Saving Europe May Mean Reforming Labor Markets – But It’s Not Likely to Happen

Italy’s Labor Rules Work Against Labor

The pessimism that continue to envelop Europe is now taking on Germany and France.  France is pursuing an austerity program to try and protect its bond ratings, and Germany just found out that the bond vigilantes are targeting all of Europe, not just the weak economies.  A German bond offering has failed.

The problem is that if countries like Italy have difficulties, countries like Germany which are export driven will also falter, because export driven countries depend upon the health of their customers.  China is another country that may learn this lesson the hard way, that if the U. S. and Europe, their major customers have a problem, China has a problem.

Italy is one of the weak countries of Europe that now has a new government.  The new government is charged with getting Italy’s debt under control and with implementing policy that will create growth.  This will be impossible without reforming Italy’s labor market practices.

Italy, like much of Europe has labor market policies which although ostensibly designed to protect labor, actually works in opposition to labor.

Italian work contracts are negotiated nationally. Union leaders and employer federations set pay scales, benefits packages, and employment conditions for entire classes of workers—metal mechanics, textile laborers, construction workers, journalists, even maids and nannies. Workers—especially public employees—are guaranteed the same wage wherever they live. Never mind that living in Milan is 10 percent more expensive than Naples, according to Italy’s National Institute for Statistics. Negotiating labor contracts at the national level also removes nearly all incentives to compromise. 

These contracts just about make it impossible for Italian firms to fire anyone or to manage the labor, so here is the result

The World Economic Forum ranks Italy 123rd out of 142 countries in the efficiency of its labor market. Employers are robbed of their ability to innovate, from experimenting with hours of operations to introducing new forms of wage structures. Meanwhile, national strikes roll around like federal holidays—one every month or so and almost always on a Monday or Friday to guarantee participants a three-day weekend. On average, Italian workers spend almost six times as many hours on strike as their German counterparts, according to the European Industrial Relations Observatory. In the past decade productivity has remained flat, even as its neighbors to the north have continued to work more efficiently.

And employment is Italy become fractured, with those in good jobs given tremendous job security, and employers afraid to hire anyone for fear they can never ever reduce the labor force if economic conditions require it.

Those in the top tier cling to their jobs knowing that if they quit they’re unlikely to find another. Unlike in the U.S., where constant churn means jobs are continuously being opened and filled, in Italy the labor market has seized up. Workers can’t move where they’re most productive. Potential entrepreneurs don’t dare drop out of their regular jobs to launch startups, for fear they would not land another good position should they fail. And woe to those who clash with their boss; the flip side of protection from being fired is that it’s very hard to change employers.

 So Italy has a big underground economy

Anywhere from 15 percent to 27 percent of economic activity is underground, according to the Organization for Economic Cooperation and Development and the International Monetary Fund. In this world, receipts are unheard of, taxes unpaid, and union rules don’t apply.

And so the current status of the labor market is this

 The result is a three-tiered labor force, a setup Italians dub “apartheid.” Of 27 million workers, 15 million—most 40-plus—enjoy stable jobs with guaranteed privileges. An additional 8 million, mostly younger, form a growing army of freelancers and employees on continuously rolled-over short-term contracts. They receive none of the benefits that would in theory be granted under the generous labor laws. The remainder, 4 million or so, toil in the unprotected underground economy, according to Italy’s National Institute for Statistics.

So Italy has a labor force that protects the older workers at the expense of younger workers.  And unless Italy reforms this market, economic growth that is desperately needed to return fiscal stability to the country will not happen.  And if the goal is to reduce the level of debt as a percentage of GDP, guess what happens when GDP is declining and debt is rising.

The new government of Italy is composed of technocrats as opposed to politicians.  This means they know what to do.  It also means that they probably will not be able to do it, and until they and other new governments in Europe can show they will be able to do it, expect to bond vigilante attacks to continue.  And that is not good for anyone.