Only Labor Reform Will Get Europe Working Again

Persistent high unemployment is probably the single most important factor behind the defeat of ruling parties on the political right throughout Western Europe. Unfortunately, the policies of the winning Socialists, Social Democrats, and other parties on the left are more likely to lower rather than raise employment.

Unemployment is behind the public conflict between the new political leaders of Germany and France, who want a loose monetary policy, and their central bankers, who favor a continuation of tighter money. This conflict will become more bitter after the introduction in early January of the common currency, the euro, and the European Central Bank. This will be especially so if the economic problems of Asia and other nations begin to have a larger impact on European economies.

Average unemployment rates in the European Union have exceeded 10% since the early 1990s, and, despite minor improvements, they are still almost 12% and 10%, respectively, in France and Germany. From 1980 to the present, unemployment in western Germany ballooned from half to almost double the rate in the U.S. Unemployment in eastern Germany is close to 20% of its labor force. Even worse, almost a third of those unemployed in France and Germany have been out of work for more than a year, compared with about 10% in the U.S.

QUICK RETREAT. I argued in previous columns that rigid labor markets and high social security and other taxes on employed workers explain Europe's excessive unemployment. Yet Helmut Kohl and the Christian Democrats took only modest actions to reduce labor taxes and give companies more flexibility over employees. In addition, Kohl's government extended western Germany's labor-market inflexibility to eastern Germany. The previous French conservative government, headed by Jacques Chirac, initially challenged early retirement and a few other French sacred cows, but it quickly retreated when faced with work stoppages by civil servants and truckers. The government even raised an already high minimum-wage rate.

The recently elected German Social Democrats, headed by Gerhard Schroder, have promised to rescind the few labor reforms that took effect under Kohl, while Lionel Jospin's French Socialists have already raised the minimum wage several more times. The Socialists also plan to cut the working week to 35 hours during the next several years to spread around an allegedly fixed number of jobs. Italy and other European governments are attracted to this work-sharing approach to unemployment. However, studies of past experiences with work-sharing arrangements show that forced reductions in hours per worker tend to reduce rather than expand employment because they raise the effective cost of labor.

MARKET MENTALITY. These governments blame their countries' high unemployment on job-reducing modern technologies and competition from poorer nations. Yet the U.S. and Britain face the same competition and technology as Continental Europe does, and they have much lower unemployment rates. The crucial difference lies in the much greater flexibility and freer labor markets in those two nations. Britain's Tony Blair is the only leader of a labor-oriented party in Europe who publicly recognizes that jobs can be readily created by giving companies appropriate incentives.

New Zealand and Chile discovered that intractable unemployment problems melt away after the government cuts taxes on workers and passes labor-market reforms that increase the flexibility of companies in hiring and discharging employees. Both countries have been harder hit by the Asian crisis than European countries, since they ship much of their exports to the Pacific. Although unemployment rates in Chile and New Zealand have risen during the 18 months since the collapse of Asia's finances, they are still below those in Europe.

If the explanation of high European unemployment rates is so clear, why are those governments reluctant to reform their labor markets toward the so-called Anglo-Saxon model? Although many excuses and explanations have been offered, politics is the most powerful reason. Strong unions, "insiders" with well-paying jobs, and other groups fight to hold on to their perks and privileges. The fear of losing these votes discourages even parties on the right from making major labor- market reforms.

The shame is that the social problems stemming from having so many unemployed young and unskilled people could be avoided if European governments had the political will to reform and liberalize their labor markets.

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