Trends in joblessness raise important questions about wages and labor shedding in the private as well as the state sector
The transition in Eastern Europe started in earnest two to four years ago, when unemployment was minimal and employment was massively dominated by state firms. Since then, output has declined dramatically, with, as yet, limited signs of recovery except in Hungary and Poland. The share of output and employment accounted for by the state sector has often declined significantly, albeit at differing speeds. The private sector is expanding fairly rapidly, accounting for between 10% and 45% of total employment. Out of this labor market restructuring, unemployment has finally emerged and---with the exception of Russia---now stands at between 10% and 15%, and in many countries it is still rising.[1]
The state sector's decline has been more gradual than initially predicted, although state firms have widely initiated restructuring prior to, or even in the absence of, title change. One corollary of this has been the surprisingly large flows of workers into and out of state firms. Except in the Czech Republic and Russia, large-scale privatization from above has been absent. The growth of the private sector has occurred mainly through new initiatives, concentrated for the most part in services and hence filling the gaps inherited from the previous system.
The scale of decline in state employment has depended not only on the size and type of negative shocks suffered by state firms, but also on such factors as relative bargaining power between workers and managers within firms, and factors external to firms, such as the degree to which a hard budget constraint has been enforced.
In the Czech Republic, Hungary, Poland, and Slovenia, a common response appears to have been present. Initially, firms proceeded slowly, relying on attrition to reduce their labor forces. Over time, as soft government finance has declined, job losses significantly beyond attrition have resulted. So, labor productivity, after initially falling, has subsequently revived. By contrast, in Romania and Russia, soft budget constraints have led to far more gradual declines in state employment.
One fear at the start of the reforms was that state firms would not only protect employment but, because of uncertainty about future survival and access to rents, would also maximize current labor income and effectively decapitalize firms. This fear was for the most part unwarranted. Incomes policies placed restraints on wage claims in all countries. And incumbents' horizons have lengthened as the prospects of widespread privatization from above have receded and their concern with preserving employment has grown. So, real wages, deflated by consumer prices, have remained in all cases significantly below their pretransition levels. But wages deflated by producer prices and by unit labor costs have recovered and in some cases now exceed the prereform level. This suggests that the presence of wage rigidities should not be discounted, despite the initial flexibility of real consumption wages. Indeed, signs of stronger wage pressures from incumbent employees are evident.
The private sector's expansion has, of course, in part been a function of the rate of decline of the state sector. Where ambiguous policies or explicit mechanisms for maintaining the state sector have been retained---as in Romania---growth in private firms has been held back.
A similar outcome, but for rather different reasons, can be found in Bulgaria, where the absence of buffers, given the size of the initial shock and subsequent adjustment, resulted in large contractions in both output and employment in the state sector.
Another variant is evident in Slovakia, in regions of Russia, and in regions within environments of high overall private growth, such as northeast Hungary. In these places private sector growth was constrained by regional or loca- tional attributes, such as the dominance of single industries in local production.
Elsewhere, the picture is brighter. Growth has been quite rapid, as in the Czech Republic, Hungary, and Poland. The private sector has been promoted through a combination of credible macroeconomic policies leading to high domestic and foreign direct investment, proximity to strong neighboring markets, and good luck. But in all cases, private sector growth can be explained largely in terms of growth in the previously underdeveloped service sector. With the removal of constraints in this area, demand has grown quickly, and some new job openings have emerged.
Would flows from the state sector be primarily to unemployment, with hiring from the pool of jobless? Unemployment has emerged largely because of the shedding of workers by the state sector. Not all of these workers are employable---some may take a few months to find work (resulting in frictional unemployment), and others are becoming part of a pool of long-term unemployed. The unemployment rate has tended to converge across countries, with the critical exceptions of the Czech Republic and Russia. In the Czech case, the surprisingly low---less than 4%---unemployment rate can be traced not only to powerful growth in private activity, but also to large movements out of the labor force and to a slower contraction of the state sector. In Russia soft budgets have allowed firms to continue to hoard---and even hire---labor.
But even where unemployment has been higher and superficially of a similar nature, significant changes occur over time, as well as across regions. In the Czech Republic, Hungary, and Poland, the initial adjustments to employment in the state sector were matched by direct flows to other jobs and by significant movements out of the labor force. Those who entered unemployment tended to be marginal workers or racial minorities, such as Romanies, and had dim job prospects.
Later, the distribution of unemployment over sex, age, and educational attributes converges more to OECD patterns at similar unemployment rates. At the beginning of the transition in some countries, particularly Hungary, it seems clear that search behavior by the jobless was also deterred by overly generous unemployment benefits. But over time the generosity of benefits has declined. Earlier low exit rates from unemployment to jobs have changed as flows into and out of unemployment have increased. Most job-to-job movements are now beginning to occur through unemployment.
But there is substantial turnover in both state and private sectors. It is incorrect to see unemployment as purely the sum of those who have lost employment in state firms. In both Hungary and Poland the largest component of flows into unemployment is indeed from the state sector. However, the private sector and the pool of new entrants and reentrants each account for between a quarter and a third of flows into unemployment. But while there are significant flows into and out of unemployment, these flows remain small relative to the stock.
The political viability of reform may be compromised by the growth in unemployment, and the fiscal position may be compromised by the costs of providing additional benefits to the unemployed. But such a pessimistic scenario seems unlikely, at least in the Czech Republic, Hungary, and Poland.
Part of the reason is obvious. Higher unemployment will feed back into current wage claims as workers attempt to reduce the rate of decline in state sector employment. The state wage level will in turn affect private sector wages and, through downward pressure, promote further job creation in that sector. Similarly, with privatization from below the dominant method, deterioration in the options facing the unemployed will likely result in slower restructuring in state or privatizing firms, rather than in a simple increase in unemployment.