Search

PDF version available for download (PDF help)

Ten points on regulation

This briefing concentrates on employment protection legislation (EPL) - primarily rules on hiring and dismissal, including compensation that has to be paid to workers by their former employers. Temporary employment is often also a focus for EPL. The arguments spill over to other forms of regulation, so there is a very brief look at these too.

The theory on employment protection legislation is quite simple: EPL tends to discourage employers from hiring during the growth phase of the economic cycle but it also discourages layoffs during the recessionary phase. Over the cycle as a whole, the effect is neutral, but EPL tends to promote greater overall stability, with smaller employment swings from boom to bust.

This isn't an eccentric lefty position; here's John Philpott, then the chief economist for the Chartered Institute of Personnel and Development (the professional body for HR managers), talking about plans to water down unfair dismissal rights -

'The vast weight of evidence on the effects of employment protection legislation suggests that while less job protection encourages increased hiring during economic recoveries it also results in increased firing during downturns. The overall effect is thus simply to make employment less stable over the economic cycle, with little significant impact one way or the other on structural rates of employment or unemployment.

'There is no evidence that UK employment suffered significantly in the 1970s as a result of the introduction in 1975 of a six month qualifying period for rights against unfair dismissal or that there was any substantial benefit when the qualifying period was subsequently raised to two years in the 1980s before being lowered to one year in 1999.'

It is important that regulations should not only be considered as impediments to efficiency or profitability. When evaluating any given regulation, the good things it aims to achieve should be put in the balance as well as any negative effects. To take an example, the British Chambers of Commerce 'burdens barometer' includes the minimum wage - not the cost of complying with it, (which would be fairly small) but the cost of paying N.M.W. rates when businesses would otherwise be able to exploit vulnerable workers. This is an approach that would make it impossible to justify the ban on employing young boys as chimney sweeps, let alone more recent legislation.

The UK is not heavily regulated by international standards. Here's the OECD's ranking for strength of employment protection legislation:

Source: OECD Employment data

The OECD index is a composite, if we look at the sub-index for protection of permanent workers from individual dismissal (which is the focus for many proposals for weaker rights), the UK again languishes near the foot of the table:

The World Economic Forum's latest Global Competitiveness Report ranked the UK 5^th out of 144 countries for 'labor market efficiency' (based on a survey of business executives).

Other tables are available: the Institute for Economic Affairs publishes a report on the Economic Freedom of the World based on an index that is made up of such items as 'size of government', 'sound money' and 'business regulations' and one component is 'labour market regulation'. The UK ranks 21^st on this index - presumably this is what neo-liberals are thinking of when they insist that this country is 'falling behind' on de-regulation. The countries that we need to catch up with include Bahrain , Montenegro, Fiji, Burundi, Jordan and Haiti - according to the IEA, the freest country in the world in this regard. (The links are to entries in the International Trade Union Confederation's latest annual Survey of Violations of Trade Union Rights)

Employers are not crying out for de-regulation. The latest edition of the BIS Small Business Barometer (published in October, data for August) asked 500 SMEs about their main obstacle to success. 'The state of the economy' was the biggest obstacle, listed by 45 per cent and 'obtaining finance' was next, mentioned by 12 per cent. After this came taxation, cashflow, competition and regulations - just 6% listed regulations as their main obstacle. There is a similar picture in the ONS Access to Finance statistics, which includes figures for 'limiting factors for business growth': the 'general economic outlook', 'price competition', 'limited demand in domestic markets' and the 'high cost of labour' were substantially more likely to be listed by businesses than the 'regulatory framework.' The respondents in the World Economic Forum's survey of business executives did not rate 'restrictive labor regulations' as a major 'problematic factor' either:

Academic studies of labour market institutions (such as the generosity of Unemployment Benefit, the strength of unions and the strength of EPL) have found that most have little or no effect on the level of unemployment. The exceptions are the 'tax wedge', which has a limited effect and co-ordinated collective bargaining, which is associated with reduced unemployment. John van Reenan at the London School of Economics reviewed the Beecroft proposals for easier dismissal, and pointed to 'total lack of any evidence on the likely impact of the proposals.' He noted that 'the vast majority' of studies had found that 'tougher EPL does not increase unemployment (but neither do they reduce them).' The OECD's 2012 Going for Growth report (£) reviewed the evidence and found that

Based on a handful of reform experiences, it seems that reducing job protection on regular contracts has no significant effects on aggregate employment, consistent with priors. Still, there is tentative evidence that job protection reforms may reduce unemployment in the short run, especially for certain marginal categories of the labour force such as young people and women, who may enjoy better relative job prospects from a relaxation of regular contract provisions.

In 2010 Howard Reed analysed OECD productivity data for the TUC and found that the correlation between EPL and productivity was 'tiny'. Recent international regression studies have found that there may actually be a positive relationship between EPL and productivity growth. Other studies suggest that the 'flexicurity' model may achieve greater productivity gains - in this model, yes, there is less EPL, but this is combined with generous social security and well-developed social dialogue.

The proposition that employment regulation harms productivity and employment was intensively debated in the run-up to the introduction of the minimum wage. Some right wing economists claimed that one million jobs would be lost. Dickens, Riley and Wilkinson analysed Labour Force Survey data and found 'the evidence does not suggest that increases in the NMW have adversely affected employment opportunities for low paid workers. This is in line with previous research on the introduction of and early increases in the NMW.' The argument behind these claims is essentially the same as that behind all arguments for de-regulation: regulations make employment more expensive, eliminate them and employment will rise. This argument works in theory, but it has failed in the debate where the arguments about regulation have been most fiercely tested.

It is always worth pointing out that employment rose after the UK introduced the minimum wage, new trade union rights, guaranteed holidays and so on. The recent increase in unemployment is clearly due to the global economic crisis, not any change in employment regulation. The global crisis is by far the biggest problem facing businesses around the world and it was not caused by over-regulation. And withdrawing some forms of regulation would probably make the economic crisis worse: abolition of the minimum wage, for instance, would have a detrimental effect on consumer spending and thus reduce economic output.

Of course, labour market regulation isn't the only sort of regulation that neo-liberals hate; they also rail against environmental and financial regulations. This is probably the worst time ever to argue that financial regulation is a bad thing. A recent paper published by the IMF, The Economic Crisis: Did Financial Supervision Matter? Donato Masciandaro, Rosaria Vega Pansini, Marc Quinty, IMF WP/11/261 Nov 2011 (but not a statement of IMF policy) found that countries that did most to liberalise their financial markets (performing well on World Bank 'market friendliness' indicators) had the worst performance in the crisis. They concluded that: 'the countries with the best ratings in terms of public sector regulatory framework, as well as those countries with the most far reaching financial deregulation, were hit the hardest economically'.

Environmental regulation can help make markets more efficient, by putting a price on what would otherwise be a negative 'externality' - something that does not affect the producer but does harm someone else or society generally. As the Stern Report on The Economics of Climate Change put it:

Putting an appropriate price on carbon - explicitly through tax or trading, or implicitly through regulation - means that people are faced with the full social cost of their actions. This will lead individuals and businesses to switch away from high-carbon goods and services, and to invest in low-carbon alternatives.

Fact sheet (1,700 words) issued 5 Oct 2012