-Term Effects of Youth Unemployment, Journal of Human Resources, Vol. 41(2). OECD (2010), Off to a Good Start? Jobs for Youth, OECD Publishing. von Watcher, T. M. and Sullivan, D. (2009) Job Displacement and Mortality: an analysis using administrative data, Quarterly Journal of Economics, Vol. 124 (3), pp