1. World Bank April 29, 2009 Labor Markets and the Crisis Antonio Spilimbergo (IMF and CEPR)

2. 1Outline Context Context Big picture Big picture How will labor markets be affected? How will labor markets be affected? One important macro trade-off One important macro trade-off Policy responses Policy responses

3. 2 Real GDP Growth (Percent change from previous quarter, annualized) World Emerging and Developing economies Advanced economies Global Growth Projected to Recover Gradually

4. 3 But Unemployment Rates Will Peak Later U.K. U.S. Japan Euro area Unemployment Rate (in percent) 3

5. 4 Standard policy dilemmas Policy (macro) trade-off between: Policy (macro) trade-off between: Attenuating effects of recession on the crisis Attenuating effects of recession on the crisis Incentives to reallocation Incentives to reallocation Usual (individual) trade-off in UI between moral hazard and incentives less relevant Usual (individual) trade-off in UI between moral hazard and incentives less relevant Active labor market policy is the usual answer Active labor market policy is the usual answer

6. 5 Why macro trade-off? If the crisis is a usual business cycle If the crisis is a usual business cycle Just help workers and enterprises to survive the crisis and wait to go back to business as usual Just help workers and enterprises to survive the crisis and wait to go back to business as usual If the crisis is structural If the crisis is structural Need to provide incentives to move out from some sectors / regions Need to provide incentives to move out from some sectors / regions

7. 6 What happen when wrong policies are in place? Take Italy in the 70s and the oil shocks Take Italy in the 70s and the oil shocks Policy response on the premise that it was a temporary shock (business cycle) Policy response on the premise that it was a temporary shock (business cycle) But it was not; consequence… But it was not; consequence… Regional migration stopped Regional migration stopped Persistent large unemployment Persistent large unemployment Increasing public debt (which was not a big problem before) Increasing public debt (which was not a big problem before)

8. 7 Which kind of crisis is this? This crisis is more structural than usual business cycle because: This crisis is more structural than usual business cycle because: Deleveraging (financing will be more difficult in some countries for some industries) Deleveraging (financing will be more difficult in some countries for some industries) Current account reversals (some countries need to close current account because no financing will be available in the future) => new competitors Current account reversals (some countries need to close current account because no financing will be available in the future) => new competitors Devaluation (tradable vs. nontradables) Devaluation (tradable vs. nontradables) Trade Trade Pattern of world consumption may change (for instance, Chinese consumers will demand different goods than U.S. consumers) Pattern of world consumption may change (for instance, Chinese consumers will demand different goods than U.S. consumers)

9. 8 Global Trade and Manufacturing Have Fallen Sharply Merchandise Exports (3m ma over 3m ma annualized) Industrial Production and Manufacturing PMI (3m ma over 3m ma annualized) Global IP Global Manf. PMI (SA, 50+=expansion; RHS) Mar.09 World Feb.09 Advanced Emerging

10. 9 Emerging Economies Growth Slowed By Falling Exports and Industrial Production Industrial Production (in percent change from a year earlier) Emg. Asia Nov.08 Merchandise Exports (in percent change from a year earlier) Latin America Emg. Asia Latin America Nov.08 Emg. Europe Emg. Europe

11. 10 Great volatility in Exchange Rates Exchange Rates 1/ (percent change; Sept. 2008 vs. March 2009) 1 /Bilateral rate in euro per local currency. Positive numbers denote appreciation of local currency.

12. 11 Canada Japan Germany 2008Q4 GDP Growth vs. Advanced Manufacturing Share in GDP Ireland Taiwan POC Malaysia Korea Mexico Thailand U.K. U.S. Italy Netherlands France Australia Share of high and medium-high tech manufacturing VA in GDP GDP Growth Q4/2008 (SAAR) GDP Hardest Hit in Economies More Reliant on Manufacturing Exports Spain Sources: CEIC, OECD, Haver Analytics and IMF staff calculations.

13. 12 In addition this crisis is expected to be exceptionally long Real and Potential GDP Growth 1/ (percent change from a year earlier) Advanced World Output Gaps (percent of potential GDP) Emerging World Advanced 1/ Estimates of the output gap, in percent of potential GDP, are based on IMF staff calculations. GDP growth rates of actual (solid line) versus potential (dashed line) for advanced economies. For emerging economies, Hodrick-Prescott filter applied for potential GDP.

14. 13 Characteristics of the Crisis Deep Deep Prolonged Prolonged Worldwide Worldwide Financial/Trade Financial/Trade Global Imbalances Global Imbalances New role of fiscal policy New role of fiscal policy

15. 14 Impact on Labor Markets (I): Deep and Prolonged The crisis will be deep. Safety nets, which were thought for a normal business cycle, may be not good for such a deep and prolonged recession. The crisis will be deep. Safety nets, which were thought for a normal business cycle, may be not good for such a deep and prolonged recession. Changes may be necessary to unemployment benefits Changes may be necessary to unemployment benefits Protect most vulnerable groups Protect most vulnerable groups

16. 15 Impact on Labor Markets (II): Worldwide Usual safety valves are not possible: Usual safety valves are not possible: Migration is not an option; Migration is not an option; Remittances are not an option; and Remittances are not an option; and Lower wages will not work well. Lower wages will not work well.

17. 16 Impact on Labor Markets (III): Sectoral Reallocation Not a simple business cycle fluctuation Not a simple business cycle fluctuation Many workers need to change sector Many workers need to change sector For instance, many Eastern European countries, which used to run large current account deficits, will need to generate more export/less import => sectoral reallocation of workers

18. 17 Impact on Labor Markets (IV): Industrial Policies are Back! Some industrialized countries are bailing out companies with the condition that jobs are saved at home Some industrialized countries are bailing out companies with the condition that jobs are saved at home => this could damage workers abroad

19. 18 Impact on Labor Markets (V): Fiscal Constraints For now, some consensus that fiscal response is useful but policies will be constrained in the future as deficits have to be reduced For now, some consensus that fiscal response is useful but policies will be constrained in the future as deficits have to be reduced Some proposals are dangerous. For instance, increasing public employment or subsidizing employment: Some proposals are dangerous. For instance, increasing public employment or subsidizing employment: not well targeted; not well targeted; difficult to reverse; and difficult to reverse; and similar to transfers in their effectiveness. similar to transfers in their effectiveness.

20. 19 Sustainability Concerns and Fiscal Projections Fiscal Balance (LHS; inverse) Public debt (RHS) G-20 Advanced Countries Fiscal Balance and Public Debt (in percent of GDP; PPP GDP weighted) G-20 Advanced Countries Public Debt (in percent of GDP; PPP GDP weighted) Baseline Low growth ContingentLiabilities 7

21. 20 Difficult Choices (I) Subsidizing employment Subsidizing employment Large fiscal cost Large fiscal cost Obstacle to sectoral reallocation Obstacle to sectoral reallocationbut.. Need to avoid skill depreciation Need to avoid skill depreciation Can be cost-effective, considering cost of unemployment Can be cost-effective, considering cost of unemployment

22. 21 Difficult Choices (II) Subsidizing capital/firms Subsidizing capital/firms Bad incentives Bad incentives Political problems Political problems Obstacle to sectoral reallocation Obstacle to sectoral reallocationbut.. Could preserve some viable companies Could preserve some viable companies

23. 22 Workers are also Consumers... Labor market policies may influence consumers behavior Labor market policies may influence consumers behavior Three specific factors affect consumption at this juncture: Three specific factors affect consumption at this juncture: decreases in wealth; decreases in wealth; tighter credit constraints; and tighter credit constraints; and high uncertainty. high uncertainty. Need to increase confidence in workers/consumers Need to increase confidence in workers/consumers