LatAm Labor Laws - Part One

Following up on Alex’s theme below of learning from the Asian countries, I’ll expand into another category that has troubled Latin America for some time now, which if resolved, would radically increase the Nearshore value offering.  It’s the issue of labor market inflexibility. In a nutshell, the strict regulations on employment are a hindrance to US investment in the region, and make it costly for companies to scale up and scale down. But what many policy-makers don’t realize is that these union-driven requirements often end up negatively affecting the LatAm workforce and economy itself – the very people they were aiming to protect. And the data proves it….

Last year Enterprise Surveys conducted a study across 14 countries in the region to understand what those negative effects are. The subsequent report is called “The Effects of Rigid Labor Regulations in Latin America”. Author David Kaplan shows that laws such as very high severance payments, mandatory retraining of redundant workers, and restrictions on hours worked, not only prevent the labor market from operating efficiently, but also cause lower levels of workforce participation, and higher levels of unemployment. The report found that making regulations more flexible would in fact lead to an average net increase of 2.1% of total unemployment.

Job protection vs Job creation

In short, easing up on the labor regulations would lead to more new hires than dismissals. This is contrary to what we hear from many of the labor unions and even governments, who are afraid of that dismissal rate rising and of increased worker turnover. And while it’s true that the laws do protect the jobs of those currently employed, according to Kaplan they also deter new job creation. In fact he says, “The number of people who are not hired as a result of rigid labor laws is substantially larger than the number of people protected from being dismissed by labor laws”. As a result, labor markets in Latin American countries with rigid laws are characterized by lower aggregate employment.

Since those rigidities cut off the natural flow of workers between firms, it also prevents labor markets from adjusting to external shocks. Case in point – the recent global recession, from which Latin America is still reeling. The region in general saw a reduction in outsourcing contracts for both ITO and BPO, which may not have happened if companies knew they could scale up and down without incurring large severance pay costs.

Reforming the system

All this begs the question: Are these laws really protecting the workers? The data seems to indicate not. And if that is the case (here’s the part that LatAm governments need to hear), there must be change. That change will be slow, but it’s necessary. Kaplan discusses how to approach it, given that there will be opposition from the unions. He suggests increased social protection combined with greater labor flexibility. Unemployment insurance is an example which has been shown to make the labor market more efficient.

The news is positive however, since many LatAm countries have been taking notice and beginning to relax some rules. Read more about nation-specific initiatives in Part Two, coming up soon….