The value of flexible contracts

Abstract Fixed-term contracts have been used in many European countries to reduce firms' firing costs. In this paper we evaluate the size of these costs by measuring the willingness of firms to trade fixed-term for open-end contracts in exchange for a cut in the labour cost of permanent jobs. Our results are based on a panel of Italian firms in the engineering sector exposed to an exogenous reduction in their labour cost induced by a tax credit granted to all firms hiring workers with open-end rather than fixed-term contracts. We found that a 1 per cent reduction in the labour cost of open-end contracts reduces the share of workers hired with a fixed-term contract by about 0.28 percentage points. In Italy, the share of fixed-term among new contracts grew from 34 to 42 per cent between 1995 and 2003. Using our results we evaluated that the labour cost reduction associated with this expansion amounted to about 23 per cent. JEL classification: D78, H25, J23, J38