Survey finds that statutory protection against dismissal hurts small firms

The findings of a representative survey of firms with up to six employees, carried out in March 2003 by the Forsa research institute, indicate that less restrictive dismissal protection laws could create additional employment in Germany. Meanwhile, a study published by the Ifo research institute argues that strict employment protection legislation is harming employment creation.

According to a representative survey of 1,001 firms with fewer than six employees carried out by the Forsa Society for Social Research and Statistical Analysis (Gesellschaft für Sozialforschung und statistische Analysen mbH, forsa) in March 2003, many small firms of this size have encountered difficulties owing to Germany's dismissal protection legislation over the past five years. The protective legislation currently applies to employers with more than five employees. The survey finds that since 1998, among firms with four or five employees, 14% and 15% respectively have had negative experiences related to this legislation. One in seven small firms in the representative survey state that they have not created new jobs due to the strict dismissal protection legislation which applies when their workforce exceeds five. For enterprises with four or five employees, which would be most immediately affected if they employed additional staff, this figure increases to 27% and 31% respectively - see the table below.

Small firms and dismissal protection legislation
. % of firms with up to five employees
. which have previously had problems with dismissal protection legislation which have not hired new employees for five years due to dismissal protection legislation
All firms 8 14
East Germany 6 9
West Germany 9 16
Goods producing sector 10 19
Construction sector 13 27
Wholesale trade 11 29
Retail 7 11
Services 8 10
Craft sector 9 25
Information technology sector 4 15
Firms with one employee 3 10
Firms with two employees 6 8
Firms with tree employees 9 11
Firms with four employees 15 27
Firms with five employees 14 31

Source: Forsa survey of 1,001 firms with up to five employees, March 2003.

In 1998, after the coalition government of the Social Democratic Party (Sozialdemokratische Partei Deutschlands, SPD) and Alliance 90/The Greens (Bündnis 90/Die Grünen) came to office, one of its first measures was to extend the scope of firms affected by the employment protection legislation in terms of dismissal protection. Due to this change, such legal restrictions once more applied to firms with more than five employees (DE9901291N). This threshold had been raised by the previous coalition of the Christian Democrats (Christlich Demokratische Union, CDU/Christlich Soziale Union, CSU) and Free Democrats (Freiheitlich Demokratische Partei, FDP) to firms with more than 10 employees. The 'red-green' government is now planning once more to reduce the statutory protection against dismissal (DE0303105F).

Job creation through less restrictive dismissal protection

The Forsa poll also indicates that less restrictive dismissal protection legislation for small firms could result in at least 300,000 new jobs. More than 40% of the small enterprises with fewer than six employees surveyed say that they would very likely increase their workforce if the dismissal protection laws were liberalised. In particular, almost 60% of companies with five employees and 50% of those with four employees state that they would increase their workforce if regulations were less restrictive. On average, the firms in the survey said that they would hire up to two additional employees. If only one third of the firms that planned to hire more employees as a result of less restrictive regulations actually did so, the Forsa study estimates that over 300,000 new jobs would be created.

Other recent research

According to a study by the Cologne Institute for Business Research (Institut der deutschen Wirtschaft Köln, IW), an increase in the threshold for the application of the dismissal protection law from five to 10 employees would mean that about 500,000 companies would be less reluctant to hire additional staff, while an increase to 20 employees would make 700,000 firms less reluctant.

Additionally, a new study published by the Ifo (Ifo Institut für Wirtschaftsforschung an der Universität München) research institute states that relaxing employment protection legislation would help to fight unemployment and raise employment by facilitating hiring decisions by firms, particularly in the growth areas of new technology and the service economy. The authors argue that dismissal protection is especially negative for employment when major 'structural breaks' occur, as is currently the case owing to structural changes characterised by globalisation, the increased role of the service sector and the transition to the 'new economy'. Shocks are both occurring more frequently and are greater in magnitude. The effect of dismissal protection on employment in such an environment is enhanced, the study argues, because young, growing firms are very reluctant to hire new workers, while employment protection legislation cannot prevent dismissals in firms or sectors which are in decline anyway.

Commentary

A number of international studies have found that the much debated (DE0304204F) current employment protection laws in Germany 'create a protected enclave of insiders who experience less unemployment and wage fluctuations than the excluded outsiders. Social justice applies to this enclave but not to the entire society' (in the words of 'Flexibility and job creation: lessons for Germany', James J Heckman, in Knowledge, information and expectations in modern macroeconomics. In honor of Edmund S Phelps, Philippe Aghion and others (eds), Princeton University Press, 2003). Less restrictive dismissal protection legislation would not only lead to more efficiency and employment, but also increase social justice in Germany as a whole. (Lothar Funk, Cologne Institute for Business Research)

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