Technological change, labor markets, and ‘low-skill, low-technology traps’

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Abstract

There is evidence that in several European countries in the last decade the demand for skilled workers did not keep pace with the relative supply thereby leading to the creation of a large pool of overeducated and underutilized workers. This paper analyses whether this mismatch can be attributed to a technology-related explanation. According to this hypothesis, pockets of overeducated and underutilized workers stem from firms' inability to reap the benefits associated with a high rate of technological progress because of strict employment protection regulation. Firing restrictions may prevent firms from immediately taking advantage of upward changes in skilled workforce availability and hence they may discourage firms from adopting new technologies. This, in turn, may diminish firms' growth prospects and thereby may reduce the number of vacancies that can be filled with highly skilled workers. The technology-related explanation is tested using data resulting from the 1995 wave of the European Community Household Panel (ECHP) survey. Empirical findings support the hypothesis of technology-related pockets of overeducated and underutilized workers.

Introduction

The importance of the socioeconomic value of human capital, particularly education, has long been recognized by both policy-makers and economists [1]. Primary and secondary education may produce positive externalities for society at large, for instance in the form of less criminal activity or less drug abuse. Yet, tertiary education may provide positive spillover effects that are crucial to the development of high-technology sectors of the economy and, in turn, affecting economic growth. There is also convincing empirical microeconomic and macroeconomic evidence on the productivity-enhancing effects of education [2]. The last two decades have seen a substantial increase in the educational level of the population in almost all industrialized countries. The rise in the supply of skilled labor has been accompanied by a technology-driven upward shift in the demand for highly educated workers [3]. In particular, many studies focus specifically on computers as the main cause of the rise in the demand for skilled labor (see, among the others, [4], [5]). For instance, Autor et al. [6] show that, in the US in the 1980s, the shift in favor of educated workers occurred in industries that have had the greatest increase in computer usage. Despite this increase in the demand for skills, it is debatable whether the rate of growth of demand has kept pace with the rate of growth of relative supply. If the rise in the supply of highly educated workers outpaces the rise in relative demand, a pool of overeducated and underutilized workers is the likely result. This situation is known in the literature of education economics as overeducation.1 Workers are considered overeducated if their education is greater than the job typically requires. Conversely, workers are defined as undereducated if their level of education is less than typically required for the job.

One explanation for overeducation emphasizes the role of technological change [7]. The rapid pace of technological change may require skills and qualifications higher than those possessed by a large number of currently employed workers. Nevertheless, high adjustment costs, which characterize more regulated and less flexible labor markets, may discourage firms from replacing quickly a considerable proportion of less-educated workers by highly educated ones. For instance, firing restrictions may significantly raise labor costs since they act as a tax on workforce adjustment. Therefore, this situation may create, at least in the short run, pockets of overeducation as well as undereducation. Additionally, to the extent that employment protection legislation reduces hiring in the economy, it may also tend to lock protected highly educated workers into relatively poor matches by making it more difficult for them to obtain a new position [8]. There is empirical evidence supporting this view. Strict employment protection regulation appears in fact to be associated with low rates of job displacement from firms [9].

Strict employment protection regulation may also indirectly lead to a higher incidence of overeducation by pushing the economy towards a ‘low-skill, low-technology trap’: on the one hand, firms do not adopt new technologies because their workforce is insufficiently skilled. On the other hand, lower skill levels may discourage firms from investing in new technologies and hence may undermine their growth prospects. This, in turn, may prevent firms from hiring a higher number of skilled workers. It is implicitly assumed that there is a strong complementarity between new technologies and human capital [10]. Firms are willing to adopt new technologies only if they have a sufficient number of highly educated employees. A crucial characteristic of skilled workers is their adaptability. Skilled workers are regarded as being more flexible than unskilled workers, in the sense that they can adapt to new technologies at a lower cost relative to the unskilled workers [11]. The importance for firms of having the ablest workers in their key positions mastering new technologies is confirmed by several articles. For instance, Entorf and Kramarz [12], who have used data coming from the 1985–1987 Enquête Emploi' (French Labor Force Survey), find that enterprises place their ablest workers in jobs where they use ‘computer related new technologies leaving large autonomy’ (to the worker using it) to take fully advantage of their creativity. This means that, not only, as observed above, the firms' difficulty in firing less-educated employees could increase the incidence of overeducation, but it may also lead to a slow adoption of new technologies. Since firms cannot fully take advantage of upward changes in skilled workforce availability, they may have less incentives to upgrade their technology of production. Thus, the economy may fall into a ‘low-skill, low-technology trap’. On the one hand, firing restrictions may discourage firms from adopting new technologies because of the high adjustment costs resulting from replacing less-educated workers by highly educated ones. On the other hand, to the extent that the slow adoption of new technologies undermines growth prospects, it reduces hiring.

Moreover, a further consideration could reinforce the hypothesis according to which strict employment protection regulation may yield a lower rate of technological progress. To the extent that highly educated workers may get locked into poor matches due to hiring–firing costs, strict employment protection legislation may lead to a suboptimal concentration of human capital in technologically advanced sectors thereby generating a lower frequency of technological innovation facilitated by the existence of such human capital. Of course this conclusion heavily relies on the assumption that technological progress (or the rate of adoption of new technologies) is positively related to the average level of human capital in technologically advanced sectors.

A crucial assumption behind the technology-related explanation for overeducation is that firms have strong disincentives to provide training to their less-skilled workers since they may not get fully rewarded for the training costs they have to bear. The classical argument used in the economic literature to explain this situation is the ‘poaching externality’ [13]. When workers are willing to change employers, the potential benefits from training accrue not only to the firm providing it and the worker acquiring it, but also to other firms that could make use of it without shouldering any of the cost. On the other hand, it is often assumed that liquidity constraints and imperfect capital markets may generally prevent less-skilled workers from borrowing to pay the full costs of training themselves.

The technology-related explanation for overeducation is tested using aggregate data resulting from the 1995 wave of the European Community Household Panel (ECHP) survey [14]. This source of information is particularly attractive for two reasons. First, data were collected across several European Union (EU) member states and they are truly comparable. Second, data on the incidence of overeducation are classified according to different levels of educational attainment. A pooled cross-country model is set up to carry on the empirical analysis. The findings appear to be consistent with the hypothesis of technology-related pockets of overeducation.

The structure of the remainder of this paper is as follows. In Section 2, we report the results emerging from the ECHP survey about overeducation. In Section 3, we develop a model for the incidence of overeducation and present the empirical results. Section 4 concludes.

Section snippets

The incidence of overeducation in Europe

Data on the incidence of overeducation come from the 1995 wave of the ECHP survey that contains information on approximately 60,000 households and 129,000 adults across 13 EU member states. This survey was carried out by Eurostat, and the data were collected by either EU National Statistical Institutes or Research Centres that conducted face-to-face interviews. Overeducation was measured through the worker self-assessment method. Survey respondents were asked to compare their educational level

Empirical analysis

We use the results on the incidence of overeducation emerging from the 1995 wave of the ECHP survey to run a pooled cross-country regression. We pool data on the incidence of overeducation for 11 countries (i.e. Belgium, Denmark, Germany, Ireland, Netherlands, Austria, UK, France, Spain, Italy, and Portugal) and for three different levels of educational attainment (i.e. tertiary, upper secondary, and less than upper secondary education). The following specification is applied:OVEDij=a+bEDPOPij+c

Conclusions

We set up a pooled cross-country model to test empirically the technology-related explanation for skill mismatches (which in this case translates to underhiring of skilled workers, often referred to in the literature of education economics as overeducation). According to this hypothesis, overeducation is caused by firms' inability to appropriate the benefits stemming from a high rate of technological progress due to strict employment protection legislation. More specifically, strict employment

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