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Horst Fedlmann
Dr Horst Fedlmann

Press Release - 17 March 2008

Red tape hits workers, study shows

Regulations that restrict the entry of new firms into a market and place a large bureaucratic burden on enterprises increase unemployment and lower employment rates - particularly among young people - suggests a study of 74 countries.

The research, published in the Journal of Regulatory Economics, is the first to cover developing and transition countries as well as industrial countries. It is also one of the first to use indicators that measure the strictness of business regulation in the entire economy, rather than in specific industries only.

Based on data for the years 2000-2003, the findings suggest that if Indonesia (a typical example of a country with strict regulations) had enjoyed the same flexibility in business regulation as Finland (the country with the lightest regulatory burden), Indonesia’s unemployment rate might have been 2.1 percentage points lower among the total labour force and 5.8 percentage points lower among young people.

“Furthermore, Indonesia’s employment rate might have been 1.7 percentage points higher among the total working-age population and 4.1 percentage points higher among young people,” said Dr Horst Feldmann from the University of Bath (UK) who carried out the research.

“The adverse labour market effects are probably due to fewer entries of new firms, lower competitive pressures and more capital-intensive modes of production.

“They are also probably due to irregular payments extracted by politicians and bureaucrats, and the relocation of jobs to the shadow economy or to foreign countries.

“Young people are probably hardest hit because they are just entering working life.

“Even if they succeed in their job search they are often hired on a fixed term basis only.

“Young people are the last to be hired and the first to be fired when jobs are in short supply because of tight business regulations.

“Furthermore, as young people often have lower levels of formal qualification and less vocational experience than adults, their jobs can be substituted by capital or relocated to the shadow economy or to other countries relatively easily.

“Additionally, young people often do not have the skills, financial resources and connections necessary to start their own business.”

Dr Feldmann used indicators that measure administrative obstacles to starting a new business, the amount of time senior management has to deal with government bureaucracy, the extent to which firms are free to set their own prices, and the extent of corruption.

The indicators come from the Economic Freedom of the World index that has been constructed by a worldwide network of economists. Most of the indicators are based on surveys among senior business executives.

On average over the years 2000-2003, Indonesia’s flexibility of business regulation was rated 3.8 out of 10. While Finland was rated 7.9, the United Kingdom was rated 6.9.

Dr Feldmann statistically ‘controlled’ for other factors that affect the performance of the labour market, such as business cycle fluctuations and the tax burden, thus eliminating their effects.

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