One recurring theme in the longstanding debate about globalisation concerns how best to compensate the losers. The issue has come to the fore again recently, particularly in connection with the perceived threat to jobs in OECD countries from “offshoring” of business services and the growing integration of China, and more recently India, into the world trading system.
It is argued that many jobs and high wages are at risk from these developments and there is a need for effective policies to compensate the losers. But the evidence suggests that compensation often does not occur in the real world–or only partially. This fact raises two questions: Why is compensation rarely forthcoming? What might be desirable elements in a compensation strategy?
Realising the gains from trade implies labour reallocation from declining to expanding sectors. But this is also true for technological and demographic shocks. New labour reallocation inevitably involves some workers being displaced from their jobs and becoming unemployed. Prolonged unemployment, in turn, involves not only costs to the individuals concerned but also to society, in the form of lost output and welfare.
A recent OECD study shows that adjustment costs are higher for trade-displaced workers than for other job losers. In both the US and Europe, workers displaced from jobs in the industries facing the most intense international competition are slower to become re-employed and experience larger wage losses once re-employed than do job losers in other industries.
But there is a noticeable difference in the nature of the adjustment costs experienced by the average trade-displaced worker in the US compared with his European counterpart. Large drops in wages on the post-displacement job are a particularly important source of workers’ losses in the US. By contrast, long-term unemployment and labour force withdrawal following displacement are the biggest sources of earnings losses in Europe.
In both the US and Europe, the adjustment costs borne by trade-displaced workers are highly variable, implying that adjustment assistance needs for this group are very diverse. Compared with other job losers, displaced manufacturing workers in both Europe and the US tend to be somewhat older, less educated and to have had longer tenure on the lost job–all characteristics that are associated with above-average re-employment difficulties and larger earnings losses following re-employment. Trade-displaced workers are also more likely to have vocational skills specialised to declining occupations and industries.
Three rationales have been put forward in the literature for compensation/adjustment assistance for trade-displaced workers. First, there is an efficiency argument: output is lower due to involuntary unemployment of trade-displaced workers. Second, there is an equity argument: it is unfair that even a minority of workers should lose from a policy that increases overall welfare. The final rationale is a political economy one: continued political support for trade liberalisation is contingent on society providing adequate compensation for workers who lose their jobs or face large wage cuts as a result.
The question then arises: do these three rationales create a strong case for compensating trade-displaced workers? The evidence suggests that, on both efficiency and equity grounds, the answer is negative for a specific trade-related programme as opposed to having a programme for all permanently displaced workers, irrespective of the source of job loss. However, there could be an exception to this preference for general programmes on political-economy grounds.
One prominent example of the latter is Trade Adjustment Assistance (TAA) in the US. TAA has been in existence for over four decades. During that period it has undergone many changes, most recently in 2002 when a healthcare benefit and a limited wage insurance component for older workers was added. All the evidence suggests that TAA has not been effective in fostering worker adjustment since procedures for certification are very time-consuming and arbitrary; and relatively few certified workers get re-employment services. Instead, TAA’s main purpose is to extend unemployment benefits and serve as a political sop to freer trade. Since the US spent less than $1 billion on TAA in 2003, it seems a good bargain on the political-economy front, even if it is manifestly unsuccessful in promoting worker adjustment.
The European Commission recently proposed a new Globalisation Adjustment Fund (GAF). The stated aim is “to soften the negative impact of globalisation on laid-off workers and to improve their chances of finding new and better jobs by providing money for training and relocation”. Details about the GAF are very sketchy but it appears that the motivation for it is also a political economy one. At the time of writing, it is unclear whether the GAF will get off the ground or not. In any event, it is not obvious that the EU needs to spend more on labour market policies: in 2004 it spent almost 2.5% of GDP compared with only 0.5% in the US. Rather it needs to spend these large resources in a much more effective manner.
What should be the main elements in a good compensation/adjustment assistance programme for permanently displaced workers? First, a country has to have the right framework conditions, as spelt out in the four pillars of the restated OECD Jobs Strategy. These include: macroeconomic policies conducive to sustained growth and price stability; flexible labour and product markets; and an effective education and training system.
Second, a country needs an effective nexus of labour market policies encompassing unemployment benefits and re-employment services. OECD evidence suggests that the following elements should figure in such a package.
First, set income replacement rates at reasonable levels and avoid open-ended duration of benefits. Second, make basic job-search services available to all job losers. This can involve counselling and the preparation of individual action plans, especially for those at risk of long-term unemployment, and advance notification of plant closures. Third, monitor effectively the job-search activity of displaced workers. The emphasis should be on “activation”, and this may involve moderate benefit sanctions if the unemployed do not actively look for work. Fourth, take steps to ensure that there is a financial gain from taking a job compared with remaining on benefits. This can be achieved in a variety of ways, e.g. via an in-work benefit like the Earned Income Tax Credit in the US or the Working Families Tax Credit in the UK or a targeted wage subsidy paid to employers. And fifth, ensure that much greater use is made of active labour market programmes that work and phase out those that do not, drawing on insights from the growing scientific literature on programme evaluations.
In sum, the labour market policy challenge from globalisation is real, but it is manageable. There is little justification for policies that target explicitly trade-displaced workers except on political-economy grounds. Instead, what is required is a balanced package of largely familiar policies: good macroeconomic policy; flexible labour and product markets; activation of the unemployed; and effective lifelong learning policies. And, most importantly, the political will to implement them.
This article is adapted from: Martin, John (2006), “Compensating trade-displaced workers: a mountain or a molehill?” in GEP Newsletter, No. 17 Spring 2006, Leverhulme Centre for Research on Globalisation and Economic Policy, Nottingham University.
OECD (2005), OECD Employment Outlook, Chapter 1: “Trade-Adjustment Costs in OECD Labour Markets: a Mountain or a Molehill?”, Paris.
OECD (2006), OECD Employment Outlook, with a reassessment of the OECD Jobs Strategy.
©OECD Observer No 256, July 2006