The Hartz Reforms and the Development of Unit
Labour Costs in Germany
Thesis MSc Economics
Track: International Economics & Globalization
Author: Guus van den Born Student number: 10384863 Institution: Amsterdam School of Economics (ASE) Date: 15 July 2016 Email: guusvdborn@gmail.com Supervisor: dr. D.J.M. Veestraeten Second reader: prof. dr. F.J.G.M. Klaassen Abstract: This thesis examines whether the labour market reforms from 2002 to 2005 in Germany had significant effects on unit labour costs. If the Hartz reforms succeeded in bringing unit labour costs down, the reforms can serve as a blueprint for other countries trying to decrease their unit labour costs. Time-series regression analyses with unit labour costs as dependent variable are performed. These regression analyses indicate that the Hartz reforms did have significant effects on unit labour costs, but that trade union density is also an important determinant of ULC. The analyses did not provide evidence that the effects of the reforms were heterogeneous among sectors. The study suggests that labour market reforms are most successful in a relatively de-unionised country with a decentralized wage bargaining mechanism.
Statement of Originality This document is written by Guus van den Born who declares to take full responsibility for the contents of this document. I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it.
The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.
Table of Contents
1. Introduction ... 4
2. Determinants of labour costs ... 7
2.1Traditional determinants ... 7
2.2
More recent theory ... 8
2.2.1
Minimum wages ... 8
2.2.2
Non-wage labour costs ... 8
2.2.3
Trade unions ... 9
2.2.4
Efficiency wages ... 9
2.2.5
Labour market pressure ... 10
2.3
Effects of other elements on labour costs ... 13
2.3.1
Real effective exchange rate ... 13
2.3.2
Interest rate ... 14
3. Evolution of the German labour market since 1990 ... 15
3.1The evolution of the German labour market from 1990-2002 ... 15
3.1.1
German reunification ... 15
3.1.2
Regaining competitiveness ... 17
3.2
The labour market reforms of 2002-2005 ... 20
3.2.1
Hartz I ... 20
3.2.2
Hartz II ... 22
3.2.3
Hartz III ... 23
3.2.4
Hartz IV ... 23
4. Empirical Analysis ... 26
4.1Existing empirical research ... 26
4.1.1
Effects of de-unionisation on unit labour costs ... 26
4.1.2
Effects of the Hartz reforms on unit labour costs ... 27
4.2
Empirical model ... 32
4.2.1
Variable specification ... 32
4.2.2
Methodology ... 35
4.2.3
Sample period ... 35
4.3
Model and estimation results ... 36
4.3.1
Results of regression analysis with economy-wide ULC ... 36
4.3.2
Results of regression analysis with ULC for production ... 39
4.3.3
Discussion ... 40
5. Conclusions and policy recommendation ... 47
6. References ... 49
7. Appendix ... 52
1. Introduction
Since 2005, unemployment rates in Germany have been falling despite the financial crisis that started in 2007. However, in many other countries that adopted the Euro as well as in the United States, unemployment rates increased quickly in the period of the financial crisis, from 2007 to 2009. Figure 1 relates the unemployment rate of Germany to that in the United States and the average for Euro countries. The EA19 represents the 19 countries that are part of the Economic and Monetary Union and had adopted the Euro as single currency prior to 2016. From figure 1 it can be observed that Germany had unemployment rates above the rates of the United States and the Euro countries in the period 1994-2007. On top of this, the year-on-year growth rate of GDP in Germany was below the growth rates of the USA and the EA19 in the period 1994-2007. This is shown in figure 2. 0 2 4 6 8 10 12 14 1-1990 1-19 91 1-1992 1-1993 1-19 94 1-1995 1-1996 1-1997 1-1998 1-1999 1-2000 1-2001 1-2002 1-2003 1-2004 1-2005 1-2006 1-2007 1-2008 1-2009 1-2010 1-2011 1-2012 1-2013 1-2014 1-2015 1-2016 Unemployment rate (as % of labour force) GER USA EA19 Figure 1: quarterly data on the unemployment rate Source: Bundesagentur für Arbeit, U.S. Department of Labor and Eurostat Figure 2: quarterly data on the growth of GDP, own computations
There is a broad consensus among researchers that the increase in GDP growth of Germany prior to the financial crisis and the GDP growth thereafter was primarily caused by a decrease in unit labour costs (ULC) (Eichhorst, 2015; Jacobi & Kluve, 2006; Dustmann et al., 2014). Unit labour costs are the labour costs per unit of output. The annual growth of ULC in Germany, the United States and the Euro area is depicted in figure 3. The graph shows that there are three periods in which the growth of ULC in Germany was negative, in the periods 1996-1998, 2005-2007 and 2010-2011. From figure 3 it can also be observed that the annual growth rate of ULC was mostly below the EA19-average, indicating increasing competitiveness vis-à-vis other countries that adopted the Euro.
Many researchers ascribe the decrease in ULC from 2005 to 2007 to the labour market reforms that took place from 2002 to 2005 (Krebs & Scheffel, 2013; Fahr & Sunde, 2009).
In 2002, German chancellor Gerhard Schröder initiated a commission to reform the labour market, in order to combat the high unemployment rates. The commission under supervision of Peter Hartz, the Chief Human Resources Officer of Volkswagen at that time, proposed controversial and politically difficult labour market reforms that were implemented in the period from 2003 to 2005.
In the period after which the proposed reforms were implemented, the ULC grew less than in other EMU countries, until 2009. Figure 3 shows that the growth of ULC was
Figure 3: quarterly data on the growth of ULC, own computations Source: Deutsche Bundesbank, U.S. Department of Labor and Eurostat
However, other researchers argue that the stagnating growth of ULC since the German reunification was primarily caused by a decentralisation of the wage bargaining mechanism at the end of the 20th century. The decentralisation of the wage bargaining
mechanism was a result of Germany trying to regain competitiveness by altering its labour market institutions (Dustmann, Fitzenberger, Schonberg & Spitz-Oener, 2014).
To what extent the decrease in ULC can be ascribed to the German labour market reforms of 2002-2005, is important for policy making in Europe. For example, the Economist (2016) argues that, in order for Italy to regain competitiveness in the Economic and Monetary Union, the country should try to pursue similar reforms in the labour market. This thesis will test this claim of the Economist (2016). The research question to be investigated is:
‘To what extent can the decrease in ULC of Germany be ascribed to the labour market reforms of 2002-2005?’
The thesis starts with an overview on the general determinants of labour costs in chapter 2. Traditional determinants and the more recent theory on new determinants will be thoroughly discussed. Chapter 3 provides an overview of the main events in the German labour market since the reunification of the country in 1990. Chapter 4 consists of an empirical analysis. The latter chapter will start with an overview of existing academic literature on the effects of the Hartz reforms and the effects of the decentralisation of the wage bargaining mechanism on the German labour market. The chapter continues with two empirical applications. A critical discussion on the results will be provided. The thesis ends with a conclusion and some policy recommendations.
2. Determinants of labour costs
This chapter will discuss the general determinants of labour costs. The chapter starts with the traditional determinants of labour costs, after which the more recent theory on labour costs will be discussed.
2.1
Traditional determinants
Traditional economic theory suggests that the supply of labour of an economic agent is determined by the trade-off between consumption and leisure. Working instead of enjoying leisure allows the agent to obtain an income that can be used for consumption and saving. So, working increases the amount an agent can consume and save but limits the time that the individual can use for leisure. Fluctuations in the rewards the agent receives for working changes the optimal allocation of leisure and consumption, causing the agent to increase or decrease the supply of labour (Mankiw, 2012).
On the demand side, labour demand is maximized when the wage offered to all workers is equal to the marginal product in real terms of one extra worker, assuming homogeneity of workers. Thus, workers exactly receive their marginal product in real terms. This implies that employers are willing to take up additional labour, as long as the wage received by workers is equal to their marginal product (Mankiw, 2012).
The price of labour (the real wage level) clears the labour market. This means that there is no excess supply or demand on the labour market. In the traditional theory, all labour costs are wage costs. Also, if the wage level were completely flexible, there would be virtually no unemployment. Only frictional unemployment would exist in this scenario. Additional labour supply can be absorbed by a higher labour demand, given that the wage level adjusts until the labour market is in equilibrium again (Mankiw, 2012; Chen & Funke, 2003).
2.2
More recent theory
In reality, it is observed that the traditional theory is not sufficient to explain the dynamics of the labour market. Data shows that shocks to labour demand and labour supply are not offset by changing wages, but rather by changes in the unemployment level. The nominal wage level appears to display rigidity, especially in the downward direction (Shapiro & Stiglitz, 1984; Chen & Funke, 2003). This section will discuss the main insights of the new theory on the dynamics of the labour market.
2.2.1 Minimum wages
The most obvious reason for rigidity in nominal wages is that governments often impose a wage floor. The wage floor assures that the wage level cannot drop below a certain threshold level. The threshold level puts a cap on labour demand, as employers will not hire additional labour if the marginal product of one extra employee does not offset the labour costs at this wage floor. An increase in labour supply is then not offset by a decrease in wages (since wages cannot decrease below the wage floor), but by an increase in the unemployment rates (Mankiw, 2012).
2.2.2 Non-wage labour costs
The new theory on labour market dynamics acknowledges that there are more factors that influence the labour costs, next to labour supply and labour demand. For example, wages are only a part of the total labour costs. Non-wage labour costs, like the costs to hire and train or dismiss a worker, that do not reward the workers for their productivity but that have to be paid by the employer, amount to a substantial part of the total labour costs (Chen & Funke, 2003).A change in non-wage labour costs may change labour demand even when the wage level remains unchanged. For example, less employment protection regulation decreases the non-wage component of unit labour costs, since firms can dismiss workers at a lower cost. The decrease in employment protection is then expected to increase labour demand, as the non-wage labour costs related to the dismissal of workers decreased, although the wage component of unit labour costs is unaffected (Chen & Funke, 2003; Jacobi & Kluve, 2006).
The distinction between non-wage costs and wage costs supports the finding that labour demand and labour supply do not only respond to the wage level, but also respond to other factors.
2.2.3 Trade unions
Another reason for rigidity in wages is that the wage level is often set after bargaining rounds between employers and trade unions. These trade unions typically only bargain for their members (the insiders), and do not take into account the interests of the unemployed (the outsiders). The bargained equilibrium wage might be too high to fully clear the labour market. The consequence is unemployment in equilibrium (Lindbeck & Snower, 1986; Oswald, 1984).
Changes in labour supply and labour demand are then not offset by a changing wage level, as the wage level is predetermined by bargaining rounds between employers and (typically) trade unions.
To what extent trade unions can influence the wage level depends on their bargaining power. An important factor in determining the bargaining power of trade unions is trade union density. Trade union density is defined as the number of workers that are member of a trade union divided by the total labour force. If many agents are member of a trade union, the trade union might be able to capture a monopoly position on the labour market. This monopoly position strengthens the bargaining power of trade unions, as it creates market power (Oswald, 1984; Dustmann et al., 2007).
The extent, to which trade unions can influence the wage level, is an important factor in determining trade union membership. Employees usually have to pay contribution fees to the trade union in order to become a member of the trade union. If these contribution fees do not offset the benefits of being a union member, the rational worker would choose not to be member of a trade union. As a result, trade union membership will decline. A high bargaining power of trade unions and a high trade union density seem to go hand in hand (Oswald, 1984; Dustmann et al., 2007).
2.2.4 Efficiency wages
A renowned model constructed by Shapiro & Stiglitz (1984) shows that firms pay more than the equilibrium wage, in order for the workers to exert effort. In this model, the employer maximizes his or her share of the output that the worker produces. The model shows that the payoff for the employer is maximized if the employer pays the worker more than the equilibrium wage. Indeed, this higher wage level increases the productivity of the worker, as it provides the worker with an incentive to exert effort. The above equilibrium wage is called an efficiency wage, as the higher wage level
The central idea behind the model of Shapiro & Stiglitz (1984) is that workers need an incentive to exert effort, as they would rather shirk. However, if an employee gets caught while shirking, the worker will lose his or her job.
The model thus provides a trade-off between the disutility of exerting effort and the disutility of losing the job. The disutility corresponding to dismissal is determined by the outside option. If a worker gets fired after shirking, the worker has to rely on social security to provide him or her with an income. If this income is close to the income level of the former job, the loss in losing a job is relatively limited. The rational worker will then shirk more, as the loss of losing the job is relatively low (Shapiro & Stilglitz, 1984).
In order for the employer to prevent the worker from shirking, the employer has to increase the wage in order to increase gap between the income level of the former job and the income level the worker receives if he or she gets fired (Shapiro & Stilglitz, 1984). The model of Shapiro & Stiglitz (1984) thus implies that the equilibrium wage level is (partly) determined by the social security standards in a country, for example by the size of the unemployment benefits.
2.2.5 Labour market pressure
Other important aspects of the new theory on labour market dynamics are the search costs and the value of a match. Firms make search and matching (non-wage) costs when they want to fill a vacancy, and these costs have to be offset by future revenues resulting from a filled vacancy. Consequently, quantifying these costs and benefits is important in determining the labour demand of firms and in determining labour costs. Mortensen & Pissarides (1994) construct a model that shows that these costs (partly) depend on labour market pressure. They define labour market pressure as the ratio of the amount of vacancies to the number of unemployed workers. A high labour market pressure indicates that there are many firms looking to hire someone with relatively few candidates to fill the vacancy. Because there are few candidates and many vacancies, the time it takes to fill one vacancy is likely to be longer compared to the case of low labour market pressure. The longer duration increases the costs of a vacancy to the potential employer.If the value of a match exactly offsets additional labour costs, the bargaining power of the unemployed person is limited, as no employer is willing to pay a higher wage. However, if the value of a match exceeds the additional labour costs, a high labour market pressure increases the bargaining power of the unemployed, as the unemployed can pick the highest wage level from the pool of vacancies on the labour market. This increases the wage level (or in terms of the authors: it increases the workers’ share of the revenues resulting from the match) (Mortensen & Pissarides, 1994). Following this reasoning, the positive correlation between the number of vacancies and the wage level decreases the incentive for firms to issue vacancies when there is high labour market pressure, as their labour costs increase. According to Mortensen & Pissarides (1994), rising labour market pressure thus has two consequences: it increases the search costs as the time it takes to fill a vacancy increases, and it increases the wage level as the bargaining power of unemployed workers increases. This indicates that at some point, firms will start to limit the amount of vacancies they issue, as the higher labour costs are not offset by future revenues. According to Mortensen & Pissarides (1994), at some point the expected future revenues of a match do not offset the additional labour costs anymore.
However, this last argument of Mortensen & Pissarides (1994) does not fit the data on labour market pressure. Data shows that unemployment is countercyclical with economic growth and the number of vacancies being procyclical with economic growth. As a result, labour market pressure is also procyclical and is not decreasing during a period of economic growth (Hall, 2005). This is contrary to Mortsensen & Pissarides (1994), who argue that labour market pressure is procyclical with economic growth up till a certain point, from which the revenues resulting from the match do not offset the labour costs anymore.
To overcome the mismatch between the model of Mortensen & Pissarides (1994) and the data, more recent theories combine labour market pressure with the assumption of wage rigidity. The wage level is thus unaffected by the increase in bargaining power of the job applicant, only non-wage labour costs (the time it takes to fill a vacancy) are affected. It is assumed that during a period of economic growth, the expected value of a match increases faster than the additional labour costs resulting from the match. This assumption indicates that the expected revenues resulting from a match increase at a
Thus, the expected revenues resulting from a match will exceed the additional labour costs during a period of economic growth. Moreover, if the expected value of a match increases faster than the additional labour costs during a period of economic growth, the share of the expected revenues accruing to the employer increases as labour market pressure increases. As a result, firms will continue to issue vacancies during a period of economic growth, pointing towards procyclicality of labour market pressure (Hall, 2005).
Figure 4 shows the labour market pressure (definition of Mortensen & Pissarides (1994)) and the annual growth of GDP in Germany. From the graph, it can be observed that, except for the period 2002-2005, labour market pressure and GDP growth seem to move together, pointing to procyclicality. Figure 4: Labour market pressure and GDP growth, own computations Source: OECD, Deutsche Bundesbank 0,85 0,9 0,95 1 1,05 1,1 0 0,02 0,04 0,06 0,08 0,1 0,12 0,14 0,16 0,18 0,2 Q1 1992 Q4 1992 Q3 1993 Q2 1994 Q1 1995 Q4 1995 Q3 1996 Q2 1997 Q1 1998 Q4 1998 Q3 1999 Q2 2000 Q1 2001 Q4 2001 Q3 2002 Q2 2003 Q1 2004 Q4 2004 Q3 2005 Q2 2006 Q1 2007 Q4 2007 Q3 2008 Q2 2009 Q1 2010 Q4 2010 Q3 2011 GDP gro wt h i n Germa ny Am ou nt o f v ac an ci es in G er m an y / nu m be r o f u ne m pl oy ed in G er m an y Labour Market Pressure and GDP growth LMP (le4 axis) GDP (right axis)
2.3
Effects of other elements on labour costs
This paragraph will relate labour costs to other variables that will be used in the regression analyses further in this thesis. In particular, attention will be devoted to the theoretical effects of the real effective exchange rate and the interest rate on labour costs.
2.3.1 Real effective exchange rate
In an open economy with a flexible exchange rate system, it is found that a depreciation of the exchange rate generally increases net exports and improves the competitiveness of the country in question, as the export price of the domestic good in foreign currency has decreased. As a result, the international demand for these domestic goods will usually increase, and this will lead to an increase in labour demand of the domestic firms (unless the exporting firm offsets the exchange rate shock by increasing its profit margin, such that the resulting export price of the domestic good in foreign currency is unaffected. In this scenario, a depreciation of the exchange rate solely increases the profits of the firm) (Dornbusch, 1987).
If output increases, the increased labour demand drives up the wage level, increasing ULC. If all firms are assumed to operate in a perfectly competitive market, the increases in costs have to be offset by an increase in the revenues. Firms are thus likely to increase their prices in response to increasing wages. As a result, the real wage level of consumers is likely to be unaffected, only employment increases. But, since consumers buy a basket of domestic and foreign goods in an open economy, and the domestic price level of the foreign goods has increased due to the depreciation of the exchange rate, the net effect on the real wage level will be negative. Domestic real wages are thus declining as a result of a depreciation of the exchange rate, although employment increases. Domestic nominal wages are likely to increase in response to a depreciation of the exchange rate (Carlin & Soskice, 2005).
However, the way labour costs react to exchange rate movements depends on the openness of the country in question. If a country has high trade barriers, changes in the exchange rate are unlikely to have large effects on a firm’s output decision. As a result, economic theory does not predict a strong relationship between the real effective exchange rate and unit labour costs in a country with high trade barriers (Alexandre, Bação, Cerejeira & Portela, 2010).
The way labour costs reacts to exchange rate movements also depends on the presence of so-called adjustment costs. These are costs a firm has to make in order to react to a change in the exchange rate. These (non-wage) labour costs relate to the hiring and dismissing of workers and are closely related with labour market institutions and employment protection legislation.
If these adjustment costs are high, the increase in labour demand might be limited due to high sunk costs related to the adjustment of the labour force. For example, an appreciation of the exchange rate is likely to decrease the net exports of a firm, reducing labour demand. If it is costly to dismiss the excess labour (and the adjustment costs are thus relatively high), the decrease in the number of workers as a result of an exchange rate shock might be limited, as the firing costs do not offset the efficiency gain (Alexandre et al., 2010).
In this study, the real effective exchange rate will be used instead of the nominal exchange rate. The main reason to follow this approach is that the nominal exchange rate of Germany vis-à-vis Euro countries, which are the main trading partners of Germany, has become fixed since the establishment of the Economic and Monetary Union in 1999. The real effective exchange rate however, is not fixed. The real effective exchange rate can be defined as:
𝑅𝐸𝑅 =𝑆𝑃 ∗ 𝑃
In which S is the nominal exchange rate, P* is the foreign price level and P is the domestic price level. Since S is fixed within the Economic and Monetary union, changes in the RER in the EMU are only caused by differences in prices. The RER thus captures shifts in competitiveness vis-à-vis other countries that are caused by inflation differentials within the EMU, and is therefore more suitable to use than the nominal exchange rate.
2.3.2 Interest rate
The interest rate is important for a firm’s investment decision. A higher interest rate makes borrowing capital more expensive for the firm. If the firm has a constant returns to scale production function, with diminishing returns for each production factor, the increase in the interest rate will result in a lower level of capital stock in the optimal allocation of capital and labour. If the labour costs are unaffected, firms will substitute their relatively expensive capital with labour input. This increases (unit) labour costs. The interest rate and unit labour costs are thus positively correlated (Romer, 2012).
3. Evolution of the German labour market since 1990
This chapter discusses the evolution of the German labour market since the reunification of East and West Germany in 1990. The first section will describe the effects of German reunification and the need to regain competitiveness. The second section will describe the labour market reforms from 2002 to 2005, also called the Hartz reforms.
3.1
The evolution of the German labour market from 1990-2002
3.1.1 German reunification
In 1990, East and West Germany became reunified again after the country had been split up after WWII. After a period of 45 years, both countries had diverged widely in terms of economic growth, productivity and institutional set-up. The transitioning of the East German economy towards Western standards was rather painful. For example, in order to prevent lasting inequality issues, the conversion rate of East German currency to West German currency was set at 1:1 (for large amounts of money at 2:1 and for corporations at 3:1), while the market exchange rate at that time was around 5:1 (Burda & Hunt, 2001).
Another example of the painful transition was the introduction of the common labour market. This common labour market resulted in a rapid convergence in wages between Eastern and Western states. Because the convergence in wages was not met by a convergence in productivity, the introduction of the common market resulted in increasing unemployment in East Germany. The productivity in East Germany was far lower than the productivity in West Germany (Burda & Hunt, 2001; Burda, 2000; Jacobi & Kluve, 2006).
The transitioning of East Germany to Western standards had large consequences in the short run; from 1989 to 1992, GDP in former East Germany declined by 30%. Moreover, employment in East Germany declined by more than 35% as real wages increased dramatically (Burda & Hunt, 2001).
Burda (2000) offers the following explanations for the rise in wage convergence. One explanation is that the common labour market caused East German labourers to demand a higher wage, since they could now also work in West Germany.
A second reason Burda (2000) offers is that the East German workers were now covered by West German social security standards that, for example, ensured higher unemployment benefits. This raises the wage level of East German workers following the model of Shapiro & Stiglitz (1984).
A last explanation Burda (2000) offers is the centralized wage setting mechanism of Germany at that time. The wage setting mechanism was characterized by industry-wide collective agreements of trade unions and employers. Because the labour market of Germany became common, workers from East Germany were also covered by these collective agreements. This wage setting mechanism resulted in a wage level that was inconsistent with market clearing (see Lindbeck & Snower, 1986), although the wage level in East Germany was still lower than the wage level in West Germany. Next to equilibrium unemployment, the industry-wide collective agreements resulted in rigidity in wages, which was particularly harmful for economic activity in the Eastern parts of Germany, as productivity growth was only slowly recovering (Burda, 2000; Dustmann et al. 2007). The common labour market in Germany increased the real wage level in East Germany dramatically. Because the productivity in East Germany was considerably lower than the productivity in West Germany, the high wage level resulted in increasing unemployment in East Germany. This also led to increasing transfers (e.g. unemployment benefits) from West Germany to East Germany (Burda & Hunt, 2001). In the decade that followed, Germany (and East Germany in particular) only recovered slowly. In the year 2000, GDP per capita of Eastern states (excluding Berlin) had risen to 60.6% of the Western states. The level of consumption per capita had converged as well. However, because productivity convergence was generally lacking, continuous transfers from West to East were needed in order to sustain the convergence in consumption and GDP (Burda & Hunt, 2001).
3.1.2 Regaining competitiveness
Since the German reunification in 1990, the competitiveness of East Germany vis-à-vis West Germany and other Euro countries deteriorated. The export industry in East Germany suffered from the common labour market, as the higher wage was not offset by a higher productivity of the employees. The higher wage lead producers to increase the prices they charged for their goods, in order to offset the increase in labour costs. Moreover, the generous conversion rate of East German currency to West German currency increased prices even further (especially in East Germany), although the inflation in East Germany was lower than the wage growth. As a result, real wages were increasing in East Germany in the period 1990-1996 (Smolny, 2009).
On top of this, the manufacturing sector, comprising more than 20% of all jobs in Germany in 1995, suffered from increasing competition of new trading partners from South East Asia. Although the manufacturing sector comprises only a part of the labour market, it is still relevant to focus on changes in this sector of the labour market as this segment of the labour market still sets the pace for wage settlements in other sectors (Eichhorst, 2015; Dustmann et al. 2014).
Other sectors in Germany were not performing better. The unemployment rates in Germany were not falling since the reunification and remained stubbornly high (at around 10% from 1994 to 2005, see figure 1). Moreover, the degree of transfers that East Germany obtained from West Germany had not fallen since the reunification. After an initial period of convergence (for example the convergence in consumption and wages), differences between East and West Germany appeared to be persistent since 1994, indicating a lasting inequality between the two regions. The stubbornly high unemployment rates, the increasing international competitive pressure from South East Asia resulting from globalisation, a loss of competitiveness vis-à-vis other Euro countries (the main trading partners of Germany) as a result of high labour costs, and the lasting inequality between East and West Germany made the necessity for Germany to reform its labour market evident (Smolny, 2009; Dustmann et al, 2014).
On top of these events, some authors argue that the main underlying reasons for the deteriorating performance of the entire German economy were a generous welfare system and an inefficient tax system, resulting in rigidity on the labour market (Dustmann et al., 2014; Jacobi & Kluve, 2006).
This rigidity impeded labour market institutions to respond in a flexible way to the international competitive pressure of new entrants in the manufacturing sector. For example, the generous welfare system prevented the nominal wage to decrease, as the unemployment benefit in Germany acted as a wage floor in wage negotiations (Dustmann et al., 2014).
Moreover, the inefficient tax system made it unattractive for unemployed persons to look for a job, as high taxes and social premiums decreased the gap between receiving an unemployment benefit and receiving a nominal wage level. The small gain in income that can be obtained from working instead of receiving an unemployment benefit does not offset the loss in utility resulting from a decrease in leisure. This made it unattractive for an unemployed person to look for a job, causing stubbornly high unemployment rates (Jacobi & Kluve, 2006).
The first development, addressing the excessive unit labour costs, that was observed in the German labour market originated in the manufacturing industry, and was not a result of deliberate German policy measures (Dustmann et al, 2014; Eichhorst, 2015).
The competitive pressure from new (international) entrants in the manufacturing industry caused a growing need for more internal flexibility in the manufacturing sector. Strict overtime rules in Germany at that time impeded manufacturing firms to increase the flexibility in order to improve the efficiency of the production process. Because employment in the manufacturing industry was under pressure of international competitors, a number of labour unions agreed to increase the flexibility in working time on the plant level, in exchange for (time-limited) employment guarantees. The increasing flexibility at the plant level increased productivity and thereby increased the international competitiveness. The flexibility was achieved by allowing plant-level adjustments on collective agreements. These adjustments allowed the plant level to operate more independently of the industry-wide agreements. Since 1995, concession bargaining at the plant-level gained in importance relative to the wage bargaining at the industry-level (Dustmann et al., 2014; Eichhorst, 2015).
In 1993 for instance, when Peter Hartz was the Chief Human Resources Officer of Volkswagen (VW), VW decided to cut the working week from 35 hours to 28.8 hours a week in consultation with the trade union IG Metall.
The company reduced the working hours (while at the same time making sure that employment was safeguarded) in exchange for an increased flexibility of employees, who had to work on more days with shorter shifts. This allowed VW to increase its flexibility gradually. As the reward for overtime payment declined, VW was able to extend the working week to Saturday, further improving flexibility. The reduction in working hours, instead of the dismissal of a few thousand workers saved VW 1,6 billion Deutsche Mark that it would have paid on redundancy payment and other non-wage labour costs (not to mention the potential expenses of the German government on the employees who lost their job). Moreover, the increased flexibility increased the international competitiveness of VW (Schulten, Seifert & Zagelmeyer, 2007).
As a result of this gradual development in the German economy, the wage bargaining mechanism became more decentralized. This development first occurred in the manufacturing sector, but spread also to other sectors. It became harder for the trade unions to influence the wage, as they had to bargain more often at the plant level. As a result, their bargaining power was weakened and this resulted in a stagnating growth of the wage level (Dustmann et al. 2014; Eichhorst, 2015; Visser, 2013). The decrease in bargaining power led the traditional (monopoly) power of trade unions to diminish; trade union density was declining. Apparently, the benefits of being a trade union member did not offset the contribution costs of being a trade union member anymore (see also section 2.2.3). A feedback effect originated: the decrease in bargaining power lead trade union membership to decline, further decreasing the bargaining power of the trade union. On top of this, newly established firms did not take part in industry-wide collective agreements, causing the scope of trade unions to decrease, further decreasing the traditional power of trade unions. The decrease in the bargaining power of trade unions resulted in a decreasing wage level and decreasing ULC. Moreover, productivity increased due to increased internal flexibility at the plant-level. From 1996 to 1998, the growth of the ULC in Germany was lower than the ULC growth rate of other Euro countries (see figure 3), indicating an increase in competitiveness vis-à-vis these countries (Dustmann et al., 2014; Eichhorst, 2015).
This process of de-unionisation and regaining competitiveness was also observed in sectors other than manufacturing, although the effects of these developments were the largest in the manufacturing sector (Eichhorst, 2015; Dustmann et al., 2014).
3.2
The labour market reforms of 2002-2005
Although the competitiveness of Germany restored gradually, unemployment rates remained above the average of the Economic and Monetary Union countries. Despite the erosion of the collective bargaining system, the unemployment rates remained at around 10% in 2002 (see figure 1). Moreover, the GDP growth rate of Germany remained below the average of the Euro countries and the United States (see figure 2).
In 2002, the German government decided to start a series of active labour market policy (ALMP) measures. The occasion for this commission was the so-called ‘Vermittlungsskandal’; the German Federal Audit Court discovered that the Public Employment Service in Germany had manipulated its placement statistics. The German chancellor Gerhard Schröder grabbed this opportunity to appoint a Commission for Modern Services on the Labour Market, later known as the Hartz commission (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
The commission, under supervision of Peter Hartz, the Human Resources executive of Volkswagen at that time, proposed controversial and politically difficult labour market reforms that were implemented in the period from 2003 to 2005. The aim of these reforms was to i) increase the effectiveness and efficiency of labour market services, ii) activate the unemployed and iii) foster labour demand by deregulating the labour market. The Hartz reforms consisted of four rounds: Hartz I/II, III and IV (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
3.2.1 Hartz I
On 1 January 2003, the Hartz I reform became effective. The Hartz reform I focussed on two aspects: the employment service and eligibility rules for unemployment benefits.
3.2.1.1 Employment service
The main goal of this reform was the urgent need to reform the Public Employment Service (PES), which was seen as not functioning properly. It was felt that the centralized structure of the organization was inefficient in the placement service and that more autonomy of regional offices was desired to improve the efficiency of the placement service. The reform of the PES can be classified under the first aim of the Hartz reforms. The organizational reform of the PES was dealt with in the Hartz III reform, but some issues concerning the employment service were already addressed (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
The Hartz I reform concerning the employment service proposed an individually tailored assistance by the PES. Profiling became the key word in the Hartz I reform to assess a jobseeker’s situation and competencies, based on questionnaires and surveys (Kemmerling & Bruttel, 2006).
A second aspect of the employment service that was already addressed in the Hartz I reform was the inclusion of market forces. The PES did not supply job training or job creation programs itself, but relied on private parties to offer these services. These private parties were often chosen based on familiarity, and not via a public tendering process. In order to ensure efficiency of these programs, various instruments were proposed by the Hartz commission. One of these instruments was the placement voucher. If jobseekers did not find a job within six weeks with the help of the PES, they became eligible for a placement voucher of €2000 with which the jobseeker could go to a private placement agency to find him or her a job (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
3.2.1.2 Eligibility rules for unemployment benefits
The second part of the Hartz I reform was rather aimed at the supply of labour and thus qualifies under the second goal of the Hartz reforms. The reform addressed the eligibility for unemployment benefits in Germany. One flaw in the German social security system was that there was no credible sanction mechanism for low engagement of the unemployed in job searching activities. The monitoring of job searching activities was not given a high priority by the PES (Jacobi & Kluve, 2006). In order to address this issue, the definition of ‘suitable work’ was broadened and strict unemployment benefit eligibility rules were set up. Moreover, due to the implemented profiling services, an individual plan regarding job-searching activities was set out in a binding contract (Kemmerling & Bruttel, 2006).The size of the unemployment benefits was not yet addressed; this was the main concern of the Hartz IV reform.
3.2.2 Hartz II
Just like the Hartz I reform, the Hartz II reform also became effective on 1 January 2003. The Hartz II reform consisted of two major issues, subsidies to self-employed (known as the Ich-AG grant) and the creation of temporary tax-friendly mini-jobs. This reform qualifies under the second and the third goal of the Hartz reforms (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
3.2.2.1 Ich-AG
The Ich-AG grant was designed to cover the transition from being unemployed to being self-employed. The Ich-AG grant differed from similar previous subsidy programs, as it was also available and attractive to lower qualified workers. The previous subsidy program (known as the ‘bridging allowance’ or Überbrückungsgeld) was only provided for six months and amounted to the amount of the unemployment benefit the claimant could have received plus a social security contribution.
The Ich-AG grant is paid for a period of three years, as long as the annual income of the claimant does not exceed €25000, and amounts to €600 per month in the first year, €360 per month in the second and €240 per month in the last year.
Because the unemployment benefit system in Germany was linked to previous earnings (see section 3.2.4), the new subsidy system was especially attractive for low-wage job seekers, as the Ich-AG subsidy provided a lump-sum money transfer, independent of the previous earnings. For low-wage earners, the difference in size between the bridging allowance subsidy and the Ich-AG grant, along with the extended duration of the latter, created an incentive to sign up for the new subsidy. Also, the unconditional nature of the grant was very attractive to applicants. In order to make the grant more effective in covering the transition from being unemployed to being self-employed, some eligibility restrictions on the grant were imposed. For example, the PES required all applicants to provide a business plan, which was periodically reviewed by the PES, in order to retain the grant (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
3.2.2.2 Mini-jobs
Another element of the Hartz II reform was the creation of temporary, tax-friendly mini-jobs. The idea of these mini-jobs is that working, instead of receiving unemployment benefits, should be rewarding. Moreover, it was designed to prevent skill deterioration of unemployed persons.
The mini-jobs program was not only designed for the unemployed, but also for low-wage earners in general. If a worker engaged in a mini-job, all income under €400 per month was tax and social security free. The deduction in taxes increased the net income for workers engaging in a mini-job. The increased net income widens the gap between receiving an unemployment benefit and receiving a wage. This should provide an unemployed person with a stronger incentive to take on a mini-job. Because the costs for the employer were not increased, labour demand should be unaffected. In general, the program should thus increase employment. For income levels between €400-€800, midi-jobs were constructed in which the worker had to pay taxes and social security contributions, but not the full amount (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
In order to make it attractive for firms to hire a person in a mini-job, employment protection for temporary work was deregulated. This should decrease the non-wage component of ULC, as workers engaging in mini-jobs were now easier to dismiss. Especially for manufacturing firms, that often receive orders on an irregular basis, the mini-jobs program was attractive. The program ensured that these firms could easily hire additional labour if they receive a large order. At the same time it became easier to dismiss the additional workers once the order is fulfilled (Eichhorst, 2015; Kemmerling & Bruttel, 2006).
3.2.3 Hartz III
The third reform became effective on 1 January 2004, and consisted of a thorough organizational restructuring of the PES. The PES used to be governed by a tripartite system in which an administrative committee of 50 people chose the honorary executive board. A high-level civil servant guided the day-to-day operations of the PES. This setup was reformed to a business-like setup with a Chief Executive Officer and a management board, who were appointed for five years. Moreover, the district offices were given more autonomy to operate (partly) independent of the PES in order to increase the efficiency of the employment service (Kemmerling & Bruttel, 2006).
3.2.4 Hartz IV
The last reform of the Hartz commission became effective on 1 January 2005 and was the most controversial and politically difficult reform. It addressed the size of the unemployment benefits. The Hartz IV reform can be qualified under the second aim of the Hartz reforms.In the system that applied before 2005, the German unemployment benefit system had three benefits: the unemployment benefit, unemployment assistance and social assistance. A person that lost his or her job could apply for the unemployment benefit. The unemployment benefit amounted to 60% (67% for a claimant with children) of the last-earned net salary, and could last up to 32 months. The system was financed with contributions, which were equally divided between employees and employers (Kemmerling & Bruttel, 2006; Jacobi & Kluve, 2006).
If a person remained unemployed after 32 months, he or she was no longer eligible for unemployment benefits, but could request unemployment assistance. The unemployment assistance amounted to 53% (57% for a claimant with children) of the last-earned net income and was provided for an unlimited amount of time. The unemployment assistance system was financed by the general budget of the government (Kemmerling & Bruttel, 2006; Jacobi & Kluve, 2006).
The third benefit was social assistance. This benefit was paid to people that did not work long enough to be eligible for the unemployment benefit and the unemployment assistance after 32 months. In order to qualify for unemployment benefits and social assistance, the applicant had to be employed for at least 12 months in the past three years. A person receiving social assistance is secured a minimum living standard above the poverty line (Kemmerling & Bruttel, 2006; Jacobi & Kluve, 2006). It is argued that the system of unemployment benefits, especially the size and the length of the unemployment assistance, made the incentive to take on a job very low (Jacobi & Kluve, 2006). Moreover, Dustmann et al. (2014) argue that the generous unemployment benefit system acted as a wage floor in bargaining rounds between unions and employers, resulting in wage rigidity in the downward direction.
In the Hartz IV reform, the unemployment benefit system was addressed. Instead of three unemployment benefits, the commission introduced Unemployment Benefit I and Unemployment Benefit II. The amount of Unemployment Benefit I is, just as the former unemployment benefit, linked to the last-earned income although it only lasts for 12 months (somewhat longer for people above 45 years) (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
If a person is not eligible for Unemployment Benefit I anymore, and has not found a job, he or she can apply for Unemployment Benefit II. The level of the Unemployment Benefit II is not linked to previous earnings but is a fixed amount to secure a minimum living standard, just like social assistance used to be. In 2006, the size of Unemployment Benefit II amounted to €331 for a resident of East Germany, and to €345 for a West German, plus social security payments and housing costs (Jacobi & Kluve, 2006; Kemmerling & Bruttel, 2006).
Especially for unemployed persons with a high last-earned income that have been unemployed for a long time and received unemployment assistance, the new system generated a substantial loss in income. Indeed, the size of Unemployment Benefit II was significantly lower than the unemployment assistance they used to receive (Jacobi & Kluve, 2006).
4. Empirical Analysis
In this chapter, time-series regression analyses will be performed. The chapter starts with an overview of existing academic literature on the effects of the Hartz reforms and the effects of de-unionisation in Germany on unit labour costs in Germany. The second part of this chapter will specify the empirical model. The last part of this chapter will present the estimation results, along with a critical discussion.
4.1
Existing empirical research
This section will provide an overview of the existing academic literature on unit labour costs in Germany. The section starts with the effects of de-unionisation in Germany on the ULC. The second part of this section will examine the effects of the Hartz reforms on the ULC in Germany.4.1.1 Effects of de-unionisation on unit labour costs
Since the reunification of Germany in 1990, a large de-unionisation of the German labour market is observed. The underlying reasons for the de-unionisation are described in chapter 3.1.2. Dustmann et al. (2014) conducted the only study that specifically looks at the effects de-unionisation on the real wage level in Germany. The authors find that de-unionisation contributed to a (significant) decrease in the real wages compared to the counterfactual in which no de-unionisation would have taken place, especially for the least-skilled jobs. The positive correlation between the degree of unionisation and real wages does not come as a surprise; it follows the arguments of Lindbeck & Snower (1986) and Oswald (1984). The obvious drawback of the approach followed by Dustmann et al. (2014) is that the counterfactual is not observed, so it is tricky to draw a causal relationship. Moreover, the counterfactual approach neglects general equilibrium effects of de-unionisation, as unionisation is not randomly assigned among the entire population.
Unionisation is endogenous to the wage level; people with low earnings are more likely to become member of a union, as the benefits for these people are the highest. As a result, the effects of unionisation on the real wage level can only be determined partly, as some sectors (in general the sectors with high real wages) are unaffected by (de-)unionisation (Bryson, 2007).
There is little other research on the effects of de-unionisation at the end of the 20th
century on ULC in Germany. However, there is a broad consensus among researchers that a decrease in trade union membership in general and a decrease in bargaining power of these trade unions is likely to put a downward pressure on the real wage level (Visser, 2013; Fitzenberger, Kohn & Wang, 2006; Romer, 2012).
4.1.2 Effects of the Hartz reforms on unit labour costs
In 2002, the German chancellor Schröder conducted a commission in order to address the high unemployment rates of Germany at that time. The commission proposed several reforms, which were implemented in four rounds. This section will provide an overview of existing empirical work on the effects of the Hartz reforms on the ULC in Germany. Because the effects of each reform are hard to isolate, this section will follow a different approach. Key aspects of each reform will be defined and the effects of these key aspects on unit labour costs will be discussed via existing research.
4.1.2.1 Unemployment benefits (Hartz I & IV)
Many studies have investigated the impact of a change in unemployment benefits in Germany on the equilibrium wage level. This section will also take into account eligibility rules. As a result the Hartz I reform is also taken into account.
The mechanisms through which unemployment benefits affects the equilibrium wage level follow from the dynamics described in the models of Shapiro & Stiglitz (1984), discussed in paragraph 2.2.4.
Krebs & Scheffel (2013) construct a model similar to Shapiro & Stiglitz (1984). They assume that the unemployed receive a benefit that is financed with a linear tax on labour. They calibrate their model for the German economy and find that the cut in unemployment benefits contributed to a decrease in the cyclically adjusted unemployment rate of 1.4%, due to a lower equilibrium wage. In contrast to the theoretical model constructed by Shapiro & Stiglitz (1984), in which employed workers also obtain a loss relative to the initial situation because lower unemployment benefits result in a lower equilibrium wage, the model of Krebs & Scheffel (2013) predicts a gain for employed workers. Indeed, a reduction of the unemployment benefit is expected to reduce the tax on labour to finance these unemployment benefits, and therefore increases the after-tax income for working individuals. The loss of the lower equilibrium wage is offset by an increase in after-tax income, according to the model of Krebs &
This mechanism only works when the unemployment benefit is financed with a tax on labour. In Germany, Unemployment Benefit I (just like the former unemployment benefit) is financed with contributions paid by workers. As a result, employees in Germany might face a gain in income if the unemployment benefit is reduced. However, in other countries this mechanism might not work, for example if the unemployment benefit is only financed by the general budget of the government and not by contributions of employees and employers. Krause & Uhlig (2012) find similar results, namely that the reform of the unemployment benefit system reduced the ULC for firms. However, their dynamics are slightly different than those in Krebs & Scheffel (2013). Krause & Uhlig (2012) point out that strict rules concerning unemployment benefits increase the probability of an unemployed worker to accept a job, decreasing labour market pressure (labour market pressure is described in section 2.2.5) by increasing the number of unemployed who are looking for a job. Moreover, their model relies on the assumption that the skill level (and productivity) of the workers determines their entitlement to the unemployment benefit. The researchers assume that unemployment deteriorates the skill level, and that recipients of unemployment benefits experience reductions in the benefit over time. This reduction of benefits increases the incentive for an unemployed person to look for a job in order to increase the skill level. If the worker would allow his or her skill level to deteriorate, he or she would obtain a lower income through a lower unemployment benefit. At some point, the potential utility that can be derived from additional consumption outweighs the disutility derived from working. At this point, the worker would like to consume more and is willing to give up some of his or her leisure. This creates the incentive to take on a job.
The assumption that unemployment deteriorates the skill level of unemployed workers is realistic. The assumption that the unemployment benefit depends on the skill level (and thereby on the duration of unemployment) seems reasonable as well. However, because Germany only knew three unemployment benefits, the correlation between unemployment benefits and productivity is only partly present in the German labour market. An unemployed person suffers only one reduction in the unemployment benefit, namely when he or she loses eligibility for the unemployment benefit and instead becomes eligible for unemployment assistance (or the transition from Unemployment Benefit I to Unemployment Benefit II). The unemployment benefit in Germany cannot reduce further, although the skill level of the unemployed person keeps deteriorating.
The literature concerning changes in the unemployment benefits in Germany point to the same direction; a decrease in the unemployment benefits reduces ULC. Whether the workers experience a gain is up for debate, that depends on how changes in the unemployment benefits affect the after-tax income of the workers.
4.1.2.2 Mini-jobs (Hartz II)
There is a broad consensus among researchers that the mini-jobs program decreased ULC and unemployment rates in Germany. The tax-friendly jobs increased labour supply, thereby reducing labour market pressure and lowering the wage level. It became more attractive for unemployed persons to work, as the net income obtained by working increased. Moreover, the gap between receiving an unemployment benefit and receiving a wage increased, providing the unemployed person with an incentive to take on a job (Eichhorst, 2015; Caliendo, Künn & Uhlendorff, 2012; Jacobi & Kluve, 2006). No evidence has been found that the mini-jobs program increased ULC.
However, there is a fear among researchers that workers in the mini-jobs program outcompeted the regular workers, as they were cheaper to hire and easier to dismiss (Eichhorst, 2015; Steiner & Wrohlich, 2004; Caliendo et al., 2012). However, Eichhorst (2015) does not find a significant decrease in the number of regular employed workers after the program was implemented.
On the other hand, Steiner & Wrohlich (2004) simulate that the mini-jobs program will decrease the number of full-time equivalents. They find that the effect on the government budget is ambiguous, as it is unclear whether the loss in tax income is offset by the decrease in social security spending for unemployed people. A drawback of this research is that their simulation only captures a time frame of one year and thus neglects long run effects.
Caliendo et al. (2012) construct a random sample of unemployed individuals and determine the causal effect of mini-jobs on employment in former West Germany. The authors conclude that the mini-jobs program had a significant positive impact on employment on West Germany. Moreover, the researchers did not find any evidence for an effect of the mini-jobs program on the wage level, nor did they find evidence indicating a decrease in the number of full-time equivalents. However, these results only apply to individuals in West Germany. According to the authors, there are still huge differences in labour market structure between the two parts of Germany.
Caliendo et al. (2012) are thus inconclusive in determining the effectiveness of the mini-jobs program for the entire country. It is unclear whether the program would yield the same results in East Germany.
There is consensus among researchers that the mini-jobs program decreased the ULC and decreased unemployment. Whether the mini-jobs program affected the amount of FTE in the economy is unclear.
4.1.2.3 Ich-AG grant (Hartz II)
The Ich-AG grant has not been researched thoroughly. The Ich-AG grant has been reviewed and changed over the years, making comparisons between periods hard to make. Some researchers indicate that this is the reason for the lack of academic research (Vogler-Ludwig & Stock, 2010; Caliendo & Künn, 2011).
Although there is some research on the effects of the Ich-AG grant on unemployment, there is virtually no research linking the subsidy program to ULC. As a result, this section will provide a brief overview on the research linking the program to unemployment.
Measured by the number of participants, the Ich-AG program was the most important part of active labour market policy (Vogler-Ludwig & Stock, 2010). The researchers found that after three years (the duration of the start-up subsidy), 70% of all participants were still self-employed, and only 11% of the participants turned back to being unemployed. Moreover, 45% of the self-employed had hired additional workers.
There is very little evidence on the long-term effects of the start-up subsidy. Caliendo & Künn (2011) try to determine these long-term effects. The researchers use administrative and survey data from a large group of participants and determine the effect of the program relative to a control group of unemployed people. They find that 80% of the participants are, five years after receiving the subsidy, still employed and have a higher labour income than before they received the subsidy. The researchers also find that the effects of the program are the largest for lower educated applicants. They conclude that the program caused persistent positive long-term effects on the employment situation for the former unemployed.
However, the authors stress that they are performing a partial equilibrium analysis, as they only focus on the individuals in the survey group. The findings have to be estimated on the macroeconomic level in order to test for general equilibrium effects. For example, to determine how the increased government expenditures (by means of providing of the subsidy) affects other parts of the economy. If the government decides to raise employer taxes in order to offset the increase in government spending, unemployment might increase again as a result of a decrease in labour demand. In this scenario, the net effect of the subsidy program on unemployment might even be negative.
4.1.2.4 Placement service (Hartz I & III)
This section will discuss the results of the restructuring of the employment service on ULC. With the restructuring, matching an unemployed person with a job could be done more efficiently and effectively. Fahr & Sunde (2009) estimate an AR(1) model, in which they regress the logged value of recently hired workers on the stock and inflows of unemployed people and the stock and inflows of vacancies. Their aim is to identify the effects of the Hartz reforms on the speed of the matching process. The matching process can be defined as matching vacancies with unemployed people. The AR(1) model finds a positive impact of the Hartz III reform on the matching process, although the size of the effect is small and weakly significant. The researchers mainly focus on the increase in efficiency of the current matching process. However, the researchers do indicate that the Hartz reforms (especially the restructuring of the Public Employment Service) might not only have an effect on the current matching process, but also facilitated a new matching process. As a result, they indicate that the restructuring of the PES (the main aim of the Hartz III reform) does not show up properly in their analysis.
Klinger & Rothe (2012) address the question of Fahr & Sunde (2009) whether the restructuring of the PES facilitated a new matching process, instead of merely speeding up the current matching process. They develop a stock-flow matching framework, fairly similar to Fahr & Sunde (2009), but allow for searcher heterogeneity to distinguish the short-term unemployed from the long-term unemployed. The researchers find that the restructuring of the employment service contributed to a significant increase in matching efficiency of 10%. The authors find that the long-term unemployed benefitted more from the restructuring of the PES. The researchers did not find evidence that the Hartz I and III reforms facilitated a new matching process. As a result, their findings are
