Oscar de la Vega of Littler de la Vega y Conde, SC evaluates the effects of rigid labour laws in Latin America on job creation.
Contrary to the “at-will” employment doctrine prevalent in the common law labour systems, the applicable labour legislations in Latin America (including Mexico) are guarantors of the “job stability”principle, which means that employees are entitled to keep their job as long as the employment relationship requires so. Consequently, if the employment relationship is for an indefinite term, the employee cannot be laid off without cause, and if the relationship is for a specific job or term, the employee may keep his or her job until the specific task is completed.
As a consequence, a highly rigid system has been created in Latin America, in which employment termination processes are very costly and difficult to carry out. Furthermore, termination processes could result in long trials that could create high labour contingencies for the employer, which involve the payment of back wages and severance pay.
“Job stability”, also prevalent in European legislation, is undergoing strong scrutiny. In fact, nowadays these laws are suffering a strong review in the most economically advanced countries, resulting in the adoption of flexible labour conditions. Recently, Germany, France and Spain adopted new labour legislations allowing for more labour flexibility. Furthermore, these amendments have been considered to be a key factor in rescuing failing economies such as Greece, Portugal and Italy.
Notwithstanding the fact that in the recent times many Latin American and Caribbean countries have experienced considerably strong economic growth, this growth does not compare with that obtained by Asian countries. While sustained economic growth in some Latin American countries has been approximately 5 per cent, Asian economies have experienced growth at a rate of 8 per cent to 10 to per cent over long periods of time.
If we consider that at least 12 Latin American countries have implemented important structural reforms – which involved, among other things, the liberalisation of cumbersome business regulation with the aim of facilitating the creation of more local enterprises – then the question remains regarding the reason for these significant differences in the performance of these two regions’ economies.
There are several possible answers, but no doubt one of them is the failure to implement a more “flexible” legal structure in their labour relationships.
In fact, since the 1970s, many specialists have observed the economic performances of several countries, the USA among them, and have concluded that a flexible labour market is key in successfully achieving lower unemployment rates and a high competitive level. By contrast, in other regions such as Europe – which has a tradition of rigid labour laws – no such business competition was generated.
Faced with these facts, several European countries have decided to carry out a major restructuring of their labour laws, thus facilitating important economic and competitive advancements.
Unfortunately, this has not been the case for many Latin American countries that are still reluctant to break away from their long-standing tradition of rigid protective labour laws. It is remarkable that in many instances, workers and labour unions are agreeing to implement increasingly flexible labour conditions – such as work schedules, job mobility and other measures – to improve business performance and thus foster a better work environment.
Studies of 14 Latin American countries (Argentina, Bolivia, Chile, Colombia, Ecuador, El Salvador, Guatemala, Honduras, Mexico, Nicaragua, Panama, Paraguay, Peru and Uruguay), carried out under the auspices of the World Bank, have corroborated the strong relationship between a net gain to employment statistics and increased flexibility of labour regulations (Kaplan, 2008).
These studies found that there is considerable evidence to prove that rigid labour regulations may prevent labour markets from operating more efficiently. In fact, countries with rigid labour regulations have higher levels of unemployment.
The index report from the Economic Freedom of the World, issued by the Fraser Institute (and cited in the study) shows that Chile has the most flexible labour market among the 14 Latin American countries included, while Argentina has the least flexible labour market. According to this report, if Chilean labour regulations were made more flexible, the net gain to employment would be 0.76 per cent, while in Argentina the net gain would be 2.82 per cent. However it is important to focus on whether net employment is accomplished.
Chilean firms did report that the additional dismissals that would result from making labour regulations more flexible would be 0.94 per cent of total employment, while Argentina firms reported an additional dismissal figure of 2.34 per cent. Therefore, despite the fact that Argentina would gain more in terms of aggregate employment by reforming its more rigid labour regulations, it would also see a higher percentage of its workers losing their jobs.
The effects of rigid labour regulations on hiring and dismissals are crucial for understanding the effect of the reforms that promote a more flexible labour market.
The empirical results of The World Bank research demonstrate that on average, aggregate employment of permanent employees would increase by 2.08 per cent if labour regulations were more flexible. Furthermore, this increase would also include a 2.59 per cent rise in additional job creation, offset by a 0.51 per cent rise in additional job elimination.
The net employment change of permanent workers that would occur if labour relations were made more flexible would be 4.24 per cent for small firms, 2.85 per cent for medium-sized firms, and 1.27 per cent for large firms.
Considering these factors, the conclusion to be drawn is that the countries which could gain the most by reforming their labour markets in terms of net employment growth would be those whose labour laws are currently rigid.
In the short term, the adoption of a more flexible labour market, in aggregate numbers, would be associated with an increase in employee dismissals; however, these dismissals would be compensated in the long term by an increase in hires.
As a result, and due to the globalisation we are currently facing, it can be concluded that labour flexibility is key if Latin American countries are to be more competitive, create jobs, reduce informal employment and, consequently, have sustainable economic growth.