Globalisation, Labour Markets, and the Welfare State

The project focuses on the interaction between the welfare state (WS), globalisation and labour market institutions in determining a country’s aggregate performance.

The effects of welfare state policies on labour markets have often been studied at a microeconomic level, whilst work on the economy-wide labour market effects of globalisation tends to focus on adjustments that occur across industrial sectors. This project aims to overcome this “micro-macro dichotomy” on the premise that by capturing nuanced interactions between the microeconomic and macroeconomic adjustments that result from globalisation will yield a greater understanding of the role of welfare state policies in countering the labour market and income inequality effects of globalisation, thus addressing some of today’s most pressing policy dilemmas.

Methodologically, the project consist of both theoretical and empirical work. Theoretical models aim to identify the channels through which WS policies affect microeconomic and macroeconomic adjustments to globalisation. Empirical comparative analyses will both assess the theory’s testable hypotheses and identify important stylised facts from inter-country comparative analysis.

Imperfectly competitive dynamic stochastic general equilibrium (DSGE) models have been developed to examine (under different market structure scenarios) both the long-run effects of ‘permanent’ policy reforms and how different policy regimes affect an economy’s dynamic adjustments following exogenous shocks.

Results are often at odds with conventional wisdom. For instance, reform packages exist that can improve upon the labour market outcomes of a liberal WS system, even when they entail a reduction of labour market flexibility and higher WS expenditure. More generally, our theoretical analyses suggest that the efficiency gains stemming from increasing international openness can strengthen the positive feed-back effects between WS policies and the exploitation of aggregate scale economies. Thus, contrary to conventional wisdom, globalisation needs not result in a lower revenue raising ability of governments and in WS retrenchment.

By highlighting the complex interaction between different policy instruments and economic structures, the models are generating testable hypotheses that are guiding the empirical work using data for Germany, Sweden and the UK. In a first paper we study the effect of firm-size distributions on the relationship between employment and output. The theoretical model predicts that output changes have larger effects on employment in industries characterised by a distribution that is more skewed towards smaller firms. We estimate industry-specific shape parameters of the firm size distributions using firm-level data, and use them to augment a relationship between industry-level output and employment. Empirical results confirm that the size distribution of firms is an important determinant of the relationship between changes in output and employment.

In work based on a Swedish linked employer-employee data we examine how global engagement can impact firm organization and the occupations a firm needs. Specifically, we study the effect of globalization on occupational mix using data covering all firms and a sample of the labour force for 1997-2005. We find a robust relationship, with more globally engaged firms using a mix skewed toward skilled occupations. Furthermore, firms have a more skill-intensive distribution when exporting to far-away markets, or when exporting differentiated goods.

More generally, the project is testing our conjecture that intra-industry adjustments at the micro level and changes in the distribution of firms’ productivities are important in shaping aggregate outcomes. By highlighting how WS policies can affect aggregate performance and how they can interact with industrial policy in determining industries’ international performance, this research is of significant potential policy impact.

Project Summary

In an age of high public debts and ever-growing international competition, the WS is often portrayed as generating a culture of welfare dependency and is ultimately seen as unsustainable.

Against this background, GlobLabWS ( aimed to explore the role of the welfare state (WS) in shaping the relationship between globalisation and labour markets and in affecting a country’s economic performance and ability to respond to exogenous shocks.

Results from our research show that many conventional views arise from narrow theoretical premises that fail to capture the complexity of the processes at work.

Globalisation and participation in the global production chain affect workforce structure, with increased importance of more skilled occupations and degree of mismatch between workers’ skills and those demanded by firms, e.g. over-education.

The WS plays an important role in mediating these effects. Comparison among WS systems suggests that Nordic countries perform better in terms of aggregate labour market outcomes than countries with less generous WS and more flexible labour markets.

A well-functioning labour market does not need to be thin on security. Crucial is not ‘labour market flexibility’, but the ‘social investment’ dimension of the WS: support for the unemployed, social investment and activation policies – important pillars of flexicurity. Crucially, unemployment insurance can act as an activation policy by fostering labour market participation, an effect that is strengthened if coordinated with other ALMPs.

Complementarities between Active and Passive Labour Market Policies (ALMPs and PLMPs) can trigger a virtuous interaction between labour market participation and productivity growth. Flexicurity reforms of a ‘liberal’ WS, such as the UK’s, can improve employment, productivity and mitigate the effects of negative shocks even though it would require lowering flexibility and raising PLMPs and ALMPs expenditure.

An important implication is the need to recognise and exploit policy interactions not only among WS policies but also among different policy areas: e.g., education and industrial policies can strengthen the effectiveness of WS policies.

A country’s ability to compete internationally does not require WS retrenchments: e.g. higher welfare spending increases a country’s ability to attract and retain internationally mobile firms.

The results of GlobLabWS are central to current socio-economic debates on the effectiveness and sustainability of WS institutions and provide policy makers with deeper understanding of the key trade-offs entailed by different policy scenarios.

We show that globalization has relatively large distributional consequences. Benefits tend to be skewed towards high skilled workers at the expense of low/middle skilled groups. This warrants the need for ‘enabling WS’ systems that support workers’ movements between occupations, a prerequisite also to secure an acceptance for the economic benefits globalisation can bring at an aggregate level.

GlobLabWS provides useful suggestions as to the key features of an enabling WS. We show that much is to be gained from the experiences of countries, such as Denmark, that combine good productivity and export performance with generous active and passive labour market policies.