Can ‘Flexicurity’ be Considered a Viable Solution to the Problem of Unemployment in Europe? (2017), by Sean Gabb

Can ‘Flexicurity’ be Considered a Viable Solution
to the Problem of Unemployment in Europe?

Note: One of my duties in the various places where I teach is to show students how to write essays – something most young people are not nowadays taught to do. What I like to do in class is to choose a question at random, discuss possible approaches, and then dictate an answer one paragraph at a time. Some of these answers are very short. Some amount to small dissertations. In this latter case, the students take turns at looking on-line for the information we decide is needed. It they cannot find it, I show them how to change the structure of what has already been written, or to strike out in a new direction.

It is a “writing masterclass” approach that makes use of my own strengths, and is often a welcome alternative to formal teaching. It fills up a long morning session. Everyone learns something, and the more attentive will improve their final grades by at least one step.

Here is an example of the finished product. Do not take it as a statement of personal opinion. It is an answer produced for a specific question, and it bears in mind what a possibly unknown examiner will appreciate, and what can be written to incorporate the sources found in class. SIG

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In November 2014, unemployment in the 28 member states of the European Union was 10 per cent. This was down from 10.7 per cent the previous November. (Eurostat, 2015) These are the latest figures for what has been a long term problem. During the 1960s, European unemployment averaged 2 per cent. It averaged 5 per cent in the 1970s, and 8 per cent in the 1980s. It has been regarded as a more or less serious problem since the 1990s. (Blanchard, 2004)

Of course, these figures are constructs. There are many definitions of unemployment, and there are obvious problems in comparing figures collected on different bases. Though the latest figures cited appear to have been collected on the same basis, they may not easily compare with those for the 1990s and earlier. Also, the European Union has grown, from six member states in the 1960s, to 28 today. We are plainly not comparing like with like. Also, again, the figures cited are an average for the member states, all of which have different unemployment levels. For example, unemployment in Austria was 4.9 per cent at the end of 2014 and 25.7 per cent in Spain. Apart from Slovakia and Hungary, the heaviest unemployment seems to be concentrated in those member states that have a Mediterranean coast. (Eurostat, 2015)

This much being said, unemployment is generally considered to be a serious problem in the European Union. There are an estimated 24.5 million people here who are seeking work and unable to find it. (Eurostat, 2015) If we add to this reasonably hard figure those who are not looking for work because they know they will not find it, and those who are in part-time or otherwise unsatisfactory work, the true figure may be much higher. Or it may be lower if we take into account the large but essentially unmeasurable incidence of welfare fraud and the black economy. But there can be no doubt that unemployment is a blight on the lives of those who experience it directly. It lowers output below the full-employment level. It is another cause of the heavy taxation that may be dampening economic growth in Europe.

The question to be discussed in this essay is what can be done about European unemployment. What steps can be taken to help mend the economically broken lives of individuals and families, and to restore Europe to the prosperity that it enjoyed before the 1980s?

The main initiative at the European Union level is called “Flexicurity.” According to the House of Lords Select Committee on European Union,

flexicurity promotes a combination of flexible labour markets and a high level of employment and income security and it is thus seen to be the answer to the EU’s dilemma of how to maintain and improve competitiveness whilst preserving the European Social Model. (Lords, 2007)

It is further explained by the European Commission:

Flexicurity is an integrated strategy for enhancing, at the same time, flexibility and security in the labour market. It attempts to reconcile employers’ need for a flexible workforce with workers’ need for security – confidence that they will not face long periods of unemployment. (Commission, 2007)

Based on Danish experience since the 1980s, and the Scandinavian model in general, there are three essential elements to Flexicurity. These are:

  1. Limited employment protection, so that employers can take on and shed labour with few restrictions;
  2. Generous welfare provision for those workers who are unable to find work;
  3. Strict conditions for the receipt of welfare, so that the unemployed are made to seek work and to retrain for the jobs that are available.

A fourth condition usually added is that workers should go beyond retraining and engage in continuous lifelong learning to enhance overall flexibility and productivity in labour markets. (Lords, 2007)

As said, this is an initiative at the European Union level. Now, the European Union is not a centralised state, nor perhaps a federal state. It is a treaty organisation comprising 28 sovereign states, each with its own structures of government and employment and welfare policy, and each with its own balance of economic problems and opportunities. The actual power of the European institutions to enforce a common policy varies from case to case. Where Flexicurity is concerned, the European Union largely confines itself to setting out general principles, and then leaves specific implementation to the member states. Because of this, the European Commission explicitly speaks of “Flexicurity pathways.” Beyond the idea of combining some flexibility of labour markets with an assured safety net, there is no central direction. (Sonja Bekker, 2008, p.69)

To assess in detail the implementation and success of this initiative across 28 member states, and during the past decade, cannot come within the scope of an essay as short as this must be. Instead, a broad judgement will be made. Before then, however, we need to understand the fundamental causes of unemployment. Judging policies without a settled criterion is unlikely to be fruitful. We therefore begin by recognising that, though we are talking of human beings, labour is a commodity, subject to the same laws of supply and demand as any other commodity.

Unlike in consumer markets, where marginal utility is the determining force, demand in most labour markets – we exclude labour for the supply of personal services – is derived. It is derived from an interplay between the diminishing marginal productivity of labour, assuming fixed quantities of the other factors, and the diminishing marginal revenue when output is increased. This interplay results in a demand curve sloping downward from the right. Other things being equal, lower wage rates will produce a higher demand for labour. Higher wage rates will produce a lower demand. Once we move beyond static analysis, and once we allow that other factors are seldom if ever fixed in quantity, the picture becomes more complex. But let what has been said do for the moment.

The supply of labour is determined by the demand of workers for money to buy things. Other things being equal, higher wages in any particular sector will produce a greater supply of labour. To be sure, there will be different elasticities of supply. A 10 per cent increase in wage rates may double the number of applicants for jobs in the fast food sector. A doubling of wage rates may have little effect on the supply of microbiologists or goldsmiths.

A further consideration is that workers are trading leisure for money. Both are valuable. When money wages are low, workers may respond positively to wage increases. More workers will move into a sector, subject to barriers to entry, or will put in longer hours. Most people, though, have a point where the benefit of another hour worked is lower than the benefit of an hour of leisure. Over time, this can make labour supply curves slope backwards. More money, therefore, does not always produce more workers or more hours worked. But, at any one moment, we can say that labour supply curves slope upwards from the left.

We can put these curves together on a standard cross diagram. Let us suppose a labour market in which the daily wage is £35. Let us suppose that, at this daily wage, employers demand 250 workers and 250 workers offer their labour. In this case, we have a market in equilibrium, which we can show as follows:

In such a market, there is neither unemployment nor any shortage of labour.

Let us now suppose, however, that some intervention in the market increases the daily wage from £35 to £40, and that all else remains equal. In this case, the demand for labour may fall from 250 to 200 workers, and the supply of workers may increase from 250 to 300. We see this expressed thus:

In this market, there is unemployment. Measuring the fall in employment from its previous level, we can say that the unemployment is 20 per cent. Or, we can measure the difference between labour demanded and labour now supplied as an unemployment rate of 33 per cent. Whatever the case, unemployment has resulted from a disequilibrium in the labour market. This can come about from a change in wage rates, or from some change in the determinants of supply and demand while wages remain constant.

Therefore, we can say that European unemployment is the result of disequilibria in European labour markets. But, while there can be no meaningful discussion if this truth is overlooked, the truth itself says nothing about the causes of the disequilibria.

Assuming the truth of the above, it is an a priori certainty that, so far as they push wages above equilibrium levels, the minimum wages laws that exist in most member states must cause some unemployment. There are empirical studies that seek to deny this. For example, Kostas Karamanlis and Charis Naxakis both argue that rises in the Greek minimum wage between 2000 and 2014 had no causal effect on the high unemployment in Greece. (Kostas Karamanlis, 2014) There are many other studies for other countries, arguing that the normal laws of supply and demand do not apply in labour markets.

Does a priori reasoning take precedence over empirical evidence? It should do, when the reasoning is sound, and when the evidence is hard to gather, and when there is no way of setting up an experiment in which one variable at a time can be changed. As a subject, Economics needs to take account of facts, but is not in itself based on fact. Once raised above the equilibrium rate in any particular market, minimum wage laws must lower demand for labour in that market. Either certain work will not be done at all, or it will be done by substituting capital for labour. The workers most affected in such markets will be the young or recent immigrants, both of which groups will, for various reasons, be less productive than adult natives. It is a common observation in Europe, hardly worth citing evidence to prove, that there is heavy unemployment among these groups.

Or there are more or less generous welfare systems. Let us return to the above analysis. Let us suppose the equilibrium daily wage is £35 in a particular market. Let us now say that, if workers choose not to work for this, they will get £30 a day in some kind of welfare. This reduces the effective daily wage to £5. As said, employment is trading leisure for money. Change the wage rate, and the amount of leisure workers are willing to give up will change.

Again, there are empirical studies claiming that welfare has little or no effect on unemployment. According to Olivier Blanchard:

[There is] no obvious relationship between the degree of social protection and the unemployment rate today. For example, the Netherlands has returned to low unemployment while continuing to offer high social protection. Scandinavian countries have maintained both high social protection and a low natural rate of unemployment. (Blanchard, 2004)

This may be true, but possibly owes more to an autonomous work ethic, or strict entitlement rules, than to any suspension of the laws of supply and demand. Other things being equal, state welfare provision will increase unemployment.

Or there are employment protection laws. Looking at Italy, Matthew Melchiorre and Emilio Rocca say:

Simple solutions to complex problems often have unintended and undesirable consequences. An example is Italy’s approach to combating unemployment. Rigid laws designed to protect the employed perversely discourage businesses from hiring and people from working. They also encourage precarious temporary employment among young people, informal work, and under-the-table deals that compromise worker benefits. The numbers of Italy’s unemployed and of those outside the workforce are much higher than official estimates suggest. Italy’s employment protection legislation – arguably the most restrictive in Europe – creates that which it seeks to prevent: the insecurity of unemployment. (Matthew Melchiorre, 2013)

Here is another alleged matter of fact. Whether it is true cannot presently be said. But it is not inconsistent with the analysis given above. When it is difficult to sack workers, or to vary their wages, employers will be reluctant to take them on. We can use Figure 2 above to express this. The effect of employment protection laws is to make an addition to the stated wage rate that takes into account possible future difficulties. Again, work will not be done, or will be done by heavier investment in machinery than would otherwise be the case.

Or, if we move away from employment protection laws, there may be high non-wage costs. These might be holiday or maternity pay, or various insurance payments, or health and safety or other regulatory costs. These will also add to the stated wage rate and produce market equilibria.

Then there are structural problems, where a labour market simply collapses. This may be due to technological change, or to changes in the pattern of comparative advantage, or to changed customer preferences. There are examples of these all over the European Union – steel and shipbuilding in Britain come to mind. But take Slovakia. In the Communist period, much weapons manufacture for the Warsaw Pact was concentrated in Slovakia. Demand for tanks and artillery ended after 1989. The country has suffered heavy structural unemployment ever since in its eastern industrial regions. (Bell, 2004) We can save our a priori analysis by saying that really heavy falls in wage rates could have avoided this unemployment. There is always some work that employers will pay to have done. But, speaking realistically, we cannot expect skilled mechanics to dig for potatoes at €1 an hour – especially when there is a welfare alternative.

Finally, though there are other causes that might be discussed, there is a general fall in demand. The 2008 financial shock led to falls in demand for both consumer and producer goods all over the world. Given absolutely flexible wage rates, there need have been no fall in employment. Given minimal labour market and other regulation, the fall in wage rates might have been moderated while still maintaining full-employment. But a combination of the financial shock and rigidities in labour markets led to rises in unemployment across Europe that remain a problem.

This being said, while the financial crisis did not help matters, European unemployment has been rising since the 1970s. There may at times have been leftward shifts in the aggregate demand curve. But the problem under discussion must have other causes than a deficiency of effective demand. According to Paul Krugman, a distinguished modern follower of John Maynard Keynes:

If there is a recessionary gap, so that the output gap is negative, nominal wages eventually fall, moving the economy back to potential output and bringing the output gap back to zero…. So in the long run the economy is self-correcting: shocks to aggregate demand affect aggregate output in the short run but not in the long run. (Krugman, 2011, p.435)

Otherwise, we can use Milton Friedman’s concept of a natural rate of unemployment. This is the level of employment determined in conditions of monetary stability by the prevailing rigidities in the labour market. Expansionary policies will temporarily lower the rate of unemployment, just as contractionary policies will temporarily raise it. But, once the monetary disturbance has worked its way through the economy, unemployment will return to roughly where it began. Or a slow liquidation of malinvestments made during an expansion may raise the level. (Friedman, 1976)

We return to the European Union’s Flexicurity Initiative. As said, there has been no central direction of policy. Each member state has pursued Flexicurity according to its own internal balance of opposed political forces. Can we see any correlation between greater economic success and the implementation of Flexicurity?

Perhaps the most recent, and reasonably impartial, survey of Flexicurity implementation is from the Taub Center, a policy institute in Israel. In its 2014 State of the Nation Report for Israel, it tries to answer the question just posed. Looking at the variables of labour market security, levels of social protection, and taxation, it divides countries into five groups. These are: Anglo-Saxon, Continental (Germany, France, etc), Mediterranean, East European, and Flexicurity – these last being Denmark, Finland, the Netherlands, Norway, and Sweden. These last are the countries where Flexicurity has been most steadily implemented. (Dan Ben-David, 2014, pp.181-82)

After fifty pages of analysis, the authors conclude:

As the socioeconomic indicators examined in this chapter suggest, it does not appear that the Flexicurity countries fared worse than other developed Western European countries during the massive recession of recent years. (Dan Ben-David, 2014, p.207)

This is a modest conclusion. It neither endorses nor rejects Flexicurity as a policy for dealing with unemployment. On the other hand, it may be the most that can be honestly said. Comparative economic surveys never compare like with like. To repeat, there are no experiments that can be set up and repeated, as in the natural sciences. And any assessment of economic policies during the present century must be made against the backdrop of the biggest exogenous shock since the 1930s. We might be able to say, on a purely empirical basis, that Soviet Socialism was less successful in terms of raising standards of living than Western Capitalism. The evidence there is too compelling to overlook. But the 28 member states of the European Union are, by international and historical standards, broadly similar. They are all liberal democracies. They are all mixed-economy welfare states. Sorting out, in any one of them, how unemployment has been affected by labour market policies and by the global financial crisis of 2008 and the austerity policies that followed probably cannot be done by purely empirical analysis.

To give our own conclusion, we return to a priori reasoning. Other things being equal, more flexible labour markets will produce lower levels of unemployment than would otherwise exist. So long as it is properly directed, state assistance with retraining and education will promote more flexible labour markets. Stricter welfare entitlements will make it more attractive for the unemployed to look for and to take jobs.

Supposing this to be true, the Mediterranean countries of the European Union would benefit from Flexicurity. Perhaps other member states might benefit from a rigorous implementation of the headline principles of Flexicurity. But this opens the wider question of the whether the political structures and cultural assumptions of these countries will ever allow the radical deregulation that Flexicurity for them would require.

Bibliography

Bell, I., 2004. Central and South Eastern Europe 2004. Europa Publications.

Blanchard, O., 2004. Explaining European Unemployment. Cambridge (MA): The National Bureau of Economic Research.

Commission, E., 2007. What is Flexicurity? http://ec.europa.eu/social/main.jsp?catId=102.

Dan Ben-David, L.B., 2014. Labor Market Reform in Israel and the Flexicurity Option. In State of the Nation Report 2014. Jerusalem: The Taub Center. pp.171-223.

Eurostat, 2015. Euro area unemployment rate at 11.5%. News Release. Brussels: European Commission.

Friedman, M., 1976. Inflation and Unemployment. In Nobel Memorial Lecture, December 13, 1976. Chicago, 1976. University of Chicago.

Kostas Karamanlis, C.N., 2014. Minimum Wage and Unemployment in Greek Labour Market: A Descriptive Analysis. International Journal of Human Resource Studies, 4(4).

Krugman, P., 2011. Essentials of Economics. 2nd ed. New York: Worth Publishers.

Lords, H.o., 2007. Select Committee on European Union Twenty-Second Report, Chapter Four. London: House of Lords.

Matthew Melchiorre, E.R., 2013. The Unintended Consequences of Italy’s Labour Laws: How Extensive Labour Regulation Distorts the Italian Economy. London: Institute of Economic Affairs.

Sonja Bekker, T.W., 2008. Flexicurity – a European Approach to Labour Market Policy. Intereconomics, March/April, pp.68-111.

© 2017, seangabb.

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