Since the 1980s, the labour markets have become more flexible. But what does this mean? How does this impact on the economy?
First of all, what is meant by a flexible labour market is a labour market in which movement between jobs is made easier. This may be done in different ways, one being wage flexibility as well as contractual flexibility. This is where shorter-term contracts are brought into use, meaning that workers must renew their contracts, if they are to stay in work, every few years, rather than the great lengths of time that have been used in previous years. Furthermore, the ability to change wage rates more easily means that the gap between supply and demand is reduced.
The ease of hiring and firing of workers is also a major cause of labour flexibility. Over the last 20 years, reforms to the UK employment system have meant that it is now easier to hire and fire workers. However, how does this all impact on the economy?
The reason that a more flexible labour market has come about over the last 20 years is due to the changing social and business environments. Work has become increasingly high-tech over recent years, and so workers have had to become more ICT literate. As well as this, the demographic changes that have taken place are a rise in the divorce rate. This means that there are more single parent families, and so there is less availability for full time work, as childcare is both hard to come across, as well as being expensive. These factors, as well as the government forcing flexibility through as it attracts both inward foreign investment and is a good method of reducing both structural and friction unemployment, have meant that workers have had to become more flexible with the working hours, and so labour flexibility has increased.
The natural rate of unemployment is the difference between the actual volume of labour and the National Labour Force that consists of everybody, including those that are unable or unwilling to work.
The above diagram shows the difference between the National Labour Force and the aggregate supply for labour. This difference, (e2-e1) is the natural rate of unemployment.
Increased labour flexibility will mean that with an increase in part time employment and short-term contracts, more workers are going to be attracted to work. This means that the gap between the aggregate supply of labour and the national labour force will fall, meaning that the natural rate of unemployment has fallen.
A further effect of flexible labour markets is that productivity is likely to rise. The reason for this is that with shorter-term contracts, workers have a greater incentive to work well, so that they will be able to stay in employment. This is because, if people want to stay in work, they will have to work harder so as to appease their employer. This means that productivity will rise, and so the costs to that firm will fall. This will subsequently increase the growth rate of the economy. The reason for this is that flexible labour markets will have their effect on each industry, and so overall productivity of the economy should rise.
A further effect of flexible labour markets is that they attract inward foreign investment. The reason for this is that they are seen as a safer environment in which to invest, and as the world economy grows more and more uncertain, the flexibility of the UK labour market will means that much investment will come into the country. This will mean that firms will then have more available funds that may be used to expand their production process or advertising so as to build up economies of scale. This will further increase productivity, and so UK economic trend growth should rise.
Finally, another effect of flexible labour markets is their ability to absorb external shocks more easily. The reasons for this is that if there is a major shock, the terrorist attacks on the World Trade Centre on the 9th of September 2001, then the short term workers can be offloaded so that there are no extra costs when any inevitable fall in demand takes place. If there was no flexibility then workers could not be offloaded, and so there is excess supply of workers.
Along with flexible labour markets, also come disadvantages. One of these is the concern over job security. With a more flexible labour market comes a greater ease of hiring and firing. Job security is therefore a threat to the current social environment, where workers prefer a steady job, where they can be sure of their status.
A training gap will also become a problem due to the fact that many firms will not provide training if workers are only staying for a short time. This means that many workers will miss out on crucial training, especially if ICT skills are becoming more important.
Finally, a rise in relative poverty may come about due to short-term workers only having their wages raised by a lesser extent than the higher paid long term workers. This means that the gap between wage payments increases, leading to a rise in relative poverty.