Debunking the Idea that “Structural Reforms” Reduce Unemployment

By Philip Arestis, Director of Research at the Cambridge Centre for Economic & Public Policy and Professor of Economics at the University of the Basque Country, and and Malcolm Sawyer, Professor of Economics, University of Leeds. Originally published at Triple Crisis

There is little doubt that the “fiscal compact,” which has replaced the Stability and Growth Pact of the Economic and Monetary Union, reinforces an already-established neoliberal perspective on macroeconomic policy—with the emphasis on balanced budgets and an “independent” central bank only concerned with price stability (the latter to be achieved through interest-rate manipulation).

The perspectives on labour and product markets were not so clear-cut initially, but recent developments have seen a distinct shift in the neoliberal direction. There had long been calls from institutions such as the European Central Bank (ECB) for “structural reforms,” “liberalisation,” etc., alongside fiscal consolidation. Now, the Treaty on Stability, Coordination and Governance imposes, for any country subject to an “excessive deficit procedure,” that it “shall put in place a budgetary and economic partnership programme including a detailed description of the structural reforms which must be put in place and implemented to ensure an effective and durable correction of its excessive deficit” (emphasis added).

“Structural reforms” are usually interpreted as a euphemism for deregulation, reduction of union rights, etc. The term is not actually defined within the Treaty. However, there can be little doubt as to its meaning. For example, Mario Draghi, President of the ECB, stated that the needed reform of the labour market “takes different shapes in different countries. In some of them one has to make labour markets more flexible and also fairer than they are today. In these countries there is a dual labour market: highly flexible for the young part of the population where labour contracts are three-month, six-month contracts that may be renewed for years. The same labour market is highly inflexible for the protected part of the population where salaries follow seniority rather than productivity.” The European Commission President, José Manuel Barroso, argued that the European Union member states “should now intensify their efforts on structural reforms for competitiveness.” He specifically highlighted the need for comprehensive labour market reforms as “the best way to kickstart job creation” (Press Conference, Brussels, 29 May 2013).

Would a combination of “structural reforms” and “fiscal consolidation” bring economic prosperity? This is a relevant question, and in our previous blog post we argued that the latter will not. What about the former, though? Will it bring prosperity and jobs? It is treated as obvious, by neoliberals, that de-regulated labour markets—reduced job protections, more “flexible” (lower) wages—will bring more jobs. If that were so, however, then reducing wages to close to zero should bring a boom. The difficulty with that is immediately apparent—if wages are very low, who buys what is produced? Further, is it really the case that for workers to be engaged with their work and well-motivated, the lower the pay the better?

There is now a great deal of evidence (some of which we summarise in Arestis and Sawyer (2013) Chapter 6) that the lower the pay the worse, not the better. A couple of further examples make the point. Baccaro and Rei (2006) summarise their empirical results as follows: “[V]ery little support for the view that one could reduce unemployment simply by getting rid of institutional rigidities. … Changes in employment protection, benefit replacement rates and tax wedge do not seem to have a significant impact on unemployment” (p. 150). Vergeer and Kleinknecht (2010): “Superior growth of labor input in flexible Anglo-Saxon economies is not due to superior GDP growth. Over a long period (1960–95), it has been due to a lower growth of labor productivity when compared to ‘rigid’ European economies. Only after 1995, the picture changed as the ICT boom enhanced U.S. labor productivity growth. At the same time, several European countries experienced a worsening labor productivity performance as they gradually engaged in wage-cost saving flexibilization of their labor markets.”

Policies designed to reduce wages will likely increase unemployment—particularly when such reductions are taking place in a range of countries. Evidence supports the view that economies are wage-led rather than profit-led, and hence that lowering wages would reduce demand and raise unemployment (see, for example, Lavoie and Stockhammer (2014)). Lower wages in a country may boost exports; but in a relatively closed economy such as the European Union, that effect is likely to be small. We can share the view of Capaldo and Izurieta (2013): “[P]ursuing labour market flexibilization with the aim of increasing employment via export-led growth is bound to fail, especially if fiscal austerity prevents government spending from picking up the slack in global demand” (p. 23).

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  1. Ruben

    “Evidence supports the view that economies are wage-led rather than profit-led…” Bravo. This is the key insight against the central tenet of neo-liberalism. This central tenet states that the State shall maximize (under constrains) the transfer of societal wealth to the rich because the rich knows how to create wealth out of wealth. The negation of neo-liberalism’s central tenet could be expressed more literally: the best wealth creator is the worker-consumer so the State shall maximize (under constrains) the transfer of societal wealth to the worker-consumer.

    Individualist thinking also supports the negation of the central tenet of neo-liberalism, because the individual knows better what is best for him/herself so when wealth is widely allocated amongst individual this profusely diversified wealth is more productive that wealth that is highly concentrated.

  2. Jim Haygood

    ‘[If] de-regulated labour markets—reduced job protections, more “flexible” (lower) wages—will bring more jobs … then reducing wages to close to zero should bring a boom.’

    Strawman non sequitur. Allowing labor markets to clear more efficiently does not imply that their clearing price should plunge toward zero.

    ‘Policies designed to reduce wages will likely increase unemployment.’ You betcha: as every shopkeeper knows, when goods prices are slashed, sales volume goes down, not up. The way to clear excess inventory is to add an extra zero to the price, vastly increasing perceived value.

    Econ LOL, comrades: just hold your Econ 101 textbooks upside down, and you’ll get it!

  3. Hugh

    Economies exist to serve their societies, that is the members of those societies. So how does reducing workers’ pay and rights improve their lives? Structural reform is really just structural looting, as are liberalization and labor flexibility. Indeed there is a whole litany of these looting words: competitiveness, efficiency, productivity. None of these actually mean what they purport to mean. In the neoliberal context, they all mean to get fewer workers to work more for less. None of this serves the interests of society, which is why economists, policymakers, and the looters who own them, act as if these interests don’t exist or have nothing to do with the economy. In kleptocracy, it is always about the looting. There are no honest mistakes.

  4. j gibbs

    It takes considerable ingenuity for the economics fraternity to get everything completely backwards (and engulf all of it in impenetrable fog) in the service of those who pay their way. This is what makes the study of economics so difficult, mind numbing and ultimately idiotic. Of course, one must do the same sort of thing to get ahead in advertising, or law, too. No doubt this is a major reason sociopaths do best in all business servicing professions.

  5. Dan Kervick

    I think it is interesting that whenever countries in the neoliberal era decide they need to worry about increasing international competitiveness, they always start talking about labor “flexibility”, but never seem to say anything about capital “flexibility”. How much are prices boosted by the corporate pursuit of boosts in net equity and the payment of stock dividends to their parasite owners?

    1. F. Beard

      and the payment of stock dividends to their parasite owners? Dan K

      Dividends are dumb since the purpose of a common stock company is to consolidate capital for economies of scale, not dissipate it. Likewise, paying interest is even dumber since dividends need not be paid while interest MUST be paid. So then, why do companies borrow? ans: Because interest costs are artificially suppressed by the central bank and other privileges for the banks. Otherwise, companies would either pay true free market interest rates OR issue more common stock and the whole problem of gross income and wealth inequality would start to reverse.

      So yes, the owners are parasites but ONLY because the government-backed banking cartel allows them to be so.


    2. F. Beard


      But then the MMT folk will protest “We need endogenous money creation!” to which the response is “Then let companies issue their own common stock as money and accept it back for the goods and services a company produces.”

      But, of course, so long as government backing for the banks exists, companies will find it expedient to legally steal rather than ethically share.

      1. Benedict@Large

        MMT is descriptive, not prescriptive.

        You can always tell the ones who haven’t read the literature.

        1. F. Beard

          But I have. Tell me one MMT teacher that doesn’t believe we need a government-backed credit cartel in order to have endogenous money creation? Hmmm? Just one.

    3. MikeNY

      Good point. In modern capitalism, the sole purpose of the corporation is profit maximization. There is little thought given to social good, or the good of all ‘stakeholders’, including employees. It is a monistic mathematical ethic used to validate the insatiable selfishness and greed of the plutocracy. It is psychologically comfortable and certain for them, and for that reason, among others, it is immoral. That it is immoral cannot be repeated enough.

      1. F. Beard

        In the Bible, profits are good but profit-taking isn’t!

        A resolution to this apparent contradiction is the use of common stock as private money since profits can be allowed to accumulate in the number x the price of the shares leaving the assets untouched.

        It’s ironic that a Bible believer should have to teach Progressives about sharing but who says God does not have a sense of humor?

      2. ChrisCairns

        MBA graduates (I am one and an economist whose head was filled with rubbish) focus almost exclusively on gaining a competitive advantage to maximize profits for shareholders. Even the teachings on human resources clearly aim to produce graduates who think that people are resources to be used to maximize profits for the firm rather than people who, if treated well, can be a source of competitive advantage.

        Most MBA courses do look at the idea of corporate social responsibility, but even a casual look at the available evidence shows that where it is done, and even done well, it is done with the aim that the benefits outweigh the costs. Many firms have charitable pursuits, but they are done so as to give the perception that they give back, when in fact the charitable pursuits are run like a profit arm of the firm.

        Business ethics is also taught, but it is an elective, and the whole MBA infrastructure is designed to produce financial, market-driven people who quickly realize that their moral compass must be ignored if they are to succeed in business.

        My own personal circumstances reflect absolutely that I have never been able to commit properly to the exploitation of people, communities and the environment in pursuit of wealth for ‘the shareholder’.


  6. Lori

    “Evidence supports the view that economies are wage-led rather than profit-led, and hence that lowering wages would reduce demand and raise unemployment”

    Do remember this next time some tool attacks “tax the rich” with the argument that the non-rich are so much more numerous that they hold more dollars between them than the rich. Maybe they have a point, but they shouldn’t have it both ways. If the dollars of the non-rich are uniquely qualified to finance the state, they are also uniquely qualified to “create jobs.”

    1. F. Beard

      If the dollars of the non-rich are uniquely qualified to finance the state, they are also uniquely qualified to “create jobs.” Lori

      Excellent point and one that blows the JG folks out of the water too since if jobs are lacking it’s because the non-rich do not have enough purchasing power. So grants and/or tax cuts for the non-rich are in order and not government make-work except perhaps for those who need to be bossed around.

      What’s really needed, though, is justice.

      1. j gibbs

        What’s really needed is to liberate industry from the talons of absentee ownership, and it’s handmaiden, ‘business’. Perhaps business once served a purpose in a world of infant technologies, resource abundance and low population. What purpose does it serve today? How many people understand that ‘business’ is the sabotage of industry in a race to maximize absentee profits?

  7. American Slave

    These people have an interesting idea for a economy.

    I had to read it more than once to understand it and there blog, while I dont agree with making everything privately owned maybe we could adopt and use there net positive gain payment system and have a income guarantee with good citizen bonus for people who do positive and good things for there community.

    Its an interesting idea none the less.

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