Labor Regulations and European Industrial Specialization: Evidence from Private Equity Investments

European nations empirically substitute between employment protection regulations and labor market expenditures like unemployment insurance benefits in the provision of labor market insurance to workers. While perhaps substitutes from a worker's perspective, employment regulations more directly tax firms making frequent labor force adjustments. These labor adjustments are especially important for the portfolio companies of both venture capital and buy-out investors. European nations providing worker insurance through labor market expenditures developed stronger domestic private equity markets over the 1990-2004 period than those nations favoring employment protection. These patterns are further evident in US-sourced private equity investments into Europe. Moreover, tests for industry specialization suggest that countries with more flexible labor markets tend to specialize in sectors characterized by high labor volatility. These results are relevant to the literature examining the impact of labor market regulations on entrepreneurship and productivity growth due to reallocation across firms and sectors.

Click here for the full text.