Thursday, May 19, 2011

European Responses to the Great Recession

The Center for Economic Policy Research has released a report comparing and contrasting labor market policy response response to the Great Recession by two European countries, Denmark and Germany, who have very different labor market policy positions.  The report's conclusions are interesting in their potential application to the American jobs crisis.

The experience of the Danish economy from the mid-1990s through the Great Recession did a great deal to change the consensus view on the need for labor-market “flexibility” at all costs. In 2007, just before the downturn, the Danish unemployment rate was 4.0 percent (compared to 4.6 percent in the United States) and the employment-to-population rate was 77.1 percent (compared to 71.8 percent in the United States). Low-wage work was rare, and income inequality was near the lowest levels in the OECD. Yet, by OECD standards, Denmark had high taxes, high unionization rates, generous unemployment benefits, and a costly  system of education, training, assistance, and incentives for unemployed workers.
The Danish model – often described as being built around “flexicurity” – worked, it seems, because it combined a high level of “flexibility” for employers with equally high  levels of “security” for workers. The flexibility came primarily in the form of low levels of legal employment protections combined with a willingness of Danish unions to accept layoffs. The security came in the form of high wages, strong unions, and generous unemployment insurance and other benefits.
If the state provides for people during a downturn, then the unions that represent those people are willing to act flexibly.  The downside of labor "flexibility" is that the economy must be willing to accept higher rates of unemployment in the depths of recession.  Denmark's ability to provide for displaced workers, though, ensures that the human toll of these policies is minimized.
Before the Great Recession, Germany was no one’s ideal model of labor-market performance. Unemployment was high, job creation was weak,  and wage inequality was on the rise, primarily because of the sharp rise in low-wage and precarious employment that began in the mid- to late-1990s. German companies were profitable and the country was a successful exporter, but the labor market was generally not delivering. The German labor-market’s performance since the Great Recession, however, has been remarkable. In 2007, before the downturn, the German unemployment rate was 8.7 percent (using the OECD’s internationally comparable measure, which differs slightly from the official German rate); by 2009, when the rest of the world was feeling the worst of the economic crisis, the unemployment rate in Germany had fallen to 7.5 percent.
The German model where employment "stickiness" replaces the Danish flexibility allows for the employment levels to remain high even during the depths of a recession.

What conclusions can be drawn from the comparison of Denmark and Germany for the United States?
Translating these lessons to the US context, however, is a challenge. Firing costs are low in the United States and the two main avenues for raising firing costs – employment protection legislation or a rapid expansion in collective bargaining – appear unlikely in the foreseeable future. Individual US states could expand the use of short-time work programs within their unemployment insurance systems, but the scale of expansion required would be substantial and would require addressing a host of concrete barriers that keep take-up rates low.

A federal program to subsidize temporary reductions in work hours – by giving tax credits to employers who implement or expand paid sick days, paid family leave, paid vacations, four-day workweeks, or other practices that reduce hours – instead of, or in addition to, expanding state-level unemployment insurance programs might also help.

Unfortunately, US labor-market institutions have fared far worse than the OECD average since 2007, turning any given decline in GDP into far more unemployment than almost every major economy in the OECD. To the extent that US policy makers have decided on any course of action, it appears to be, in President Obama’s words, to “win the future” by investing in education and training. The experience of Denmark, which won the future in the 1990s and 2000s, however, gives cause for caution. Education, training, and other measures to connect workers to jobs only work when there are jobs to be had. For the immediate future, the experience of Germany looks to offer a better way forward.

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