Labour Market Flexibility

8 Pages 1976 Words

stock of redundant but employed labour is carried over from pre-reform days and the economic reforms threaten to transform this disguised unemployment into open unemployment. If economic growth remains sluggish because of declines in saving and investment rates, social costs can be very substantial.

How can labour market flexibility reduce or preempt these social costs? The standard argument focuses on wage flexibility: downward flexibility of wages can counter the contractionary effect of stabilization policies in the short run and can help generate appropriate wage differentials so as to induce labour reallocation in the medium term. Thus, it is argued, some appropriate degree of wage flexibility can minimize the adverse effect of reform policies on economic and employment growth.

These propositions, however, do not hold in the case of India. Stabilization involves increasing the prices and reducing the quantities of imports. The contractionary effects of these on the import-dependent modern industry cannot be countered by wage flexibility of any degree. In the short-run, social costs can only be minimized through appropriate safety-net programmes. In India, social costs of economic reforms have been higher than they need have been because of inadequate attention to safety-net programmes.

In the medium term too, labour reallocation in India is likely to be hindered not by the absence of wage differentials but by the existing employment security regulations. Increasing labour market flexibility primarily involves removal of the constraints posed by these regulations. However, wage flexibility is also necessary for a different reason. Structural adjustment policies will induce price competition and will thus generate pressures for cost adjustment. Wage adjustments can clearly help achieve cost adjustments and thus minimize disruptions in production.

Labour market flexibility, therefore, is relevant but only in the medium ter...