Wages and labor demand in Finland

Abstract

In Finland wage drifts are over 30 %. Wage dispersion is above the average level in the Nordic countries. Wage dispersion has increased, although some studies suggest that the increase in wage dispersion is significantly lower when changes in educational level and other labor characteristics are taken into account. There is considerable scope for wage formation outside centralized wage bargaining. It is tempting to claim that under the increasing competition profit margins have narrowed across industries and the flexibility of wages is increased in the past ten years. However, we cannot find any increase in the wage elasticity of labor demand, aside from that explained by financial distress. The wage elasticity of labor demand, one measure for wage flexibility, is relatively low, at least as regards the large firms, being -0.4 for the small and medium-sized and -0.7 for the large firms. The labor demand is more flexible in the small and medium-sized firms than in the large firms. This is relevant point also in the study of labor market flexibility under EMU.

We explain labor demand, wage formation and productivity by two additional corporate-specific factors, often ignored in international studies, too. The first is the firm’s financial position and the second is the corporate profitability, assessed in the context of rent-sharing (profit-sharing) between employers and employees. To assess the implications of these, we introduce two new efficient key figures: quasi rents and borrowing ratio. As a background, also for the use of these key figures, we present Nash bargaining model between employers, employees and banks. The rent-sharing between employers and employees is assumed to take place at corporation level. In the wage bargaining, quasi rents, a firm’s profits over the average profit level in the industry, are relevant. To assess quasi rents, we use average wages in the industry instead of the firm’s own wages. It is shown that rent-sharing, or corporate profitability in general, is an important factor for wage formation, although the effect is weak for the largest firms. Corporate profitability is of equal importance as in the United Kingdom and the United States. In addition, profitability affects wages more than labor demand, which is in line with the rent-sharing approach.

In the bargaining model, the threat of bankruptcy can affect both the level of wages and the interest rate in loan contracts. The probability of bankruptcy is measured by the other new key figure, interest expenses as a share of cash flow. It is shown that firms have been sensitive to the financial position and many of them have been financially constrained. This finding is not very surprising given that the period under consideration, 1986–1996, includes the deep recession of the 1990’s. We also find the decrease in interest rates after the 1990’s recession, in turn, increase labor demand with some lag, especially in the largest firms. This can also relate to integration and internationalization rather than being attributed solely to financial constraints. It is also shown that the importance of profit-sharing or the negotiation power of workers is increased during a recession. This is not bad for employment, since it shows a greater flexibility of wages downwards when profits decrease.

We have shown above the importance of financial problems in explaining the rapid increase in unemployment. The very low profitability was also an important factor, although in Finland wages are equally sensitive to profits than in other countries. A third factor for mass unemployment is the low labor productivity especially in large firms. We have measured this by value added divided by labor. Labor productivity has rapidly increased since the recession, especially in large firms. But the cut-down in the labor force may have taken place partly at the expense of capital productivity. The labor productivity increase in the largest firms has not necessarily increased the productivity of capital. This implies that there has been a loss in the efficient utilization of production factors.

Perhaps one of the most intriguing findings in this study is the strong importance of the size of firm for the behavior of firms, absent in a similar study in the United Kingdom. In the study the firms are divided into small, medium-sized, the 250 second-largest and the 250 largest firms. The firmsize effects can be summarized by:

• SMEs have highest wage elasticity: wage expense cuts have the greatest positive effect on SME employment.
• In the medium-sized and the second-largest firms profitability is important in wage formation, well explained by rent-sharing.
• SMEs enhance productivity under financial distress and large firms kick out employed people.
• The relatively higher decrease in labor force in the large firms is also explained by the relatively low labor productivity.
• Large firms have used capital inefficiently.
• Large firms’ labor demand decreases as concentration increases. But concentration on average has not particularly increased since the middle of the 1980s.

These findings fit with some modification the more general observation that employment is less cyclical in SMEs than in large firms in Finland (see Heinonen and Leiwo, 1997). There is a considerably greater wage elasticity of labor demand and job creation and destruction in SMEs than in large firms. The large job creation ends up with only moderate net employment increases. The recession in 1990s recession had a more important influence on labor demand of large firms.

• ISSN: 1236-7176
• ISBN: 952-5071-15-4
• Press Release in Finnish