Longer layoff notices boost job quality and cut unemployment, but hurt productivity
Imagine you're working a stable job when you start hearing rumors of layoffs. In many OECD countries, there's a policy designed to soften the impact of sudden job loss: Mandatory Notice (MN). This policy requires employers to give workers advance notice before layoffs. Though it may seem straightforward, its effects on both workers and companies are more complex than they appear.
Recent research by Stockholm University researchers Arash Nekoei (Institute for International Economic Studies – IIES) and David Seim (Department of Economics), together with Jonas Cederlöf (Institute for Evaluation of Labour Market and Education Policy), and Peter Fredriksson (Uppsala University) provides fresh insights into how these policies play out in labor markets.
What is mandatory notice, and why does it matter?
The core purpose of MN is to give workers time to prepare for impending job loss. Instead of being suddenly unemployed, workers can begin job hunting. At the same time, they are still employed, which reduces the risk of prolonged unemployment and increases the likelihood of securing a better job. However, like most policies, MN comes with trade-offs.
- On one hand, allowing workers time to search while still employed can result in productivity gains, as workers find jobs that better match their skills. On the other hand, workers who know they're being laid off might become less motivated, leading to a drop in productivity, says Arash Nekoei.
Job search during employment yields higher wages and faster reemployment
MN shifts job search from periods of unemployment to employment. This is a key advantage, according to Arash Nekoei, since job search while still employed is generally more effective.
- Workers secure better jobs, earn higher wages, and avoid long unemployment gaps. In contrast, those searching while unemployed face challenges like job market stigma and pressure to accept lower offers.
Longer notice periods lead to better jobs and higher severance
Interestingly, the results reveal that workers given longer MN not only receive more notice but also larger severance packages.
This evidence provides empirical support for a longstanding conjecture, dating back at least to Lazear's work in the late 1980s, which posits that private agents will offset any inefficient policy through side payments.
Nevertheless, it is the longer notice period, not the severance, that leads to better outcomes: shorter unemployment spells and higher wages. In fact, larger severance payments delay job searches without impacting wages.
Productivity costs: Lower output during notice periods
Another finding is that notified workers become less productive during their notice period, as expected. Moreover, MN also delays the separation of workers from unproductive jobs. While this represents a cost to society, the overall benefits—better job matches and reduced unemployment—outweigh the short-term productivity losses. Overall, the policy raises productive efficiency.
Is longer always better? Industry differences in optimal notice length
The benefits of more extended notice periods are significant but not universal. While longer notice typically results in better job matches and reduced unemployment, it’s not a one-size-fits-all solution. Some industries, particularly fast-growing ones, might find the productivity loss too costly. For firms in such sectors, offering severance (rather than notice) may be more appealing to encourage faster departures.
The authors show theoretically that the possibility of offering severance improves the efficiency of MN policies. Companies can offer higher severance to incentivize quicker exits in situations where longer notice is inefficient.
Mandatory notice policies offer net benefits despite trade-offs
Nekoei and coauthors show that Mandatory Notice policies provide significant benefits for workers. They require firms to inform workers in advance of a layoff. Such a heads-up allows workers to find better jobs while still employed. This reduces unemployment, leads to higher wages, and creates a more efficient labor market overall. Although firms may face short-term productivity losses, the long-term gains more than compensate for these losses.
Ultimately, MN policies should strike a balance between the needs of workers and employers in an evolving labor market. While not without drawbacks, these policies offer a net benefit in the Swedish setting. In general, some mandatory notice is a key component of optimally designed employment legislation.
The paper “Mandatory Notice of Layoff, Job Search, and Efficiency” has been accepted for publication in the Quarterly Journal of Economics.
Last updated: November 6, 2024
Source: Institute for International Economic Studies (IIES)