Thursday, February 09, 2006

Who wants labor market inflexibility?

I was invited by friends from Akatiga and Sociology Lab, FISIP-UI to discuss their research on Labor Market and Investment Climate. It was a good discussion.

In their sociological research, they particulary concern that labor market flexibility would degrade the labor condition and job security --and argue that due this flexibility there's a shift of permanent employment to non-permanent one (outsourcing, contract, etc) so that the labor's wealth and income becomes less certain.

My take: it is the labor market IN-flexibility that causes all of those problems abovementioned. In fact, so far our labor market is not yet flexible. The inflexibility imposes high cost for firms to hire permanent workers --and to fire when necessary(the severance payment is as high as 10 months salary, according to a fellow discussant from CSIS)--. Therefore the firms opt to hire non-permanent workers.

It seems to me that they're alarmed by the current formal worker's job security status, but as you may know the labor market rigidity harms the ones who are outside the formal sector --the unemployed and the informal sector's worker. It is a trade-off indeed between employment creation and job security of the labors already within formal sector.

Moreover, another discussant from SMERU revealed a bad news: he estimates that 1% economic growth may only absorb 225K employment --way below the government's figure. And according to our CSIS fellow, there is a recent shift from labor intensive to capital intensive investment --to partly confirm the low employment absorption.

1 comment:

  1. Let me be the devil advocate and ask whether unemployment will disappear completely if there is no "inflexibility" and labor market regulation at all?

    In standard neo-classical economics if there is excess supply then wage will go down and equilibrium reached. There shall be No Unemployment.

    But Adam Smith has written at length (Wealth of Nation paragraph I.8.11 to I.8.15, can be read online here) that wage actually decided by comparative strength of bargaining power between worker and employer.

    "The Labor Market As a Social Institution" (The Royer Lectures) by Robert Solow also questioned the paradigm. Lastly "Why Not Cut Pay" by T Bewley - in European Economic Review 1998, find in his research that modern labor economics theory fares very poorly in real life.

    Higher salary by itself could lead to higher output and profit due to higher morale and productivity. Better if tied with performance.