Center for American Progress

The World Bank Embraces Jobs but Not the Institutions that Support Them

The World Bank Embraces Jobs but Not the Institutions that Support Them

The World Bank’s new World Development Report doesn’t go far enough in embracing the importance of labor market institutions, such as a minimum wage and collective bargaining, in making jobs the driver of economic growth.

The World Bank headquarters is seen in Washington, D.C. (AP/Lawrence Jackson)
The World Bank headquarters is seen in Washington, D.C. (AP/Lawrence Jackson)

The World Bank was once an exemplar of the “Washington Consensus,” an approach that advocates unfettered markets and the pursuit of economic growth above all else. But the multilateral development bank is slowly changing course. Its new 2013 World Development Report on jobs is in many ways a refreshing break from the past. It underscores the importance of job creation, acknowledges the role of the public sector and the private sector in generating employment, and emphasizes the part good-quality jobs play in creating more inclusive growth.

But does it go far enough?

The answer, unfortunately, is “no.” While the World Development Report does a good job documenting the scope of the world’s jobs crisis, its tenor toward labor market institutions—including minimum wages, unemployment insurance, collective bargaining and unions, and active labor market programs—is tepid at best. The report notes, “A careful review of the actual effects of labor policies in developing countries yields a mixed picture.”

The World Bank’s unwillingness to commit to either the positive (or negative) effects of labor market institutions is reminiscent of a stale debate that has been going on between economists for decades. In a 2005 paper, for example, Harvard University economist Richard Freeman asked, “despite over a decade of empirical analysis, have economists failed to reach consensus on the effect of labor institutions on aggregate economic problems and on the potential for deregulation to improve outcomes?” He concluded that they have failed to reach consensus and he offered a number of reasons for why that is. Those reasons are as relevant today as they were then.

First, he says the absence of a way to quantify the social consequences and multiplier effects of labor market institutions means it is difficult to grasp their benefits, among them fostering innovation by allowing entrepreneurs to take risks that they may not otherwise take. The result is that empirical analyses often simply ignore these variables despite the important role they play in offsetting some of the costs that labor market institutions can impose, such as restraining worker mobility and making it hard for employers to expand or downsize their workforce according to economic conditions.

Second, Freeman says it is difficult to attribute employment effects to specific institutional causes because there are multiple factors that influence a given employment outcome. These can range from macroeconomic circumstances to cultural biases. This means that critics blame labor market institutions when in fact there are multiple reasons for why employment may not be as high as desired.

Third, Freeman argues that the use of aggregate data and cross-country comparisons are inadequate to accurately discern the impact of labor market institutions. Those that impugn labor market institutions rely on aggregate data because the sample sizes when using disaggregated data are too small to do rigorous testing. But aggregation suffers from unresolvable definitional issues that cannot adequately control for idiosyncratic differences in the behavior of labor market institutions over time.

Finally, Freeman argues that those in favor of deregulation of labor market institutions and increased employment and wage flexibility operate under the notion that markets work nearly perfectly in the absence of labor market institutions such as minimum wages, unemployment insurance, collective bargaining and unions, and active labor market programs. These preconceived notions about labor market deregulation dictate modeling choices and the interpretation of empirical results, inherently biasing the authors’ conclusions against strong labor market institutions.

Yet what evidence we do have increasingly supports the view that strong labor market institutions facilitate job creation. Research by the Center for American Progress shows that strong labor market institutions help stabilize demand, increase productivity, and create the conditions for a strong middle class.

Despite this flaw, the World Development Report does some things right. Most notably, it echoes a message that the Just Jobs Network has been pushing for a while on the importance of jobs as a driver of development and economic growth. The World Bank report notes that:

Countries have a choice in responding to the jobs challenges of demographics, structural shifts, technological progress, and periodic macroeconomic crises. They can simply pursue growth, ensure that the labor market functions well, and hope that jobs will follow. Or they can recognize that growth does not mechanically deliver the jobs that do most for development. Jobs for women, jobs in cities and in global value chains, and jobs providing voice and protection for the most vulnerable in society may come high on the list.

Having said this, the report does not fully grasp the importance of labor market institutions in helping facilitate the creation of those jobs it says “may come high on the list.” Unfortunately, if not surprisingly, the World Bank largely remains trapped in its ideological comfort zone, unwilling to fully embrace the important role that labor market institutions play in not just promoting jobs, but promoting just jobs.

Sabina Dewan is Director of Globalization and International Employment at the Center for American Progress and directs the Just Jobs Network.

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Sabina Dewan

Senior Fellow