What Seperates Labor Markets in Developing Nations from Developed Nations?

Table of Contents

1. INTRODUCTION

2. DEVELOPED OR DEVELOPING?

3. WHAT SEPARATES THEM?
3.1. SECTORAL DISTINCTIONS
3.2. MIGRATION
3.2.1. Causes of Migration
3.2.2. Consequences of Migration
3.3. INSTITUTIONS
3.3.1. Labor Legislation
3.3.1.1. Employment-Protection
3.3.1.2. Unemployment Benefits
3.3.1.3. Minimum Wage
3.3.2. Bargaining
3.3.2.1. Centralization of Wage Setting
3.3.2.2. The Role of Unions
3.4. DUALISTIC LABOR MARKETS
3.4.1. Wage Differentials
3.4.2. Dualistic Labor Markets: Only in Developing Countries?
3.5. SOCIAL ASPECTS
3.5.1. The Role of Women
3.5.2. Child Labor
3.5.2.1. Child Labor by Sector
3.5.2.2. Global Differences
3.5.2.3. Causes of Child Labor
3.5.2.4. Levels of Severity
3.5.2.5. Child Labor: Positive Aspects?
3.5.3. Health and Nutrition

4. CONCLUSION

5. TABLES

6. SOURCES

1. Introduction

This paper will examine the differences of labor markets in developing and developed countries. More than three-fourths of the world’s people live in developing countries, but they enjoy only 16% of the world’s income – while the richest 20% have 85% of global income (World Bank 1995). This mass is not located in just one part of the world or on just one continent, but everywhere except Western Europe, the North American plateau, Japan, the former Anglo-Saxon Oceanic colonies, and a small number of exceptions. In fact, some of the recent conflicts might be due to the mentioned inequality. In order to understand some of the many causes for this inequality, we will analyze the key distinctions in respect to the labor markets.

The first part of this paper will briefly discuss what criteria will be used to classify a country as either developed or developing. The paper will then progress with the most important differences between developed and developing countries in respect to their labor markets. In order to limit the scope of this work, we will focus on sectoral distinctions, migration and institutions as our main points. The paper will then conclude with a brief description of dualistic markets and a glimpse towards selected social aspects.

2. Developed or Developing?

In this part, we briefly want to examine the various classifications and definitions of the term “developing country”. The question whether a certain country is developing or already developed always requires some kind of values, it cannot be answered in an objective way. However, one has to comprehend that the term “developing country” does not imply that the country is actually developing or progressing at all.

To allow for a better overview, we grouped all forms of measurement into two categories, namely the traditional and the new economic measures, following the work of Harris and Todaro in this field.

Traditional measures are focused on income terms, mostly ignoring social aspects such as schooling, access to food, literacy and so on. The most intuitive measure is the one of economic growth. Here, “development” would mean that a particular country’s Gross Domestic Product (GDP) grows at an annual rate of perhaps 5%. Instead of using an artificial GDP growth rate (here 5%), one could replace this value by population growth. In order to account for inflation, which can be a serious problem in many developing countries, “real” levels are used.

The newer and broader definitions of development were created in the 1970s. The traditional definitions led to some misclassifications, because a couple of countries with high rates of GDP growth were considered to be developing, although they suffered from increasing poverty.

Development should therefore be conceived of as a multidimensional process including major changes in social structures, popular attitudes, and national institutions as well as the acceleration of economic growth, the reduction of inequality and the eradication of poverty (Todaro/Smith 2003). However, such a measure would be of very high complexity.

The traditional approaches are prone to two negative aspects, namely the exclusion of social aspects such as literacy, schooling, unemployment – among others – as well as the omission of income allocation. The newer definitions suffered from complexity for our purpose. For the remainder of the paper, we will use the World Bank’s classification of the world’s population by yearly-per-capita income, as measured by per capita gross national income. In the World Bank’s classifications system, countries with a population of at least 30,000 are classified as:

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Countries which have a very high income but rely on only one or two sectors (i.e. oil producing countries such as Kuwait) or countries with poor health in comparison to their income level are classified as “other high income”. Generally speaking the developing countries are those with low-, lower middle or upper-middle incomes (Todaro/Smith 2003). For the remainder of this paper, we will use the World Bank classification system by income only.

3. What Separates Them?

In this part of the paper, we will look more closely at the discriminating factors of labor markets in developing and developed nations. For this task, we examine sectoral distinctions, migration and institutions in this order. Due to the diversity of the two groups “developed” and “developing”, we will focus our work on the groups of countries as found in most common literature on the subject.

3.1. Sectoral Distinctions

The sectors of employment can be divided into three different classifications. First, we can divide public and private sectors, second, manufacturing and agriculture, and as a third, formal and informal sectors. The latter we will consider under point 3.4.

The Washington Consensus¹ warrants – among many other policy recommendations² – a reduction in public sector employment. This is not very easy in practice, since public employment is often regulated by laws which can reduce the necessary flexibility to curb the scope of it. In many developing countries, wages for public servants make up a very significant part of total government spending if it is not the single most important. This might be one of the reasons for the policy recommendation of the Washington Consensus.

Furthermore, because of the importance of public employment, there might be a serious impact on the labor market in both its private and informal sector. ILO states on its homepage that: “...an estimated 435 million are employed in the public sector in general”

The part of the Washington consensus which requires a reduction in public sector employment is challenged by van der Hoeven in his paper “Labour Markets and Income Inequality, What are the Insights after the Washington Consensus”. In his view, a large section of public employment are teachers and not overpaid. There is a high fluctuation of lower charges of civil employment, forcing them to search informal employment often. He disputes the historically popular notion that civil servants are not very productive, yet they receive wages above the marginal product, which in turn might rise the entire wage structure. The IMF and the World Bank are nowadays suggesting that the social sectors (education and health care) should be excluded from budgetary cuts; furthermore, research in many adjusting countries has found that the competence and the number of civil servants have decreased (van der Hoeven 2000, pg. 25).

In recent years, public sector employment fell, drastically in Uganda and Zambia and less in Kenya and Tanzania. It has been steady in Zimbabwe (van der Hoeven, pg. 25). For further data, please consult Table 1 in the appendix.

Employment is not the only factor which could reduce government spending for public sector workers. As ILO writes on its homepage: “In many countries public service workers face a drop in the real value of their wages. Falling incomes and even extended periods of non-payments have undermined workers' morale and forced many of them to take on second and third jobs”. Perhaps they have to help out their relatives on their farm or take on a job in a factory, which would place them in one of the sectors in the following paragraph.

As stated in the introduction to this part, the labor market as a whole can be divided into the agrarian and industrialized sectors. Table 2 in the appendix provides us with the necessary data. Agriculture contributes about 14% of the GNP of developing nations but only 3% of the GNP of developed nation (Todaro/Smith 2003, pg. 66) However, we shall not jump to conclusions too easily. Agriculture is, as many other classifications in development literature, not a homogenous term. Farm size and productivity vary significantly among developing countries. In fact, the average productivity of agricultural labor expressed in U.S. dollars is almost 35 times greater in North America than in Asia and Africa (Todaro/Smith 2003, pg. 66).

With such a low productivity, what prompts people to work in the agrarian sector? Todaro writes: “...the first priorities are food, clothing, and shelter” (Todaro/Smith 2002, pg. 67). Another reason might be that the necessary skills are rather primitive and easy to obtain. Those simple skills and the low productivity of both labor and technology reduces the maximum size of land a person can work on. Often, the farming lacks the necessary human and capital inputs. Additionally, in most developing countries, the land is not owned by the peasant; it is often rented, which further reduces productivity by eating up yields. With rapid population growth, this can be dangerous. The number of people depending on a unit of land is high, Todaro/Smith state a figure of 10 to 15 people per hectare (Todaro/Smith 2003, pg. 67). A policy recommendation suggests itself: the increase of agricultural productivity through the use of fertilizer, for example.

As stated in the introduction to this part, we will consider the dualistic markets later on in this work.

3.2. Migration

For this paper, we will leave out international migration, since Todaro/Smith (among others) state: “...the possibility of legal international migration of unskilled workers on scale resembling that of the nineteenth and early twentieth century no longer exists to provide an effective safety valve for the contemporary populations of Africa, Asia, and Latin America.” (Todaro/Smith 2003, pg. 96)

There are two forms of domestic migration: permanent migration and migration without breaking ties to the rural background (“seasonal migration”). First, we will look at possible causes of migration before we will examine its consequences.

3.2.1. Causes of Migration

Families leave the rural areas and agricultural work for cities in order to search for opportunities that often are misperceived and do not exist. In the last 40 years, this movement from rural areas to the cities has been drastic. Not in all cases the decision to migrate was wrong, however: if an individual migrates to the city, the rest of the family might be able to substitute for the migrated individual (especially when in the migrant is only gone during the off-season). Additionally, earner-dependent ratios in rural areas are lower, caused by a more limited role of women (Dipak 1983, pg. 1). Another reason for rural-urban migration might be the fact that wages in the informal urban sector “have remained persistently higher than those in the poorest rural regions despite continued flow of rural-urban migration (Todaro/Smith 2003, pg. 327). This would make it rational to migrate.

3.2.2. Consequences of Migration

In 1950, 17 percent of the population of the developing world lived in urban areas. This increased to 32 percent in 1988. By the year 2000 it is estimated that this proportion will increase to 40 percent, and to 57 percent by the year 2025 (World Bank 1998, pg. 6). Most of the very large cities lie in the developing countries. As we will see later on, when we consider dualistic markets, migration often results in inadequate housing, caused by low wages in the informal sector. Migration also leads to lower wages since labor supply increases drastically (Mazumdar 1983, pg. 257). Increases in urban population, coupled with worsening economic trends, force children and their families into urban poverty; children are soon required to work (World Bank 1998, pg. 6).

Historically, rural-urban migration was desired by traditional economic literature. It was a common belief that the marginal product of labor would increase through migration. However, this view was challenged and disposed. As Todaro/Smith write: “...it is now abundantly clear from recent LDC experience that rates of rural-urban migration continue to exceed rates of urban job creation...” (Todaro/Smith, pg. 334). This alone might lead to urban unemployment.

3.3. Institutions

Institutions are “humanly devised constraints, notably property rights, that define incentives for savings, investment, production and trade” (Todaro/Smith 2003, pg. 709). As for the labor-market, policies are “minimum wages, job security regulations, and social security-are usually intended to raise welfare or reduce exploitation” (Freeman 1992, pg. 1).

For this paper, we will start with labor legislation, and then move on to bargaining.

3.3.1. Labor Legislation

Labor legislation corresponds to all laws and regulations concerning labor. In this part, we will focus on employment protection, followed by unemployment benefits. In the end of this topic, minimum wages are examined.

3.3.1.1. Employment-Protection

Employment protection, or job security, refers to hiring and firing arrangements. These can cover what kinds of contracts are permitted, any special rules favoring certain groups in hiring, occupational standards, the conditions under which workers can be terminated, requirements for severance and advance notice of termination, redundancy procedures, and special rules for mass layoffs (World Bank 2001, pg. 2). In the appendix, Table 3 that provides us with an overview of current employment protection in both developed and developing countries. As with all regulations and laws, this Table has to be treated cautiously, since it just states the laws regarding dismissal and not their enforcement. Additionally, these rules only apply to the official or formal sector, which we observed already. In the informal sector, immediate dismissal with no further pay might be very common.

It seems clear that the idea behind employment protection is to increase job security. However, this is a two-faced medal. While increasing job security through dismissal protection, it “can also have the unintended effect of creating hiring disincentives for employers” (World Bank 2001, pg. 3). Dismissal protection will protect job-holders, reduce the creation of jobs and, ceteris paribus, “can be expected to lengthen job tenure and reduce labor turnover” (World Bank 2001, pg. 3). It can be said, that it benefits the insider. Labor protection reduces short term unemployment but may increase long-term unemployment (van der Hoeven 2000, pg. 24). What systems exist to benefit the unemployed will be considered in the next paragraph.

3.3.1.2. Unemployment Benefits

Unemployment seems to be very widespread in developing countries. “One of the major consequences of the rapid urbanization process has been the burgeoning supply of job seekers into both the modern (formal) and informal sectors of the urban economy” (Todaro/Smith 2003, pg. 332). As Table 4 shows, unemployment is a very common and serious problem in developing nations. However, this data states “open” unemployment only, it excludes “the very many more people who are chronically underemployed in the informal sector” (Todaro/Smith 2003, pg. 333).

What shall one do with so many unemployed? There are many systems in place, as Table 5 shows. These systems are a rather new development, as Table 6 demonstrates. However, as ILO states on its homepage³: “no more than a quarter of the world’s 150 million unemployed benefit from some kind of unemployment insurance. The great majority are workers who had contracts in the formal sector. But for those who work in the rural or urban informal sectors, including 750 to 900 million underemployed workers – the working poor – there is hardly any protection at all ...” It seems to be true that most ex-workers that benefit from unemployment insurance live in industrialized countries and/or were employed in the formal sector.

Access to unemployment benefits is, if there is such a insurance scheme at all, often very restricted. As ILO further writes on the internet: “The most vulnerable wage earners – construction, domestic, agricultural and young workers – are usually excluded.” In Latin America, unemployment insurance seems to be much more widespread than in Asia, for example. Only China, Mongolia, the Republic of Korea and Hong Kong, China – “had any form of unemployment benefit scheme (as of 1998)” (ILO 2000). In the countries of the sub- continent, namely Bangladesh, India and Pakistan, there is a termination payment by the employer, “only a small minority of the working population, i.e. from larger companies in the formal sector, are effectively covered” (ILO 2000).

As we have learned before, these benefits most often only apply to the formal sector. What, however can be done with the underemployed in the informal sector? Many could become temporarily employed in infrastructure development such as “feeder roads, land reclamation, minor dams, wells and irrigation systems , drainage and sewerage (...) schools and health centers” (ILO 2000). ILO supports many of such programs, for example in Botswana, South Africa, Kenya and Tanzania, as they report on its homepage.

3.3.1.3. Minimum Wage

“Almost all Latin American countries have legislated minimum wages, mandatory cost of living allowances (COLAs), and mandatory bonuses, although some backtracking has taken place in the 1970s and 1980s during military dictatorships and/or stabilization episodes” (Banuri 1991, pg. 181). In Asia, minimum wage is not very common, due to the absence of very high inflation.

The installment of minimum wages is often a political question, influenced by political culture and the perception of labor. Minimum wages are frequently a result of labor organization, which in turn might have been installed for political purposes.

As it was the case with unemployment insurance, minimum wages benefit only those in the formal sector, it mostly ignores the poorest. Minimum wages might also crowd out employment in the formal sector – because they only apply there – and creates more jobs in the informal sector. There are other reasons against a minimum wage. First, a very high minimum wage might discourage employers to hire people. Second, with globalization and its increasing competition between countries, minimum wages could pose a barrier to more foreign direct investment. So we have to ask ourselves whether this is not too high a price to protect low paid workers from exploitation through their employers.

There are various forms of minimum wages. Indonesia and Japan, for example, have decentralized minimum wages for different areas within the country, while in Vietnam, there is a single minimum wage for all regions. Also, the scope of sectors where minimum wage regulations apply varies considerably. In Cambodia, for example, minimum wages only apply in the garment sector, while in the United States, wages apply to (almost) every job, but are defined by each state.

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¹ Economist John Williamson first coined the term "Washington Consensus" in a background paper for a conference held by the Institute for International Economics in November 1989. Today, Williamson expresses dismay that his proposals often have been misinterpreted as "a policy manifesto for the 'neoliberal' right" and seeks to set the record straight in his paper "What Should the Bank Think About the Washington Consensus?" (presented at a World Bank conference in July 1999 and available on Williamson's Web site) (Footnote in its entirety taken from “Foreign Policy”, Spring 2000, article by Naim, Moises)

² Examples include a reduction in minimum wage, breaking up of bargaining power, reduction of employment protection and reduced government outlays in human capital formation (van der Hoeven 2000, pg. vi)

³ http://www.ilo.org/public/english/bureau/inf/pkits/wlr2000/wlr00ch3.htm