Academic journal article The European Journal of Comparative Economics

Employment Protection Legislation and Labor Markets in Transition: Assessing the Effects of the Labor Code in Armenia

Academic journal article The European Journal of Comparative Economics

Employment Protection Legislation and Labor Markets in Transition: Assessing the Effects of the Labor Code in Armenia

Article excerpt


The effects of employment protection legislation (EPL) on a country's labor market are clear in theory but empirical evidence is only starting to catch up. In particular, EPL is not robust as an indicator of overall unemployment, but previous panel data analyses have shown it affects the flow of workers into and out of employment. Examining monthly and quarterly data from Armenia, I find that the country's package of EPL has this same effect, and worker flows have slowed under the country's new Labor Code. The paradox of where Armenia's workforce is going still remains but can be hypothesized as entering the informal sector.

JEL Classification: J63, P36

Keywords: Employment Protection Legislation, Labor Markets, Transition

(ProQuest: ... denotes formulae omitted.)

1. Introduction

The question of the effect of employment protection legislation (EPL) on labor markets is a hotly debated one in both policy and economic circles. Broadly defined, EPL is designed, in the words of the World Bank, to "create conditions that are more conducive to job creation, protecting employment, and improving working conditions" (World Bank 2007a). In practice, this usually means a package of legislation that governs hiring and firing of workers, treatment of workers on the job (including holidays, sick leave, and maternity issues), and other related issues (such as workplace safety).2

The creation of EPL often rests upon the assumption by economists and policymakers that legislation can be expertly designed in such a way as to improve the welfare of workers while not impacting the labor market in a negative manner (these assumptions mainly are based on a Coasean view of the world - that is, in a world of low transaction costs, negotiations can lead to redistribution without loss of efficiency).3 In justifying the need for EPL, there usually is some reference to "market failure," with legislation needed to protect workers from the depredations of employers in a situation of informational asymmetry. However, there are strong economic arguments against the adoption of EPL. Theoretically, interference in the labor market could increase costs to hiring and thus create or maintain unemployment, advantaging those who already have a job at the expense of those who are still looking. Additionally, EPL can focus on only a symptom of a weak economy (turnover) rather than underlying structural flaws that lead to these outcomes, and thus create even more distortions.

A growing literature, typified by the OECD's major initiatives over the past 4 years (see, for example, Bassanini and Duval 2006), has attempted to quantify the effect of EPL on labor market performance, but has thus far yielded mixed results (more of this in Section II below). Much of this work has been done at the cross-country level, but has been restricted to developed economies, ostensibly to research differences in labor market performance connected with continuing stagnation in Europe, but also because labor market regulation data is much more prevalent in developed countries. A much more interesting case can be made for attempting to observe the effects of EPL in emerging and transition economies, however, as their labor markets are still developing; thus, changes in EPL could be expected to have larger effects than in a developed economy and can help our understanding of the transmission channels of labor market policy. This, in turn, can offer more accurate policy prescriptions for both transition and developed economies.

Sadly, little is known about the effects of EPL on the labor market in emerging market economies, and even less about how EPL can change the market in a specific country over time. The purpose of this paper is to help redress this lack of knowledge by examining the effect of EPL in one particular transition economy: Armenia. The Armenian Labor Code, introduced in late 2004, is a modern piece of employment protection legislation that sets restrictions on hiring and firing and represents a comprehensive package of EPL unlike that which has ever existed in Armenia. …

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