Labor Market Flexibility and Growth.

This paper studies whether exibility on the labor market contributes to output growth. First I document two stylized facts concerning the relationship between output growth and labor market insti-tutions. Speci\u85cally, labor market exibility is shown to be on the one hand positively associated with higher total factor input (TFI) growth but on the other hand negatively associated with total factor productivity (TFP) growth. Second in a model where both \u85rms and workers face imperfect capital markets, I show that labor market exibility relaxes \u85rms borrowing constraints but raises \u85rms incen-tives to invest in low productivity projects. Moreover labor market exibility has a positive impact on workers precautionary savings and raises thereby the volume of global savings. As a result, the economy exhibits multiple equilibria: one with inexible labor contracts low savings and low investment but high productivity and high interest rate and one with exible labor contracts high savings and high investment but low productivity and low interest rate. The model therefore rationalizes the empirical observations on the relationship between labor market exibility and the di¤erent sources of growth. Finally the model shows that the negative e¤ect on TFP can o¤set the positive e¤ect on TFI, the high exibility equilibrium being then dominated in terms of both welfare and growth. Preliminary Version. Comments Welcome