September 2006

Document of the World Bank

Report No. 36576-YU

SerbiaLabor Market Assessment

Human Development Sector UnitSouth East Europe Country UnitEurope and Central Asia Region

Report N

o. 36576-YU

Serbia Labor Market A

ssessment

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ACKNOWLEDGMENTS

This report was prepared by a team consisting o f Gordon Betcherman (task team leader), Arvo Kuddo, Maria Laura Sanchez Puerta, Shweta Jain, and Tanja Boskovic. A background paper on labor costs and wages by Mihail Arandarenko and Katarina Stanic was a substantial input to the study. A major part o f the analysis was based on the 2004 and 2005 Labor Force Survey databases, which were made available by the Republic Statistical Office. In particular, the team acknowledges the collaboration o f Dragana Dokovic Papic, Jelena Milakovic, and the entire RSO team responsible for the LFS. Radmila Katic, Assistant Minister o f Labor, Employment and Social Protection and Svetlana Aksentijevic, Head o f Department o f Statistics o f the National Employment Service provided very useful data and other materials. Carmen Laurente and Augustina Nikolova worked on document preparation as well as coordinating the administrative aspects o f the project. The study greatly benefited from inputs, comments, and ideas from Toby Linden, Dena Ringold, Mathew Verghis, Ardo Hansson, Ruslan Yemtsov, and the peer reviewers, Wendy Cunningham, Willem van Eeghen, and Gary Fields. Comments were also provided by the Ministry o f Labour, Employment and Social Policy. The project was carried out under the supervision o f Carolyn Jungr and Arup Banerji.

CONTENTS

OVERVIEW ................................................................................................................................................... i A . Labor Market Trends .......................................................................................................................... ii B . Constraints to Job Creation ................................................................................................................. iv C . The Safety Net for Workers ................................................................................................................ v i D . A Reform Agenda for the Labor Market .......................................................................................... v i i i ...

CHAPTER 1 : INTRODUCTION ................................................................................................................. 1 A . Background .......................................................................................................................................... 1 B . Framework and Structure ofthe Report ............................................................................................... 5

CHAPTER 2: LABOR MARKET TRENDS ................................................................................................ 7 A . Recent Labor Market Developments ................................................................................................... 7 B . Long-term Trends ............................................................................................................................... 16 C . Looking Forward - Demographic Trends .......................................................................................... 20

CHAPTER 3 : SPECIFIC ISSUES IN THE LABOR MARKET ................................................................ 25 A . Long-term Unemployment ................................................................................................................. 25 B . Wage Determination ......................................................................................................................... -29 C . Informal Employment ....................................................................................................................... -33 D . Youth in the Labor Market ................................................................................................................. 37

CHAPTER 4: THE CONTEXT FOR JOB CREATION ............................................................................ 45 A . Macroeconomic Environment ............................................................................................................ 45 B . Investment Climate ............................................................................................................................ 50 C . Education and Skills o f the Workforce .............................................................................................. 54

CHAPTER 5: LABOR MARKET POLICIES: LABOR COSTS AND REGULATIONS ........................ 59 A . Labor Costs ........................................................................................................................................ 59 B . Labor Market Regulation ................................................................................................................... 66

CHAPTER 6 : SAFETY NET FOR WORKERS ......................................................................................... 73 A . Supporting Enterprise Restructuring .................................................................................................. 73 B . Unemployment Benefits ..................................................................................................................... 7 8 C . Active Labor Market Programs .......................................................................................................... 82

References.. ............................................................................................................................................. 89

List o f Boxes. Figures. and Tables

Box 1.1 : The Unique Employment System in the Former Yugoslavia ......................................................... 1 Box 2.1: Labor Force Survey 2004-2005 ...................................................................................................... 8 Box 2.2: Labor Market Status and Subjective Perception o f Household Financial Situation ..................... 10 Box 2.3: Employment in the Roma Communities ...................................................................................... 12 Box 2.4: Issues in Measuring Unemployment (and LM Activity) with Registration Data ......................... 17 Box 2.5: Methodology: LFS 1995-2003 vs . LFS 2004-2005 ...................................................................... 19 Box 3.1 : Tracking Workers with the Longitudinal Panel ........................................................................... -28 Box 3.2: Data and Methodology for Wage Analysis .................................................................................. 30 Box 4.1: How Private Sector Development has been a Key to Job Creation in Transition Countries ........ 50 Box 4.2: Principal Data Sources for Analyzing Serbia’s Investment Climate ............................................ 51 Box 5.1 : The 1996 Serbian Law on Labor Relations .................................................................................. 67 Box 6.1 : Redundant Worker Transition Centers ......................................................................................... 75 Box 6.2: World Bank-DfID Tracer Surveys o f Redundant Workers .......................................................... 76

Figure 2.1: Distribution o f Employment by Status. Total Economy. 2005 ............................................. 13 Figure 2.2: Distribution o f Wage-earners by Ownership According to Demographic Characteristics. 2005 ..................................................................................................................................................................... 15 Figure 2.3: Labor Market Indicators for Ages 15 and Over (thousands), based on LFS and Registered Data, 2000-2005 .......................................................................................................................................... 18 Figure 3.1 : Transitions Out o f Unemployment ........................................................................................... 28 Figure 3.2: Adjusted Monthly Wage Premiums by Educational Level. 2005l ........................................... 31 Figure 3.3: Minimum Wage as Percent o f Average Wage. Latest Year Available ..................................... 32 Figure 3.4: Monthly Log Wage Distributions. Informal and Formal Wage Sectors. 2005 ......................... 33 Figure 3.5: Employment Status o f Youth. 2005 .......................................................................................... 39 Figure 4.1 : Recent and Projected Trends in GDP, Serbia and Montenegro ................................................ 46 Figure 4.2: Changes in Employment and in GDP. Serbia and Montenegro and Selected Countries in Eastern Europe ............................................................................................................................................ 47 Figure 4.3: Share o f GDP in Services. Serbia and Montenegro and Selected Transition Countries. 1996 and 2004 ...................................................................................................................................................... 49 Figure 4.4: Problems Faced by Enterprises in Serbia. and Montenegro. BEEPS. 2002 and 2005 ............... 53 Figure 4.5: FDI as a Percent o f GDP. Serbia and Montenegro and Selected Countries in ECA. 2004 ...... 53 Figure 4.6: Proportion o f Firms Indicating that Skills and Education o f Workers i s a Business Constraint, Serbia and Selected SEE Countries. 2005 ................................................................................................... 54 Figure 4.7: PISA Performance Indicators. Serbia and Comparator Countries in ECA ............................... 56 Figure 4.8: Incidence o f training in Serbia and Montenegro and selected countries in ECA ..................... 57 Figure 5.1: Real Gross Wage Trends, RAD-1 and Tax Administration Data Estimates. 2002-2005 ......... 61 Figure 5.2: Multiples o f Monthly Wages Paid in Severance at Selected Lengths o f Service. Serbia Compared to ECA and OECD Regions ...................................................................................................... 69 Figure 5.3: Labor Regulations as a Problem in Doing Business in Serbia, SEE, EU8, and ECA Countries, BEEPS. 2002 and 2005 ............................................................................................................................... 71 Figure 6.1 : Distribution o f UI Beneficiaries. According to Benefit Duration. December 2005 ................. 80 Figure 6.2: UI Contributions Collected as a Percent o f N e t and Gross UI Liabilities, 2003-2005 ............. 82 Figure 6.3: Public Employment Service Staff. Selected Countries. Latest Year ........................................ 84

Table 1 . 1 : Summary o f Main Findings and Policy Reform Options ............................................................. 3 Table 1.2: The MILES Jobs Framework ....................................................................................................... 5 Table 2.1 : Labor Market Indicators. Adult Population 15-64 years. 2004-2005] ......................................... 9 Table 2.2: Key Labor Market Indicators. Western Balkans. 2004 ............................................................... 9

Table 2.3 : Distribution o f Working Age Population. Employed. and Unemployed by Demographic Characteristics. 2005 ................................................................................................................................... 11 Table 2.4: Labor Market Indicators by Age Groups, 2005 ......................................................................... 11 Table 2.5: Labor Market Indicators by Level o f Education Completed, 2005 ............................................ 12 Table 2.6: Labor Market Indicators by Geographical Groupings, 2005 ..................................................... 13 Table 2.7: Employment by Ownership and Industry, 2004-2005 ............................................................... 14 Table 2.8: Incidence and Composition o f Part-time Employment, 2004' ................................................... 15 Table 2.9: Weekly Hours Worked, All Employees and Wage-earners, 2005 ............................................. 16 Table 2.10: I L O (LFS) and Registered Unemployment, 2005 .................................................................... 20 Table 2.1 1: Demographic Trends for Serbia and Montenegro, 1985-2050 ................................................. 21 Table 3.1 : Long-term Unemployment: Rates and Incidence, 2005 ............................................................. 25 Table 3.2: Long-term Unemployment Rates and Duration in Serbia, 2005 ................................................ 26 Table 3.3: Subjective Perception o f Household Financial Situation ........................................................... 27 Table 3.4: Transition Probabilities from Unemployment ............................................................................ 29 Table 3.5: Nominal Monthly and Hourly Wages by Type o f Firm, 2005 ................................................... 30 Table 3.6: Subjective Perception o f Household Financial Situation, 2005 ................................................. 34 Table 3.7: Characteristics and Rates o f Informality Among Wage Employees, 2005 ................................ 34 Table 3.8: Work Experience in the Formal and Informal Sectors ............................................................... 35 Table 3.9: Wages in the formal and informal sectors, 2005 ........................................................................ 35 Table 3.10: Transition Probabilities Out o f Informality/Formality ............................................................. 36 Table 3.1 1 : Transition Paths Into Employment, LFS 2004-2005 ............................................................... 37 Table 3.12: Main Labor Market Indicators for Youth, 2005 ....................................................................... 38 Table 3.13 : Main Labor Market Indicators: Serbia and Selected Countries ............................................... 38 Table 3.14: Wages and Hours o f Work, Youth in Wage Employment, 2005 ............................................. 39 Table 3.15: Informality Rates by Education, Young Wage Earners, 2005 ................................................. 40 Table 3.16: Monthly and Hourly Wages by Age Groups, 2005 .................................................................. 40 Table 4.1 : Employment Structure in CEE Countries and in Serbia, Compared to International Benchmarks ..................................................................................................................................................................... 50 Table 4.2: Time Needed to Fill Vacancies, by Occupation and Type o f Firm ............................................ 55 Table 5.1 : Average Monthly Wages, Published and Paid-out, 200 1-2005, RAD- 1 Survey ....................... 60 Table 5.2: Average Ne t Wages by District and as a Percentage o f National Average, 2001 and 2005, RAD-1 Survey ............................................................................................................................................. 62 Table 5.3: Serbia's Ne t Wages (Euros) Compared to Other South Eastern European Countries, 2001- 2004 ............................................................................................................................................................ 63 Table 5.4: Labor Tax Wedge at Various Wage Levels, 2005 ..................................................................... 64

Table 5.6: OECD-Method Indicators for EPL Strictness, Serbia and OECD Countries (descending order) ..................................................................................................................................................................... 70 Table 6.1 : Privatization o f SOEs, 2002-2006 .............................................................................................. 73 Table 6.2: Job Search Activity Among Redundant Workers (% distribution) by Age, Tracer Survey Results ......................................................................................................................................................... 77 Table 6.3: Employment Status in April-May 2005 o f Workers Displaced in 2002-2003, According to Socio-demographic Characteristics (% distribution), Tracer Survey Results ............................................. 78 Table 6.4: Age Distribution o f UI Beneficiaries and Unemployed Workers, 2004 .................................... 80 Table 6.5: NES Expenditures (CSD millions), 2003-2005 ......................................................................... 81 Table 6.6: NES Registered Job Seekers, 2000-2005 (average per month) .................................................. 84 Table 6.7: Types o f Active Labor Market Programs Provided by NES, 2005 ............................................ 85 Table 6.8: Impacts o f ALMPs, Based on International Experience ............................................................ 86

Table 5.5: Impacts o f Employment Protection Regulations Based on International Literature .................. 66

List of Annex Tables

Annex Table 2.1 : LFS Main Labor Market Variables and Definitions ....................................................... 22 Annex Table 2.2: FSO/RSO Labor Market Indicators (000s) ..................................................................... 22 for Working Age Population 15+ ................................................................................................................ 22 Annex Table 2.3: LFS Employment Categories According to Two Different Methodologies ................... 23 Annex Table 3.1 : Conditional Regressions o f Log Earnings, 2005 ............................................................ 41 Annex Table 5.1 : Key Benchmarks on Labor Regulations (for regular employees) from National Labor Laws, Serbia and Comparator Countries in ECA ........................................................................................ 72

Republic o f Serbia MINISTRY OF LABOR,

EMPLOYMENT AND SOCIAL POLICY

Foreword

The first Serbia National Employment Strategy (NES) has been adopted for the period 2005-2010. It defines the direction and scope o f the activities to be carried out in order to address employment issues effectively and to develop an efficient labour market in line with the other development goals o f Serbia. The NES defines specific directions in which problems o f unemployment are to be addressed in the ongoing transition phase in Serbia and offers solutions adjusted to the developmental needs and available human and financial resources.

The National Employment Strategy strongly emphasizes the need for the labor market in Serbia to be considered from a regional aspect, and consequently, the goals to be defined and measures recommended for fostering employment not only at national but regional levels as well. The Strategy insists upon the necessity o f increasing FDI and significant activation o f domestic savings into investment as key preconditions for economic growth and higher employment.

Also, it has served as a framework for the adoption o f the 2006-2008 National Employment Act ion Plan (NEAP) which defines the measures and actions for implementation o f the National Employment Strategy with a v iew to achieving higher levels o f employability, supporting employment, reducing unemployment, and overcoming the labour market challenges facing Serbia in i t s transition to a market-based economy. Performance indicators have been defined in compliance with the EU guidelines in the National Employment Strategy, which have been translated into the NEAP and adjusted to the current situation o f the Serbia labour market.

The N E A P i s a document in which the National Employment Strategy as wel l as other development strategic documents and action programmes are translated into concrete measures and activities, in which the area o f employment i s taken into account f rom the perspective o f sustainable economic growth and development and enhancement o f employability. Only with major new investments will it be possible to achieve the goals o f competitive production and sustainable economic growth based upon job creation and large-scale utilization o f national resources. That i s why the strategy for employment generation must be part o f the overall development strategy based upon an integrated approach to implementing economic reforms, enhancing the business climate, and attracting FDI.

Belgrade, August 2006

SERBIA LABOR MARKET ASSESSMENT

OVERVIEW Like most formerly planned economies, Serbia has experienced a difficult transition from

guaranteed full employment to a market-based employment model. Since the latest stage o f reform began in late 200 1, job losses have been large, as Serbia has embarked on a program o f restructuring and privatization. At the same time, job creation in the private sector has been slow, despite fairly strong economic growth in recent years. The result i s a weak labor market performance especially when judged by the standards o f the more successful transition countries. Only about one-half of adults are employed and a substantial proportion i s working in the informal sector. About one in five Serbs in the labor force i s unemployed and many o f these remain without jobs for very long times. The difficult labor market appears to disproportionately affect young people who have unemployment rates that are among the worst in Europe.

Because of political events, Serbia is only now trying to catch up with the more successful reformers. The transition countries that have had some success in terms o f labor market performance have generally gone through a lengthy two-stage process. In the initial stage, the labor market situation i s dominated by substantial job destruction as the state sector i s downsized. Productivity and even output may increase but, inevitably, unemployment remains high and even rises during this stage. This difficult process, however, i s necessary in setting the pre-conditions for the second stage where growth i s led by a dynamic private sector where new firms are being started and existing ones are expanding. A number o f the Central and Eastern European countries that embarked on a complete and permanent reform in the early 1990s are well along in this process. Serbia, by only committing to a reform agenda early in this decade, has a lot o f catching up to do.

The Government has placed priority on employment both in terms of fighting poverty and underpinning economic growth. Creating more and better jobs i s an explicit priority for the Government, as reflected in the Poverty Reduction Strategy. A National Strategy o f Employment, based on a vision o f convergence with Europe and eventual accession to the EU, has now been approved. The Government has just adopted a National Employment Action Plan to guide the implementation o f the Strategy.

The main message of this report is that Serbia needs to adopt a multi-sector jobs agenda to address the employment situation. This agenda calls for the completion of the restructuring program as soon as possible, while continuing to develop the foundation for a dynamic labor market where private- sector job creation is strong. The jobs agenda must be based on a comprehensive approach to employment. It requires macroeconomic stability, a business climate that encourages investment, labor market regulations that allow for the mobility o f workers from declining to growing sectors, an education and training system that can produce a highly-skilled and flexible workforce, and a social safety net that provides adjustment support for workers while creating incentives to find employment.

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Despite the economic growth during the past five years, employment remains low and unemployment is high. Beginning in 2004, the Republic Statistical Office has aligned the Labor Force Survey (LFS) to Eurostat methodologies. The result has been higher-quality labor market information and this report has relied on the survey for the past two years to describe employment conditions. According to the LFS, one-third o f adult Serbs do not participate in the workforce; only one-half are employed; and over one-fifth o f those who are active are unemployed. The situation did not improve between 2004 and 2005 despite GDP growth of almost 5%. In fact, employment appears to have decreased by almost 200,000. This seems to be part of a longer-term trend since 2000 although, because o f the lack o f comparable data over this period, it i s not possible to qu

Disappointing labor market indicators

1 Participation rate Employment rate Unemployment rate

iantify the job loss over that period.

Labor market indicators are much worse than EU averages and the employment rate is far from the Lisbon target of 70%. Serbia’s employment rate lags behind the better performers in Eastern Europe (e.g., Czech Republic, Slovenia, and Romania) and i s well behind the Lisbon standard adopted by the European Union o f 70% to be achieved by 2010. The unemployment rate i s more than double the EU- 15 average and among EU-10 countries, only Poland and Slovakia have unemployment rates near Serbia’s.

The unemployment problem is exacerbated by the fact that, once many workers become unemployed, they remain without work for very long periods. Unemployment i s dominated by long-term joblessness; in 2005, 79% of a l l unemployed workers had been without work for at least one year. There are various reasons for such a high incidence o f very long unemployment spells. One i s the lack o f new job opportunities, especially in lagging parts o f the country. Even where opportunities exist, many o f the long-term unemployed do not have the required education or skills. Willingness or ability to move to more dynamic parts o f the country may also be a problem. Finally, some o f the long-term unemployed have lost their jobs through enterprise restructuring and are able to cope because o f enhanced severance payments, extended unemployment benefits, and other forms of support.

Labor market status is strongly correlated with economic well-being. There i s a close relationship between poverty and the labor market. According to data from the Household Budget Survey, the unemployed and the inactive are roughly three times more likely to be poor than people with jobs. Qualitative evidence from the LFS on subjective perceptions o f individuals about their household financial situation indicates that the employed clearly assess their financial situation more favorably than those who are not working. Marginalized and very poor communities, like the Roma, have extremely high rates o f joblessness.

Employment outcomes are considerably worse for women than for men. The employment rate for women in 2005 was 41%, about 20 points below the rate for men -- and way below the Lisbon target o f 67% for female employment. At the same time, women are much more likely than men to be unemployed (27% vs. 18%). One factor in this picture i s that, while part-time work offers flexibility and

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i s an important type o f employment for women in many countries, very few women work on a part-time basis in Serbia. Women also earn about 15% less than men after adjusting for other factors affecting wages.

Youth unemployment

rate

Although young people everywhere tend to have problems making the transition into the labor market, their situation in Serbia is particularly difficult. Serbia’s youth faces serious problems entering the labor market. Participation and employment rates are low. About one-half o f those young people who are interested in working cannot find a job. Educational attainment does not reduce this unemployment rate. Among women between 15 and 24, the unemployment rate i s 52%. When young people do find jobs, it i s more often in the informal sector than in the formal sector.

Youth labor force participation rate

Youthladult unemployment

ratio

Youth have less success in Serbia’s labor market than elsewhere in Europe

Bulgaria 25.8 2.4 28.9

1 E U 2 5 I 18.9 I 2.5 I 45.1 I

Serbia

1 EU 15 I 16.7 I 2.4 I 47.6 I

47.7 3.2 35.8

1 EU 10 I 31.7 I 2.7 I 35.0 I 1 Romania 1 23.2 I 4.2 I 35.8 I

Source: Eurostat for EU (2004), LFS 2005 for Serbia

the private sector. The share o f private sector employment in Serbia i s s t i l l small - accounting for only 57% o f total employment. The remainder i s largely in the state sector and in socially-owned enterprises. However, according to the LFS data, the employment transition f rom the state- and socially-owned sectors to the private sector i s happening quickly. The private-sector share o f wage employment grew by about 5 percentage points between 2004 and 2005. In view o f the privatization and restructuring program plus downsizing o f the government administration, this trend i s l ikely to continue. r4l Private m State 0 Sociallyowned OOther

The informal sector accounts for an important share of employment. Workers in this sector tend to be relatively poorly paid and do not easily move into formal-sector jobs. According to the 2005 LFS, 43% o f all workers and 27% o f wage-earners were informal, using the definition adopted for this report.’ The poorly educated and young people are significantly overrepresented in the informal sector relative to the formal sector. Even once other factors are taken into account, wages for informal sector workers are 20% below those in the formal sector. There i s a high incidence o f poverty among workers in informal jobs. Dynamic analysis using the 2004 and 2005 LFS data shows the segmentation o f the labor market into formal and informal sectors, with small flows between the two; only about 10% moved from informal wage employment in one year to a formal j o b in the next, with the same percentage moving the other way.

This definition o f informality includes: (i) self-employed individuals who have not completed postsecondary education; (ii) household helpers; and (iii) wage earners and owners in private f i r m s with less than 10 employees. Al l wage-earners in the state- and socially-owned sectors are considered formal.

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Understanding Serbia’s employment situation requires a multi-sectoral perspective that includes both economic and social factors and that addresses both labor supply and labor demand. In this report, we use a framework that considers the implications for employment o f macroeconomic factors, the investment climate, labor market policies and institutions, education and skil ls, and safety net for workers (the MILES framework). By assessing a l l o f these factors, the binding constraints to j ob creation can be identified.

Although output growth has been reasonably good since reforms began, it has not been strong enough to generate net employment gains; however, this “jobless” growth is typical of countries in the early years of transition. Even in a region where jobless or near-jobless growth has been widespread, Serbia has been a relatively poor performer in translating increased output into more jobs over the first ha l f o f this decade. However, Serbia’s j o b creation record i s comparable to that o f other countries at a comparable stage in their transition.

Similar to the early experience of all of these countries, Serbia’s employment stagnation reflects an initial stage of “defensive restructuring ”. The more successful countries have moved beyond this stage to generate larger numbers of jobs through the creation of new private-sector firms and the expansion of existing ones. The restructuring and privatization program has led to large-scale redundancies that have “shocked” the labor market with substantial j o b losses. The release o f productive resources -- including labor -- f rom old and inefficient enterprises i s an essential step in building a strong economy and labor market. Whi le it i s a necessary condition, however, it i s not sufficient. Ultimately, as has been the case elsewhere in the region, Serbia’s j o b creation record will depend on creating the environment for new f i r m s to be created and for existing ones to expand.

Experience in the region and internationally shows that market services wi l l account for most of the new job creation. Serbia’s service sector is relatively undeveloped, even by the standards of the formerly planned economies. Transition countries, with a legacy o f heavy industrialization, tend to have underdeveloped services although the more successful ones are moving towards Western European benchmarks. Serbia currently has a relatively l ow share o f GDP in services even by regional standards, although to some extent, this i s also a reflection o f the late transition. This structural evolution i s very important for j o b creation because evidence from al l regions o f the world shows that middle- and upper-income countries must rely on services as the primary generator o f employment.

2004 - 1996

A favorable investment climate is critical for moving through the transition process and stimulating job creation. Serbia has made clear progress in recent years in improving the laws and regulations that define its business climate but it still lags behind in international comparisons. Serbia and Montenegro was identified as the top reformer in the world in the recent Do ing Business 2006 report.

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Despite these improvements, it i s clear that further progress i s needed: i t s overall ranking i s s t i l l only 92nd out o f the 155 countries included. Moreover, data from firm surveys (e.g., the Business Environment and Enterprise Performance Survey and the Productivity and Investment Climate Survey) show dissatisfaction with the prevailing business environment. The issue at hand i s that, while important legal and regulatory changes are being made, managers and owners do not see the impact of these reforms yet. Continued improvements in the business climate wil l be needed in order to encourage more domestic and foreign investment and to produce a stronger job creation record.

Currently, the skills of the workforce do not appear to be a particularly important binding constraint on job creation. However, there are some signs already of an emerging skills gap that could be a serious limitation in the future. Evidence from managers indicates that the ski l ls and education o f the workforce i s currently a relatively minor impediment to doing business in Serbia. Many firms are still in a restructuring stage and/or in traditional industries. But once Serbia moves into a more robust job- creation mode and the competitive advantage o f firms becomes increasingly based on innovations in products and processes, the sk i l ls and education o f workers will become a more serious constraint to employment. There are already some signs o f this: employers report difficulties in hiring certain types o f higher-skilled workers. Moreover, young firms and firms in the service sector - which i s where the new jobs will come from -- report more skill shortages than other employers.

Improvements in the education and training systems are needed now so that Serbia will be able to compete in the future on the basis of a higher-quality workforce than it currently has. Although educational attainment in Serbia i s comparable to other transition countries, it wil l need to improve to approach the level o f many European countries. Moreover, the international data on learning outcomes indicate that Serbia's young people are lagging behind and are not well prepared for an economy where jobs and growth depend on knowledge and innovation. The secondary system i s a particular concern, since this i s universally considered to be the prerequisite level o f education for participation in a modern labor market. The postsecondary system i s not generating an adequate supply of well-educated graduates with the appropriate skills for the changing labor market. Opportunities to upgrade ski l ls through adult education and training and active labor market programs are limited. Reforms at a l l levels will be needed to address these shortcomings.

Wages did rise rapidly early in this decade but they had moderated by 2003, and have not been a major constraint on aggregate employment since then. Official wage data indicate that wages have dramatically increased in nominal, real, and foreign currency terms since 2000. However, a detailed review o f these data undertaken for this report concludes that, for various reasons, these wage estimates have been upwardly biased. After 2002, average wage growth appears to have slowed and, according to our estimates, it has not exceeded GDP and productivity growth from 2003 onwards.

However, the labor tax system that has been in place since 2001 is a regressive system that has raised costs for low-wage labor. The key policy concern is not the overall level of taxation but its distribution. In 200 1, Serbia introduced new rules on the taxation o f labor including social contributions. This reformed what had been a somewhat bizarre and largely unenforced system by broadening the tax base, lowering rates, and fully taxing fringe benefits. The concern with Serbia's current system i s not the level o f taxation - it i s still not high by regional standards, although it should be noted that Eastern Europe i s a high-tax region by global standards. Rather, the issue i s how the tax burden i s distributed. The effect o f the changes made in 200 1 (with small amendments since) was to introduce a uniquely regressive system in which the tax burden i s highest for low-wage labor and declines as earnings rise. While the tax wedge (which measures the burden o f taxes levied on labor) i s 47.1% in the case of workers earning 33% o f the average wage; this falls to 42.2% for average wage workers; and continues to decline, down to 32.7% for workers earning 8 times the average wage.

V

Since a high tax wedge on labor income hampers job creation, Serbia’s tax system places a large burden on f i r m and sectors employing low-wage labor. This discourages formal hiring in those segments of the labor market that are critical for addressing current unemployment and for driving job creation in the future. The impact o f the tax system i s disproportionately felt through the economy. I t has particularly negative consequences for small, de novo private firms, especially in the service sector, that must be the engine for future job creation. The types o f workers affected are likely to be in many o f the groups experiencing difficulties finding employment including youth, the poorly-educated, and others suffering through very long spells of unemployment.

The labor law reforms implemented in 2001 radically changed the basis of labor market regulation from the “self-management” system to a market-based model. The historical legacy o f the traditional “self-management” system was a very high level o f job protection and overall rigidity in the labor market. The 2001 Law was a major departure, transforming the legal framework to a market-based model, with provisions for substantially more flexibility in hiring and firing and labor deployment. Important changes were also introduced into collective bargaining.

I n 2005, a new Labor Law was enacted that was not a fundamental reform but did introduce some important changes - not all favorable from the perspective of the employer community. The 2005 Labor Law contains new ru les in various areas, including compensation and employment protection. A key aspect o f the new law i s the change in how remuneration i s to be structured and administered. Employers have expressed concerns that these reforms interfere too much with market principles for pay- setting and that the new provisions are too complex. Employment protection rules were also changed, generally with the effect of strengthening job security through increased severance and restrictions on fixed-term contracts. While labor market regulation i s still not one o f the major barriers to doing business, the 2005 BEEPS survey indicates that it i s a problem for about one-third o f firms primarily because o f the administration of the law.

Nonetheless, on balance, Serbia’s labor market regulations under the 2005 Law are still not particularly rigid compared to other countries in the region and in the OECD. Moreover, limited inspection capacity undoubtedly reduces the extent to which labor laws actually affect labor market outcomes. Using different methodologies, the report’s assessment i s that Serbia does not have especially rigid labor market regulations. I t i s broadly in the middle range when compared to OECD countries and more flexible than most other SEE countries. I t also seems reasonable to conclude that the effect o f the law i s further reduced by the limited capacity o f the Labor Inspection Department to fully enforce the legislation.

As Serbia’s economy becomes increasingly market-based and oriented towards Europe and the global economy, its labor market wi l l become more volatile and an effective safety net w i l l be essential to support workers. Income support and active labor market programs are the key instruments in assisting workers to adjust to the inevitable shifts and dislocations in a flexible labor market. Currently, neither instrument offers more than very limited support to the large majority o f unemployed or otherwise vulnerable workers.

To this point, labor adjustment efforts have focused on workers made redundant due to enterprise restructuring and privatization. While the challenge of supporting these workers is understandably an integral part of the privatization process, the Government Social Program has required significant financial resources. The enterprise restructuring program has already led to substantial numbers o f layoffs and it will lead to further large-scale redundancies over the next few years

vi

as there are s t i l l around 250,000 employees in state-owned and in socially-owned enterprises under restructuring. In 2002, the Government instituted the Social Program to compensate and support workers displaced from selected socially-owned and public enterprises undergoing restructuring or privatization. Under the Program, participating redundant workers can choose among different compensation options. The average redundancy payment has equaled around 130,000 dinars, which i s a far more generous compensation than the registered unemployed with insurance records can claim. During 2002-2005, redundancy payments f rom the Transition Fund, established to cover the costs o f the Social Program, were almost 20 bi l l ion dinars, roughly 0.5% o f GDP annually.

Most redundant workers find it very diyficult to get reemployed, with the large majority remaining unemployed at the time of being surveyed. Tracer surveys have found that redundant workers are twice as likely to be unemployed than employed. This poor reemployment rate i s not surprising given the fact that these workers tend to be older and whatever ski l ls they have are generally specific to declining occupations and industries. The majority o f workers surveyed see a lack o f vacancies as the main obstacle to reemployment

I t is important for the Social Program to wind down so that resources can shifi to the labor force at large. Currently the unemployment insurance program provides benefits to very few workers. Although redundant workers released from the state- and socially-owned sectors have received a substantial share o f the overall public funds allocated to jobless workers, they actually constitute a relatively small part o f the overall unemployment pool. Most unemployed workers, in effect, do not have access to income support programs. In fact, only about 5% o f a l l unemployed workers receive unemployment benefits. There are various reasons for the l ow coverage including exhaustion of benefits because o f the high incidence o f long-term unemployment and the fact that many unemployed workers - most often new entrants -- do not meet eligibil i ty criteria.

The UI system really does not play its intended role as a transitional safety net for workers temporarily out of work and searching for new jobs. In fact, most beneficiaries exhaust their eligibility after very long benefit durations. Only one out o f 8 beneficiaries receives unemployment benefits for 6 months or less. Over hal f are on the unemployment rolls for over one year, with almost one-third getting benefits for 24 months which i s currently the maximum duration. About 20% wil l receive benefits until they become eligible for a pension; this extended benefit was possible for those with more than 30 years o f insurance history but was grandfathered under the 2003 Employment Law. As suggested by the long benefit durations, UI beneficiaries tend to be older workers; almost 70% are 45 or over.

I Most claimants ha@ verylong benefit periods

A major problem with the unemployment insurance system is arrears in the payment of benefits. In reality, claimants receive their f i rst payment only six months after being declared eligible. This delay can easily discourage the unemployed from making an application to NES. Moreover, this situation creates incentives for informal employment since UI claimants, waiting for payments to start, often work informally during the arrears period (and beyond). As o f December 2005, unemployment benefit arrears were over 7 b i l l ion dinars. In 2005, contribution revenues were only able to cover 67% o f the expenditures for gross UI benefits (Le., including pension and health fund contributions). Shortfalls are covered by transfers f rom the general budget. There are signs that the financial situation to fund

vii

unemployment insurance i s improving with significant increases in revenues from contributions since reforms were passed under the 2004 L a w on Social Insurance Contributions.

The UIfinancingproblems have resulted in low and uncertain funding for active labor market programs. Meeting UI liabilities i s the priority for the unemployment insurance fund and for employment-related budgetary transfers. As a consequence, and given the l imited overall resources available, expenditures on A L M P s have been small and have been fluctuated substantially from year-to- year. In recent years, Serbia has spent 0.1% or less o f GDP on active measures, which i s less than spending in most other CEE countries.

While the available budget is limited, the clientele - the registered unemployed -- is very large because many people register with the NES in order to get health and other forms of social insurance. This large caseload places a major burden on an already overstretched employment service. The number o f registered job-seekers far exceeds the estimates o f unemployment based on the Labor Force Survey. There are strong incentives to register since unemployment beneficiaries are entitled to health, pension, and disability insurance during the period o f benefit payment. As a result, many people registered with NES as job-seekers are actually employed in the informal sector or are not really in the labor force. The NES faces a number o f severe problems that make this an impossible situation: it lacks funds;. it i s understaffed; and it i s heavily constrained by a fragmented network o f employment offices while trying to modernize an old-fashioned system o f employment services. Staff caseloads are among the heaviest in the region.

The number of registered unemployed participating in ALMPs is small. There have been no rigorous evaluations of the impact of these programs. Between 2002 and 2004, on average 37,000 unemployed workers participated every year in ALMPs (4% o f the registered unemployed); in 2005 with more resources available, the number increased to 101,500. The major activities were employment services which are intended to improve the information available to job-seekers and employers and to mediate between the two. Some training and self-employment assistance i s offered but on a very limited basis. There i s no rigorous evaluation evidence on the impact and cost-effectiveness o f any NES programs and services.

The analysis presented in this report highlights the employment challenges facing Serbia. Policy-makers should focus on three overriding concerns:

Even with the resumption o f economic growth early in this decade, employment has decreased and unemployment remains high and appears to be rising; Labor market exclusion is a serious issue, with particular groups (e.g., youth, the poorly-educated) having very poor employment prospects and with many workers, once they become unemployed, remaining without work for very long periods o f time; and The safety net for workers is ineflective and does not contribute to making the labor market more dynamic. Available resources are concentrated on providing severance payments and extended benefits to workers la id o f f because o f privatization and enterprise restructuring, with the large majority o f workers having no access to reemployment services or income support.

These problems cannot be solved by employment programs that attempt to directly create jobs or provide a long-term cushion for the unemployed. Programs that try to tackle labor market problems through special subsidies and other means may provide relief for targeted groups but the costs can be high and they wil l not create significant additional employment. N o r can unemployment problems be managed

vii i

through large and/or extended benefits that compensate workers but do l itt le t o get them back into the workforce. These strategies cannot be a substitute for a dynamic labor market that i s conducive for j ob creation.

The strategy for addressing Serbia ’s employment challenges must be based on multi-sectoral reforms that create a favorable environment for j ob creation in the private sector. Jobs are created as a result o f the creation o f new f i r m s and the expansion o f existing f i rms . This requires a multi-sectoral strategy that i s based on macroeconomic stability, encourages investment, allows for the mobil ity o f workers f rom declining to growing sectors, creates a highly-skilled and flexible workforce, and provides adjustment support for workers while creating incentives to find employment.

The economic and regulatory reform agenda is essential in order to ensure the macroeconomic stability and favorable business climate that are so important for improving the employment situation. Although recommendations in the area o f economic policy are beyond the scope o f this report, it needs to be emphasized that sustained growth i s essential for improving Serbia’s j o b creation record. Uncertainty remains a concern for investors so continued efforts to ensure macroeconomic stability are fundamental. The small share o f market services in the overall economy should be assessed and any regulatory or other policy-related constraints to growth should be removed since this sector must be the source o f most o f the new jobs created in the future. While Serbia has made great strides in improving i t s business climate, this remains an unfinished agenda. Firms continue to voice concerns about the application o f regulations and other issues that affect how business i s done.

Completing the restructuring process and winding down the Social Program as soon as possible is critical both for improving the future environment for job creation as well as providing a better safety net for Serbia’s workers. The privatization and restructuring o f the socially- and state- owned enterprise sector has important ramifications both for j o b creation and for the safety net. Restructuring i s necessary for freeing up the country’s resources, including labor, so that they can be directed to more productive activities. At the same time, the Social Program i s consuming significant resources to support a relatively small proportion o f a l l workers in the country who need assistance. Until the program i s wound down, Serbia will not have the funding to develop an effective safety net for workers, with functioning active and passive programs. The Social Program should be scaled back and closed as soon as possible, together with the completion o f the privatization plan. A protracted restructuring process would have substantial costs.

A key part of the jobs agenda also includes reforms to improve the functioning of the labor market, which is the focus of this report. Although the most important constraints to j o b creation l ie outside the labor market (Le., macro uncertainty, business climate), labor market pol icy reforms are also needed. The sluggish labor demand, the “insider-outsider” employment structure, and the weak safety net are al l at least partly due to present labor market policies. Sequencing o f policy responses to address these problems wil l be an important consideration, with some reforms needed over the next two years or so, while others should be part o f a longer-term agenda.

The most immediate reforms that are required in the labor market are to eliminate the regressivity in the labor tax system, to wind up the Social Program, and to clean up the NES registry. Over the longer run, the safety net for workers needs to be transformed by developing effective and cost-efficient support through unemployment benefits and ALMPs, as well as completing reforms to upgrade the quality of the workforce. This policy agenda i s summarized in the table below.

ix

Main findings

1. Lack of employment, Employment i s decreasing; employment rate i s only 5 1%

about 22% and has been rising

wage earners are in the informal sector

environment and business climate are constraints

policies also a barrier

Unemployment i s

Almost 30% o f

Economic

Some labor market

Action Policy options (in the labor market) (in the labor market),

Short-run Longer-run

Improve overall climate for j o b creation through:

(i) Eliminating regressivity in labor taxation system

Introduce exemption for wage income tax Lower contribution base and raise contribution ceiling for social insurance

2. Labor market exclusion

(ii) Improving administration of labor laws and legal reform

(iii) Raising the quality o f the workforce

80% o f unemployed are long-term (>1 Year) Unemployment rate for women i s 27% Youth unemployment rate i s nearly 50%

minorities have extremely high unemployment and very low earnings

Vulnerable

Improve capacity to enforce and interpret labor law Simplify compensation rules Reform agenda for secondary education

Eventually eliminate wage income tax and introduce integrated personal income tax

(after fiscal situation of social security plans immove’,

Reduce labor taxes

Broaden access to jobs through:

(i) Eliminating incentives to remain registered for extended periods

Reform severance and fixed-term contract provisions in Labor Law

Uncoupling registration Shorten maximum UI from access to duration insurance Better monitoring o f job search effort by

Reform agenda for primary, postsecondary, and “lifelong learning”,

(ii) Better access to education and training, especially for vulnerable groups

(iii) Improving school- to-work transition

NES Encourage supply o f training providers Incentives for marginalized groups Labor taxation reforms (as above) Introduce LM entry programs for youth Labor taxation reforms (as above)

Social Program absorbs high share

3. Ineffective social protection for workers Improve social protection through:

Education reforms (as above)

X

Main findings

o f hnds NES system matches poorly with “real” unemployed UI protects very few o f the unemployed Arrears in UI payments L i t t le support offered through ALMPs

Action (in the labor market)

(i) Finishing labor adjustment in privatization (ii) Reforms to UI system administration

ALMPs

(iv) Focusing active and passive programming on the unemployed and vulnerable workers

Eliminate arrears Improve record-

Added resources for

Encourage private

keeping

NES front-line support

providers

Eliminating non-job- seekers from NES registry through improved monitoring and uncoupling registration from access to insurance (as above)

Policy options

Completing Social Program

Monitoring and evaluation Increase resources for performance-based ALMPs

0 Improving efficiency, targeting, and impact o f social assistance to support those ineligible for employment programs

1. Improving the climate for job creation

Eliminating the regressivity of the labor tax system would encourage formal sector employment, specifically for low-wage labor. Reforms can be made to achieve this goal without changing the overall level of tax revenues. Reforming the regressive distribution o f labor taxation would encourage employment in the low-wage sector. There i s no “zero bracket” for the wage income tax; establishing an exemption would be a reform in the right direction. Regressivity would also be reduced if the minimum insurable earnings base was decreased and the maximum was increased. The Government has recently proposed a set o f tax reforms that start to address these problems. (However, the proposals to encourage youth employment are problematic. See the box below for a summary and assessment.) Reforms to address the inequity o f the current tax arrangements should be fiscally neutral at a minimum because o f the large deficit in the social insurance funds. Over the medium-term, Serbia might consider eliminating the specific tax on wages and introduce a well-designed integrated personal income tax (on al l sources o f income). This would create horizontal equity and reduce the burden on income earned through wages. In the longer run, as the fiscal situation o f the social insurance funds improves, labor taxes should be reduced.

The July 2006 Tax Reform As this report was being finalized, the Government passed amendments to the Law on Citizens’ Income Tax and the Law on Compulsory Social Insurance Contributions. These changes are intended to provide tax relief, reduce the tax on low-income employment, stimulate the employment o f young people, and offer tax breaks for certain industries and underdeveloped regions.

The most significant amendments for the labor market include:

Reduction o f the income tax on gross wages from 14% to 12%; A l l wages o f up to the amount o f 5,000 dinars per month exempt from the wage income tax; Reduction in the minimum social insurance contribution base from 40% to 35% o f average gross earnings;

x i

Exemptions from wage income taxes and social insurance contributions for 3 years if the employer hires probationary workers under the age o f 30; and for 2 years if the employer hires unemployed workers under 30 who have been registered with NES for more than 3 months; Exemption from annual income tax reduced from 4 times to 3 times the average wage; Increase in the annual income tax rate from 10% to 15% on income above 6 times the average wage.

These changes would reduce the tax wedge to 38.5% for workers earning the average wage. The current tax wedge i s 42.2%. For a worker under 30 qualifying for the exemptions and earning the average wage, the tax wedge would fall from 42.2% to 19.8%.

The most positive features o f these amendments are the wage income tax exemption and the reduced minimum contribution base, which would introduce modest progressivity into the labor tax regime: the tax wedge for workers earning 50% and 300% o f the average wage would be 36.6% and 39.9%, respectively. The objective o f introducing progressivity would have also been served if the amendments had included a higher contribution maximum.

However, the net employment gain from these amendments wi l l almost certainly be small. According to our preliminary estimates, the changes in the wage income tax and the minimum social contribution base are likely to create less than 20,000 additional jobs. Whatever employment gains do result wi l l be concentrated on low-wage labor.

The special youth provisions wi l l provide short-term re l ie f for young people eligible for the exemptions. However, serious evaluations in other countries where similar interventions have been introduced have found that many subsidized workers who are hired under the new provisions wi l l simply replace unsubsidized workers (Le., the substitution effect) or would have been hired in any case @e., deadweight effect). In other words, the net employment effect wi l l be small.

An important consideration i s the fiscal effect o f the proposals on the social insurance funds and on the general budget. The costs could potentially be significant and need to be incorporated into planning for the sustainability o f the social insurance system and into the macroeconomic program.

The labor laws do not seem to be an immediate constraint on job creation but better administration and enforcement would encourage formal employment. The prevailing regulatory framework i s not a major constraint on employment. However, improving the l imited capacity to enforce the law as wel l as administer disputes would serve both employers and workers well. Also, simplifying the compensation structure and reporting requirements would reduce disputes while allowing wages to more directly reflect market conditions. Over the longer run, some changes could be made to the Labor L a w to encourage employment. First, consideration could be given to reducing severance payments for long-service employees so that they correspond to average levels that prevail in the E C A region. Second, the maximum period for fixed-term contracts should be removed. This i s becoming the standard in industrialized countries.

Comprehensive education and training reforms will be critical to upgrade the quality of the future labor force. Although the quality o f the labor force i s not a binding constraint to employment now, there are already signs that it will be a concern for the future when j o b creation picks up and the economy has a more modern structure. The education and training systems have shortcomings at a l l levels. Since it takes time to affect education reform, change needs to start now so that Serbia’s workforce wil l be able to compete in an open economy where productivity and income growth are increasingly based on knowledge and skills. The priority for reform i s the secondary education level. As noted earlier, this i s the prerequisite for participation in a modern economy. As well, the relatively poor education quality and labor market indicators for young people with secondary schooling underscore the priority for secondary education reform. The longer term agenda must move on to the other levels o f formal education, as well as formal and informal adult learning.

x i i

2. Broadening access to jobs

The extremely high incidence of long-term unemployment means that many workers “lose touch” with the labor market. Administrative changes to reduce incentives to remain registered as unemployed are needed. The problems associated with tying health and social insurance access to unemployment registration are wel l known and the Government i s seeking to resolve this. Once a workable solution i s found and implemented, there wi l l be a range o f benefits both in terms o f bringing jobless workers back into the formal labor market and freeing up resources to assist those who are truly looking for work. Closer monitoring o f j o b search by the NES must also be part o f any solution. Finally, shortening the maximum duration o f unemployment benefits to one year would bring Serbia closer to regional norms. Whi le many very long-term unemployed would no longer be able to access UI benefits, it would create incentives for the real job-seekers to look for work. The additional resources that would be available to NES once the registered unemployment rolls are cleaned up should be used to help these workers get back into the labor market. For those who are actually not searching for work, social assistance - not unemployment insurance -- i s the appropriate income support instrument. The World Bank’s recommendations on social assistance are summarized at the end o f this section.

I n some cases, training and other active measures would help the long-term unemployed and other vulnerable workers find jobs. Some people who, in effect, are excluded from the labor market would benefit from training and other ALMPs. For example, the experience in Hungary demonstrates some promising approaches for promoting employment and income-generating opportunities for Roma through grants and interest-free loans. However, the international evidence based o n program evaluations shows that expectations need to be realistic. Labor market interventions cannot overcome serious education deficits or discrimination and, where they exist, these barriers need to be addressed if the employment situation for vulnerable groups i s to improve.

The youth need special measures to ease current difjficulties in making the transition into the labor market. Improving youth employment outcomes will be a longer-run challenge that involves a better j o b creation environment and an education system that produces young people better suited to the needs o f the market. However, policy-makers cannot wait for these eventual solutions. Young people (with other excluded groups) will be the principal beneficiaries o f reductions in labor taxes for low-wage labor. Transition programs l ike internships also need to be considered although careful attention needs to be paid to their cost-effectiveness.

3. Broadening the coverage and effectiveness of social protection for workers

The task of completing the downsizing of the state- and socially-owned enterprises and winding down the Social Program needs to be completed as soon as possible. This is an essential precondition for embarking on a serious reform of the safety net for workers. As we have emphasized throughout this report, this has been a diff icult and costly process. As the Social Program winds down and closes, resources wil l become available for reallocation to the other unemployed and vulnerable workers. The scope for additional resources for unemployment insurance and active employment programs will also be increased when the NES registry i s cleaned up.

Reforms in the administration of the unemployment insurance system will extend the reach and effectiveness of both income support and ALMPs. Clearing the arrears in UI payments wi l l extend coverage o f the system and also eliminate one motivation for informal work. The revenues from contributions have improved with the 2004 changes to the L a w on Social Insurance Contributions. As the collection base for UI broadens, the financial aspect o f the system should continue o n a path to a sounder footing in the future.

... X l l l

The capacity to implement ALMPs that “work” on a cost-effective basis needs to be significantly upgraded. The current very limited capacity o f the NES to provide A L M P s will improve as more resources are freed up when the Social Program winds down, the unemployment registry i s cleaned up, and UI financing stabilizes. In the short run, the two important steps to take are (i) to use some portion o f whatever additional resources exist t o strengthen NES front-line support for unemployed workers, and (ii) to encourage private providers o f employment services. Over the longer-term, Serbia needs to develop the capacity to deliver cost-effective ALMPs to unemployed workers. Policy-makers wi l l need to be realistic about what active measures can achieve: they are not a panacea for addressing high unemployment. However, well-targeted and carefully designed programs can improve the employment prospects o f participants. Accurate monitoring and evaluation i s necessary in order to allocate Serbia’s limited resources to interventions that work on a cost-effective basis. Private agencies should be encouraged to compete to deliver programs.

Active andpassive labor market programs need to focus on the needs of those actively seeking work. This requires a functioning social assistance system for the poor. Resources available for unemployment benefits and ALMPs must be used to provide temporary adjustment support for workers until they find a new job. This i s a different objective than providing a safety net for the poor. However, a functioning social assistance system i s an essential complement to employment programs. The current safety net in Serbia i s weak and very l imited in coverage. Reforms are needed to improve i ts impact, efficiency, and responsiveness.* These include (i) strengthening the safety net for the poorest households, by shifting funding from poorly-targeted programs to the well-targeted materijalno obezbedenje porodice (MOP) program, and making further improvements to targeting through piloting new approaches to identifying the poor; (ii) streamlining delivery and cost-efficiency by modernizing information systems and improving data; (iii) improving responsiveness o f services and benefits and planning for decentralization by both strengthening the capacity o f local governments to deliver benefits and services and the capacity o f the central government to oversee quality and equity; and finally (iv) consolidating the two main targeted benefit programs, the M O P and child allowances, to improve overall effectiveness o f the system. These reforms should be undertaken within the existing budget for social protection, with savings over the long-term f rom efficiency gains.

These recommendations and the underlying analysis are presented in a report on social assistance and child 2

protection (World Bank 2006b).

xiv

ckground 1. The success of Serbia’s reform process depends heavily on creating more and better jobs. Employment i s the primary means for individuals to contribute to a society’s economic growth and share in the benefits o f that growth. Moreover, polit ical support for a sustained reform process i s elusive in societies where unemployment remains high and too many citizens are excluded from opportunities to be productive in the labor market. L i k e other countries pursuing a place in the European Union, Serbia wi l l need to demonstrate a strong labor market as a key qualification for eventual accession.

2. Like most formerly planned economies, Serbia has experienced a difficult transition from guaranteed full employment to a market-based employment model. Throughout Eastern Europe, j o b losses have been large as economies went through massive restructuring. Even with the resumption o f economic growth in many parts o f the region, j o b creation has not followed except among the leading reformers. A stronger employment performance throughout the region will require the effective completion o f market-oriented reforms both inside and outside the labor market.3

3. Moreover, because of political events, Serbia is only now trying to catch up with the more successful reformers. While Serbia’s labor market situation shares much o f the broader experience o f transition countries, there are some country-specific factors that make it somewhat unique. As part o f the FYR, Serbia had a different employment legacy than other ex-Socialist states (see B o x 1.1). More importantly, unlike most other countries in the region, and especially the successful reformers, Serbia’s transition was delayed because o f the political events o f the 1990s. Although a “modern” legal and institutional framework was finally put in place in the past few years to regulate the labor market, it really has not yet taken root and remains unstable (as evidenced by the frequent introduction o f new laws and amendments to existing ones).

Box 1.1: The Unique Employment System in the Former Yugoslavia

Today’s employment situation in Serbia has been shaped by the particular legacy o f the “market socialism” system pursued in Yugoslavia from the early 1950s. This model was unique among the former socialist countries. I t s main characteristics were the social ownership of productive assets and worker management. Social ownership meant direct government interference in the decision-making o f firms and limitations on their use o f capital. Worker management meant that workers carried out decision-making within the firm, as well as participating in decision- making in other areas (for example, in local governance and social services).

Regarding employment policies, firms were severely restricted in the use and allocation o f labor. Specifically, workers enjoyed job security; firms were forced to hire; and there were heavy restrictions on part-time and fixed- term work and redeployment o f workers. This led to a high level o f job protection and overall rigidity, and to huge labor hoarding. In terms o f compensation, Government controlled the f i r m ’ s overall wage bi l l and workers determined i t s distribution within the firm on the basis o f both work and solidarity criteria.

These themes are considered in detail in the recently completed analysis o f labor markets in Europe and Central Asia (World Bank 2005a).

1

The fundamentals o f the system started to undergo change in the late 1980s with the 1988 Enterprise Law and the 1989 Law on Basic Rights Stemming from Work Relations (the Labor Code). However, during the 1990s, the reform process was severely hampered by political events.

This historical legacy o f self-management system o f enterprises i s s t i l l felt through very strong protection afforded to those with jobs in state industries and public services.

In addition to these institutional differences, Yugoslavia also was unique in terms o f actual labor market outcomes. Unlike other socialist countries, Yugoslavia recognized the existence of open unemployment in the 1950s, but it was kept at low levels until the early 1970s when the unemployment rate was around 3%. Notably, public employment services were established in Serbia in 1945 under the name of Public Labor Exchange. The mid-1960s reforms, emphasizing a more rational use o f labor, curbed employment growth. In the early 198Os, the unemployment rate reached 9% and in the late 1980s, it had risen to 12%. Another feature o f the Yugoslav labor markets was the massive exodus o f workers to Western Europe which prevented a more rapid increase in unemployment. In the 1980s, the number o f migrant workers exceeded 600,000.

Source: World Bank (1991)

4. the horizon.

The current labor market indicators raise a number of concerns and more challenges are on

0 According to new estimates presented in this report, only 5 1% o f the working age population was employed in 2005. This i s below employment rates o f many countries in the region and wel l below employment rates o f EU members. Despite relatively strong economic growth in recent years, employment appears to be falling. According to the Labor Force Survey data, total employment in 2005 was almost 200,000 lower than it had been in 2004. This “jobless growth” at least partly reflects the large j o b losses stemming from restructuring by enterprises. The unemployment rate in 2005 was almost 22%, which i s among the highest in the region. Moreover, about 80% o f unemployed workers have been without work for over one year. Labor market status i s a significant determinant o f economic well-being and being unemployed, in the informal sector, or in an otherwise “bad job” i s strongly correlated with being poor. Young people have especially poor labor market outcomes. Almost one-half (48%) o f the labor force between 15 and 24 years o f age was unemployed in 2005. There i s a general problem o f exclusion from the labor market for certain groups including the Roma, refugees, and internally displaced persons. Further pressures on the labor market can be expected over the next few years as a result o f more restructuring o f the state- and socially-owned enterprises.

0

0

0

0

0

0

5. The Government has properly placed priority on the importance of employment both in terms of fighting poverty and underpinning economic growth. Creating more and better jobs i s an explicit priority for the Government. The core pillars o f the Poverty Reduction Strategy relate directly to this objective by pursuing conditions for dynamic and equitable growth that will create employment, promoting employment among the poor, supporting the reemployment o f those affected by restructuring, and by empowering vulnerable groups to move out o f poverty through acquiring new ski l ls (Government o f the Republic o f Serbia 2003).

6 . The Government has developed its first National Strategy of Employment, based on a vision of convergence with Europe and eventual accession to the EU. The National Employment Strategy covers the 2005-2010 period (Government o f the Republic o f Serbia 2005). This strategy broadly follows the goals o f the European Employment Strategy, with a vision o f convergence to the EU. The core principles

2

in the Strategy are (i) a regionally-based approach to employment; (ii) recognition that employment i s a multi-sectoral issue with relevance to many policy areas; (iii) importance o f social dialogue and social agreement; and (iv) managing progress against measurable indicators.

Main findings

7. Some significant reforms have been introduced to modernize the labor market and move away from the traditional employment system. In 2001, a new Labor Code was passed which modernized many aspects o f labor market regulation and removed many o f the anachronistic features o f the old employment model. The Labor Code was revised in 2005, which brought labor market regulations more in line with EU standards; however, i t also reversed some o f the liberalizing reforms in the 2001 legislation. Comprehensive labor taxation reform was introduced in 2001. The Social Program was adopted in 2002 to facilitate the process o f large-scale redundancies due to privatization and enterprise restructuring. A Law on Employment and Unemployment Insurance was passed in 2003 which was intended to tighten the unemployment benefits system and modernize active labor market programs. A Change Strategy for the National Employment Service was approved in 2005.

Action Policy options (in the labor market) (in the labor market)

Short-run Longer-run

8. However, this report argues that further reforms - both inside and outside the labor market - will be necessary for Serbia's employment performance to signi@kantly improve. Employment represents a complex challenge for any government because job creation i s inherently a multi-sector phenomenon involving not only labor market policy but also sound macro policies, a favorable business environment, good education policies, and an effective social protection framework. Macroeconomic uncertainties, closely associated with political uncertainties, are very relevant for the country's employment prospects. The business climate i s also critical. Although Serbia and Montenegro was identified as the top reformer in the world in the recent Doing Business 2006 report, i t s overall ranking in terms o f ease o f doing business i s s t i l l only 92nd out o f the 155 countries included (World Bank 2005b).

9. The report specifies a set of priorities for reforms directly related to the labor market that need to accompany a more favorable economic and business environment. The analysis highlights the way forward for creating a labor market policy framework that wi l l enable the creation o f more and better jobs in Serbia. Table 1.1 summarizes the major labor market challenges, the key findings, and the proposed reforms for the short and longer terms. The policy reforms are discussed in detail in the overview to this report.

Table 1.1: Summary of Main Findings and Policy Reform Options

Employment i s decreasing; employment rate i s only 51%

about 22% and has been rising

wage earners are in the informal sector

environment and

Unemployment i s

Almost 30% o f

Economic

rowth Improve overall climate for j o b creation through:

(i) Eliminating regressivity in labor taxation system

Introduce exemption for wage income tax Lower contribution base and raise contribution ceiling for social insurance

0 Eventually eliminate wage income tax and introduce integrated personal income tax

(after fiscal situation o f social security plans improve)

Reduce labor taxes

3

Main findings

business climate are constraints

policies also a barrier I Some labor market

Action Policy options (in the labor market)

(ii) Improving administration of labor laws and legal reform

(in the labor market) Short-run Longer-run

Improve capacity to Reform severance and enforce and interpret fixed-term contract labor law provisions in Labor

rules Simplify compensation Law

80% o f unemployed are long-term (>1

Unemployment rate for women i s 27% Youth unemployment rate i s nearly 50%

minorities have extremely high unemployment and very low earnings

Year)

Vulnerable

(iii) Raising the quality Reform agenda for o f the workforce secondary education

Reform agenda for primary, postsecondary, and “lifelong learning”

3. Ineffective social protection for workers

Broaden access to jobs through:

(i) Eliminating incentives to remain registered for extended periods

(ii) Better access to education and training, especially for vulnerable groups

(iii) Improving school- to-work transition

Social Program absorbs high share o f funds

matches poorly with “real” unemployed UI protects very few o f the unemployed Arrears in UI payments Little support offered through ALMPs

NES system

Uncoupling registration from access to insurance Better monitoring of job search effort by NES Encourage supply o f training providers Incentives for marginalized groups Labor taxation reforms (as above) Introduce LM entry programs for youth Labor taxation reforms (as above)

Shorten maximum UI duration

Improve social protection through:

(i) Finishing labor adjustment in privatization (ii) Reforms to UI system administration

(iii) Build capacity for ALMPs

(iv) Focusing active and passive programming on the unemployed and vulnerable workers

Education reforms (as above)

Completing Social Program

Eliminate arrears Improve record-

Added resources for

Encourage private

keeping

NES front-line support evaluation

providers performance-based

Monitoring and

Increase resources for

ALMPs Improving efficiency, targeting, and impact o f social assistance to

Eliminating non-job- seekers from NES registry through improved monitoring support those and uncoupling ineligible for registration from access employment programs

4

Main findings

10. This labor market report follows a multi-sector approach to analyzing and interpreting the employment situation. The report recognizes that the challenge o f j o b creation can only be addressed through a comprehensive strategy that has both economic and social elements and that addresses both labor supply and labor demand. The framework for the analysis considers the implications for employment o f Serbia’s macroeconomic performance, the investment climate, labor market policies and institutions, education and skills, and safety net for workers. This i s called the MILES framework which i s the acronym summarizing these f ive determinants o f j o b performance (Table 1.2). By assessing all o f the factors, this analysis can determine the binding constraints to the creation o f more and better jobs, and thus identify policy priorities.

Action Policy options (in the labor market) (in the labor market)

Short-run Longer-run to insurance (as above)

Table 1.2: The MILES Jobs Framework

Macroeconomic conditions

Investment climate

Labor market policies and institutions

Education and skil ls

Safety net for workers

Policy issues Conditions for growth Macroeconomic stability Regulatory environment Government transparency Taxes Financing Infrastructure Legal environment Labor market regulation Wage-setting Non-wage costs Basic education Higher education Training and lifelong learning Income support Active labor market policies

1 1. The new analytical contribution of this report involves an up-to-date, detailed empirical assessment of Serbia’s labor market trends and a policy discussion that focuses specifically on labor market reforms. In fol lowing the multi-sectoral approach, the report relies heavily on existing Bank work in the areas o f macroeconomic policy, investment climate, and education and ~k i l l s .~ The new analysis also benefits f rom ongoing work on social protection that has been prepared in tandem with this report5

In particular, it draws on the latest Country Economic Memorandum for Serbia (World Bank 2004a), the latest poverty assessment (World Bank 2003), the Doing Business 2006 report (World Bank 2005b), the 2005 Business Environment and Enterprise Performance Survey (with EBRD), and the Investment Climate Assessment for Serbia (World Bank 2004b).

The social protection report looks specifically at social assistance and child protection. It examines program objectives and expenditures; coverage and targeting; and issues related to delivery and decentralization. See World Bank (2006b).

4

5

5

12. The report i s organized as follows. The next two chapters provide a quantitative analysis o f the labor market based o n the 2004 and 2005 Labor Force Surveys. Chapter 2 presents an overview o f current conditions and examines trends since 2000. In Chapter 3, we look more deeply at a set o f particularly important issues in the labor market: long-term unemployment; the labor market situation o f youth; informality and flexibility; and the determination o f wages. The next three chapters then apply the multi- sectoral M I L E S framework to explain the employment situation and what the barriers are to the creation o f more and better jobs. Chapter 4 examines the labor market context, including the macroeconomic environment, the investment climate, and the education and ski l ls o f the workforce. In Chapter 5, we turn to factors within the labor market affecting employment - labor market regulation and labor costs. Finally, the social protection o f workers i s considered in Chapter 6 . This includes an analysis o f labor adjustment stemming from privatization and enterprise restructuring, and an assessment o f active and passive labor market policies.

6

TRENDS 13. This chapter provides an overview of labor market developments. Regrettably, data deficiencies make it difj7cult to accurately assess trends prior to 2004. However, the 2004 and 2005 Labor Force Surveys have greatly improved the situation since then. Even with the resumption of economic growth, employment has decreased and unemployment is high and appears to be rising. Further labor market pressures can be expected for the next few years while the process of enterprise restructuring continues. Labor market exclusion is a serious problem with many workers, once they become unemployed, remaining without work for very long periods. Youth (especially young females) have very poor employment outcomes. I n fact, new entrants account for almost half of total unemployment.-The less educated also experience considerable problems in the labor market. Even after the reforms of the Labor Code, flexible forms of contracting (part-time and temporary work) are almost non-existent. Flexibility is achieved through in formal employment.

A.

14. Since 2004, the Labor Force Surveys have improved the information available to analyze labor market trends. This section relies on the Labor Force Survey (LFS) for 2004 and 2005 to describe the most recent conditions in the labor market. The survey i s described in B o x 2.1. Since 1995, the Federal Statistical Off ice and, after 2003, the Republic Statistical Office (RSO), have relied on the LFS for their publications on national labor force statistics. It should be noted that the 2004-2005 estimates in this section have been based on calculations made by the Wor ld Bank using a definition o f the working-age population that differs f rom the one used for the official statistics published by the Government, and cited in the next section on long term trendse6 Since 2004, the LFS has largely followed Eurostat methods and this has improved the quality o f the country’s labor force estimates. However, international experience as well as experience in Eastern European countries s t i l l raises concerns about the reliability o f labor market indicators, even when originating f rom wel l done labor force surveys. This i s particularly the case in countries where informal sectors are large, statistical administrative capacity i s s t i l l being developed, and where reporting might be affected by incentives associated with government programs. To cite just one example, it i s hard to understand how l o w employment rates and such long unemployment durations (documented later) could coexist with Serbia’s relatively weak safety nets. These concerns notwithstanding, the LFS i s the best source o f data on the country’s labor market situation and we wil l make use o f it throughout this report.

The definition used by the Statistical Offices has been 15 years and over while the World Bank has used the international standard o f 15-64 years. This definition excludes those 65 years and older. In reality, the difference i s not too significant since, according to 2005 LFS data, 89% o f this group i s not in the labor force. The remainder i s almost all either self-employed (63%) or unpaid family workers (28%).

6

7

Box 2.1: L a b o r Force Survey 2004-2005

The Labor Force Survey (LFS) has been carried out on an annual basis since 1995. In 2004, the sampling, design and overall methodology were adjusted to comply with Eurostat definitions. For a comparison o f the two surveys, see Box 2.5.

In 2004 and 2005, the surveys covered 17,728 and 17,320 individuals respectively. The data are representative nationally, for urban and rural areas, and at the level o f three macro-regions (Belgrade, Central Serbia, and Vojvodina). The sample was drawn from the 2002 Census according to a two-stage stratified random sampling design. Primary sampling units were enumerated districts and the ultimate sampling units were households. Data are collected in October o f each year.

The survey modules include demographics, education, migration, labor market participation, and subjective perception o f welfare. The labor market module for the two years collects information on labor market status, job search, employment, occupation, sector o f activity, compensation, nature o f the employer, tenure, size o f the firm and working time. A drawback o f the survey i s that no information i s collected on social security registration; this has implications for our analysis o f informality in the labor market since registration usually provides a very good indicator o f informal wage employment.

In the 2004 and 2005 LFS, all employed individuals (including employers and self-employed) in the formal and informal sectors were asked the amount o f the last net payment in cash. However, due to lack o f reliability on earnings data o f owners and self-employed, this study only deals with earnings o f wage employees.

A l l the households surveyed in 2004 were used for the sample frame in 2005. Roughly three-fourths o f the 2004 individuals were re-interviewed in the panel (12,500 individuals). Individuals who had left their original household were not followed to their new household, but replaced. This implies attrition problems, even though it should be noted that migrants do not constitute an important group in this context. Some sample replenishment was undertaken in 2005. In order for the sample for 2005 to be representative at the country and regional level, some re-weighting has been undertaken by RSO. However, changes in the population have not been accounted for.

Annex Table 2.1 defines the main variables we have used in the analysis o f the LFS data.

15. According to the LFS estimates, the unemployment rate is high and seems to have worsened significantly between 2004 and 2005. According to LFS data, the ILO (international standard) unemployment rate increased from 19.5% to 21.8% from October 2004 to October 2005.’ This increase i s not due to increased labor force participation (which actually decreased), but to j o b losses as employment dropped by more than two points (Table 2.1).

Given that there might be concern about attrition and that labor market characteristics would most likely be correlated with this attrition we analyze the same indicators using panel data (Le., the common pool of individuals surveyed in both years). Similar results are obtained when panel data i s used (unemployment rates are 19.4% in 2004 and 21.3% in 2005).

7

8

Table 2.1: Labor Market Indicators, Adult Population 15-64 years, 2004-20051

Albania

1. Definitions in Appendix Table 2.1 2. Percentage o f unemployed individuals unemployed for one year or more. Source: LFS 2004/05

Participation Employment Unemployment Long-term Rate rate rate unemployment2 63.7 60.1 5.6 68.4

16. Despite economic growth in the past two years, employment appears to have decreased. This labor market shares many of the typical characteristics of transition economies (see Table 2.2 below); in addition to high unemployment, job creation has been very slow. The decrease in employment in 2004- 2005 seems to be part o f a longer-term trend since 2000. In the later chapters, reasons for this poor employment performance will be considered.

59.0 Bosnia and Herzegovina

17. Labor market indicators are much worse than EU averages and the employment rate is far from the European Union Lisbon target of 70%. Only slightly more than one-half of Serbia’s working- age population reports being employed. This record lags behind the better performers in Eastern Europe (e.g., Czech Republic, Slovenia, Romania) and i s well behind the Lisbon standard adopted by the European Union of 70% to be achieved by 2010 (Table 2.2). Serbia’s unemployment rate i s more than double the EU-15 average and among EU-10 countries, only Poland and Slovakia had unemployment rates near Serbia’s (1 8.8% and 18.0%, respectively). The table also compares Serbia’s labor market indicators (in 2004) with those o f other SEE countries; on most dimensions, Serbia i s in the middle of this group.

46.0 22.0 nla

Table 2.2: Key Labor Market Indicators, Western Balkans, 2004l

Macedonia

Serbia

Montenegro

EU- 15

51.2 32.0 37.2 84.5

66.4 53.4 19.5 77.5

65.1 40.6 23.0 85.0

70.8 64.8 8.1 42.4

EU- 10 65.5 56.0 13.4 53.8

18. Labor market status is strongly correlated with economic well-being. The recent World Bank (2006a) Poverty Update finds a close relationship between poverty and the labor market. Using 2005 Household Budget Survey data, the analysis finds that the unemployed and the inactive (not including students or retirees) have poverty rates (15.8% and 16.6%, respectively) well above the national average

9

o f 9.4%. Employees have a relatively l ow poverty rate (5.4%), which has been declining since 2002.8 More qualitative evidence f rom the LFS on subjective perceptions o f individuals about their household financial situation further underscores the relationship between labor market status and economic well- being (see Box 2.2).

1 A l l 1 Employed Subjective Perception o f Household Financial Situation

Box 2.2: Labor Market Status and Subjective Perception of Household Financial Situation

Unemployed Inactive

Labor market status i s correlated not only with objective measures o f economic well-being, but also with subjective perceptions. In the LFS, individuals are asked how they feel about their financial situation. The table below shows, for the working age population 15-64, simple tabulations o f the answers by labor market status.

1

Very good

Predominantly good

Predominantly bad

Bad

2.7 3.3 1 .o 2.5

28.6 34.6 12.0 26.6

27.0 28.3 22.9 26.8

41.7 33.8 64.1 44.2

We can distinguish three different patterns depending on the labor market status. First, employment i s associated with a better assessment o f household financial situation, even though by no means does having a job guarantee a positive view. Second, unsurprisingly, being unemployed i s associated with a negative perception o f the financial situation. Finally, being out o f the labor force does not seem to be correlated with any particular view o f financial situation.

The finding that non-participation i s not associated with perception o f a bad financial situation i s consistent with what we report later in this chapter. That is, i t seems that individuals reporting they are not in the labor force are really not interested in being active (Le., they are not discouraged). In many other countries in the region, the out-of-the-labor force group often includes large numbers o f hidden unemployed who want to work but are not searching primarily because they see no job opportunities. Truly unemployed workers seem to report themselves as unemployed in the Serbia LFS.

19. Participation, employment, and unemployment rates are considerably worse for women than for men. Women only represented 40% o f total employment in 2005 (Table 2.3). This corresponds to a very low employment rate o f 44%, way below the Lisbon target for female employment (67%). Female participation rates are also low. On the other hand, women are overrepresented in unemployment (54%), and their unemployment rate i s eight points higher than for men.

* Labor market categories are defined as: employees, self-employed (including farmers), unemployed, students, retirees, and other inactive.

10

Table 2.3: Distribution of Working Age Population, Employed, and Unemployed by Demographic Characteristics, 2005

Labor Force Participation Rates Employment Rates Unemployment Rates (ILO definition) Long-term Unemployment

1. RSO ruraliurban classification in 2004 and 2005 derives from the Census 2002. Source: LFS (2005)

Total 15-24 25-54 55-64 65.2 35.8 82.0 39.5 51.0 18.7 65.6 35.4 21.8 47.7 20.0 10.3 79.0 67.8 82.5 81.6

20. Labor market outcomes are very poor for young people. Serbia has extremely low youth employment rates (19%) and only 36% of people 15-24 years of age participated in the labor market in 2005. Labor market problems are especially pressing for young women.

Table 2.4: Labor Market Indicators by Age Groups, 2005

2 1. Although youth unemployment rates tend to be high in most countries, they are extremely high in Serbia. The unemployment rate for youth in 2005 was 48%. Furthermore, new entrants account for almost half o f total unemployment, and 78% o f the youth unemployed are new entrants. Chapter 3 analyzes this problem in more depth and sheds light on the links between youth unemployment and education outcomes.

22. Better-educated workers have more favorable employment outcomes; however, even those with postsecondary schooling have fairly high unemployment rates. Education i s generally associated with

11

better outcomes. Individuals with college education or higher have the highest labor force participation and employment rates and the lowest unemployment rates. However, their unemployment rate i s s t i l l fairly high at 14.4% in 2005. Workers with elementary education or less have the lowest participation and employment rates and among those unemployed, an extremely high percentage has been looking for a j ob for a year or more. Unemployment i s actually highest for those with completed vocational or general secondary education.

Employment Rates Unemployment Rates

Long-term Unemployment

Table 2.5: Labor Market Indicators by Level o f Education Completed, 2005

37.8 36.3 57.2 52.8 71.5

17.2 21.6 25.4 23.6 14.4

83.1 86.9 80.9 76.4 70.6

College or More 1 Less than I Elementary I Vocational 1 Secondary 1 Elementary I 76.7 I 69.1 I 83.2 I 1 Labor Force Participation I 45.6 I 46,3

Rates

23. Labor market exclusion is a serious problem; many workers, once they become unemployed, remain without work for very longperiods. The majority o f unemployed workers remain unemployed for at least one year -- this share o f long-term unemployment was 79% in 2005. For certain groups, including the Roma communities, exclusion from employment opportunities i s very high (see Box 2.3). As shown in Table 2.2, Serbia shares the problem o f very high and long-duration unemployment with the other FYR countries. The next chapter analyzes the issue o f long-term unemployment in Serbia in more depth.

Box 2.3: Employment in the Roma Communities

There are several marginalized groups in Serbian society, as well as in the labor market, including internally displaced persons (IDPs), refugees, and the Roma community. Unfortunately, data from the labor force surveys do not allow identification o f IDPs or refugees; however, the Roma community can be identified in the LFS.’

The Roma community has a very poor labor market situation. In 2005, LFS data indicated that 53% o f working-age adults in the Roma community were unemployed. Furthermore, 89% o f this group reported they had been unemployed for more than a year. O f those who are employed, 48% work in informal jobs.

Education i s one o f the key problems. Many Roma face difficulty in adapting to the demands o f the labor market because they lack required educational and vocational qualifications and expertise. The educational attainment level in the Roma i s very low: 89% o f those aged 15-24 and 82% aged 25-55 have not gone beyond primary school. In addition to the education deficit, Roma also face discrimination in gaining access to many employment opportunities.

According to the 2002 Census, Roma constituted 1.4% of the population (over 108,000 individuals), while estimates by NGOs and international organizations place the Roma population at between 4-6% (300-460,000 individuals) (Bodewig and Sethi, 2005). In the LFS, Roma constitute about 2% o f the sample.

24. Geographical data suggest little regional variation in participation, employment, and unemployment rates. Table 2.6 shows labor market indicators by urban-rural and major regional groupings. Unemployment rates are relatively similar between urban and rural areas, and regional differences are not significant either. Participation and employment rates are slightly worse in urban

12

areas. The overall geographical similarities are somewhat surprising given the observed labor market slack in some parts o f the country. As well, previous reports based on other survey evidence shows differences (e.g., World Bank 2004a). Finer geographical disaggregation might show more insightful results; however, the LFS i s not representative at a lower level. If regional employment and unemployment indicators are, in fact, similar, it may be due to wages that respond to labor demand. We will see in Chapter 5 that significant wage regional differentials do exist.

Labor Force Participation Rates Employment Rates

Long-term Unemployment Unemployment Rates

Urban Rural Belgrade Serbia Central 1 Vojvodina

64.2 66.7 63.8 65.8 65.1

49.6 52.9 50.8 50.5 51.9 22.7 20.5 20.3 23.2 20.2 76.9 82.2 71.8 83.9 74.0

25. Total employment according to the 2005 LFS amounted to close to 2.6 million, of which wage employees comprised 75%. This employment figure encompasses al l forms of work, including those in the formal and informal sectors. In 2005, wage-earners represented 75% o f all employment (Figure 2.1). Although it i s difficult to get comparable statistics across countries, this i s a high share. The proportion of self-employed i s low, at 14% and owners o f big and small firms account for 4%. See Annex Table 2.1 for definitions o f these different categories o f employment.

Figure 2.1: Distribution of Employment by Status, Total Economy, 2005

I Owner //- - 4 i

Household Help

Source: LFS (2005)

26. Sev-employment accounts for one of the lowest shares of employment among CEE and SEE countries. The most internationally comparable indicator o f the role o f micro-enterprises and entrepreneurs in creating employment i s the share o f non-agricultural self-employed in total non- agricultural employment. This share i s only about 7.5% in Serbia, compared to 15% in Albania, over 10% in Slovenia, Hungary, Poland, and the Czech Republic, and about 14% in the OECD and EU-15. This

13

finding highlights the slow progress in entrepreneurial activity to this point compared to the more advanced transition economies in the region.

27. Almost half of all of the jobs are still held outside the private sector. The share o f private sector employment in Serbia i s s t i l l small; only 57% o f total employment belongs to the private sector. The share in state-owned enterprises i s 25% and 13% are in socially-owned enterprises, with the remaining 5% in mixed enterprises, cooperatives, or enterprises o f unknown ownership.

28. Furthermore, less than one-half of wage-earners are in the private sector. Wage-earners work mostly in the public sector, with 50% employed in SOEs and socially-owned enterprises in 2005 (Table 2.7). This i s larger than the private-sector share (44%). Note that wage employment in services i s s t i l l heavily oriented to the state- and socially-owned sectors, with only 4 1 % in the private sector. While there i s s t i l l more overall wage employment outside the private sector than within, the 2004 and 2005 LFS data suggests that the transition i s happening quickly. The private-sector share grew substantially in al l sectors and about 5 percentage points overall. I n view o f the privatization and restructuring program plus dowiisiziiig o f the government administration, this trend i s likely to continue.’

Table 2.7: Employment by Ownership and Industry, 2004-2005

I Total I 39 1 44.3 I 33 I 33.4 21.6 16.9 I 6.5 I 5.4 I 100 I 100 1. Includes government employees Source: LFS 2004-5

29. Wage earners in the private sector are less educated than in other sectors. Figure 2.2 shows that wage earners in the private sector are more likely to be vocational school graduates or have only elementary education (or less) and less l ikely to be college graduates than workers in the non-private sector. Also, private sector employees tend to be younger.

Given the substantial changes in one year, this analysis was undertaken only with the panel component o f the 2004/5 LFS to see what happened to this constant pool of people. The results are similar. Private sector employment increased from 38 to 41%, socially-owned enterprise employment decreased ftom 22 to 18%. SOE etnploynient increased by 2 percentage points according to the panel analysis, and only by 0.5% using cross-sectional data.

14

Figure 2.2: Distribution of Wage-earners by Ownership According to Demographic Characteristics, 2005

Source: LFS (2005)

30. Even after the reforms to the Labor Code in 2001 and 2005,jlexible forms of employment contracting are still almost non-existent. Only around 4% o f the employed usually work less than 30 hours a week (Le., part-time), with a similar number holding temporary jobs. There are at least two possible hypotheses on why part-time and temporary jobs are not widespread in Serbia, despite labor laws that now permit them. First, before the transition in Serbia, flexible forms of employment were non- existent. Therefore, it i s plausible that, given the late process o f transition, there i s still an entrenched tradition o f full-time work in the country. Second, given low wages in the country, employees cannot afford to work part-time since associated costs in relation to earnings are too high (transport, meals, clothes, children care, etc.). I t i s notable that Serbia has very low part-time employment rates among women (Table 2.8).

Table 2.8: Incidence and Composition of Part-time Employment, 2004l

Women's share in part- time employment

1. Part-Timers are those individuals who usually work less than 30 hours a week in their main job (not only wage earners) Source: OECD (2005), LFS (2005) for Serbia and ILO (KILM 4'h edition) for Bulgaria, Romania, and Turkey.

15

3 1. The lack offexibility is also evident in the hours worked, with almost all workers working 40 or more hours weekly. On average, Serbian workers work long hours compared to many other countries. The mean number of hours worked in a week i s 44 for wage earners and 45 for al l employed individuals. Evidence from other European countries shows significantly lower mean weekly hours of work." Table 2.9 shows the distribution of hours worked in a week. Most workers are found in the 40-49 hour bracket. When analyzing men and women separately, we find a higher tendency for men to work long hours. These data on hours worked suggest that employers in Serbia meet greater demand through longer hours, not necessarily with new hiring, which i s consistent with the relatively low rates of job creation.

Weekly Hours Worked

10 or less 20 -29 30 -39 40 -49 50 -59 60 or more Total

Table 2.9: Weekly Hours Worked, All Employees and Wage-earners, 2005

Percentage All employed Wage-earners

1.1 0.4 2.2 1 .o 3.8 2.0 54.2 63.6 21.5 21.9 17.2 11.1 100.0 100.0

I

32. Flexibility is essentially achieved through informal employment. Without much flexibility evident through formal contracting, it seems that the informal sector provides whatever flexibility exists in the labor market. We analyze informal employment in the next chapter. In this analysis, informality i s defined as including (i) self-employed individuals who have not completed postsecondary education; (ii) household helpers; (iii) wage earners in firms with less than 10 employees; and (iv) owners of firms with less than 10 employees. According to that definition, 43% for al l individuals employed, and 27% of wage-earners, were employed informally in 2005 ."

33. Understanding labor market trends requires good data; unfortunately, there are many issues regarding the long-term data available in Serbia. It i s difficult to analyze long-term trends - even since the post-Milosevic transition -- because of a lack of comparable (and reliable) data over time. First, although the LFS data have been available since 1995, the survey has had quality problems that have only improved beginning in 2004 when the methodology was brought into line with Eurostat definitions. This change in methodology implies a break in the long-term trend - results from before 2004 cannot be properly compared with results since. Second, even though LSMS data are of high quality, they are only available for two years (2002-2003) and the World Bank (2004a) has already analyzed this panel extensively. Third, there are two sources of registered data: employment numbers provided by the RSO Group of Employment Statistics and unemployment figures from the NES. As we explain below, both

lo According to LABORSTA latest data, mean weekly hours o f work for different European countries are as follows: Lithuania 37.4, Latvia 39.6, Bulgaria 33, Czech Republic 39.6, Poland 39.8, Romania 39.4, Slovenia 36.5. Only Turkey has higher number o f hours a week worked (49.3). I' Not including farmers.

16

sources might present only a partial and, in some ways, distorted picture o f the labor market situation (see Box 2.4). RSO numbers only account for registered employment in the economy and NES unemployment data might potentially have sample problems given the many incentives for individuals to register as unemployed, even when not looking for jobs.

Box 2.4: General Issues in Measuring Unemployment (and LM Activity) with Registration Data

Simply put, “unemployment” should apply to working-age people who are not working (either formally or informally) but would like to. Most countries without reliable and regular household data surveys have had to rely on labor office registrations to measure unemployment. This i s a very common occurrence in developing countries and some transition countries. There are some countries, however, that continue to rely on registrations as the primary measure o f unemployment even when unemployment can be accurately calculated from household surveys.

For different reasons, registered unemployment may either overestimate or underestimate actual unemployment. This i s because workers tend to make decisions on whether to register on the basis o f how they perceive the benefits relative to the costs. Registered unemployment rates can be lower than the “real” level of unemployment in some situations. For example, in some countries, workers who are not working and seeking jobs may not register if they see no advantage (Le., unemployment benefits may not be available or are not being paid; other social benefits may not be tied to registration; active labor market programs may either not be available or may not be seen as useful). On the other hand, people may register as “unemployed” with the labor bureau in order to become eligible for benefits unrelated to the labor market, even if they are not truly without work or looking for work. This i s the case for Serbia, where many “registered unemployed” may not actually be searching for work - they may be out o f the labor force or they may be employed in the informal sector - but register in order to get certain benefits, such as health insurance e. Where enforcement capacity i s weak or the government does not want to deny benefits, these workers will be counted as unemployed even if they actually are not. In this case, the registered unemployment rate will be higher than the true (unobserved) rate.

Survey-based unemployment rates that follow international standards should accurately capture true unemployment - Le., those working-age adults who are not working and are actively seeking work. I t should be noted that that, under proper methodologies, work in these surveys i s defined as covering both formal- and informal-sector activities. In the annex to this chapter, the definitions o f “unemployment” used with the LFS are described.

34. I n this section, we try to describe trends during this decade using available survey and administrative registration data. Figure 2.3 presents labor market indicators from 2000 until 2005 using both the administrative and LFS data. These statistics are only available for those 15 and over. There have been earlier reviews o f long-term trends in Serbia (World Bank 2003, 2004a; Arandarenko and Paunovic 2005; and KrstiC, 2003) and this section builds on that work.

17

Figure 2.3: Labor Market Indicators for Ages 15 and Over (thousands), based on LFS and Registered Data, 2000-2005

3000

+NES Unemployed

I

Source: Enterprise and NES data, and o w n calculations based o n RSO communications

35. Even though comparable data over time do not exist, there is agreement from earlier reports that participation and employment rates have been stable or slightly decreasing, and that unemployment rates were increasing slightly in the period 2000-2003. While trends might be similar, levels are surprisingly different. For instance, Arandarenko and Paunovic (2005) present five different unemployment rates for 2002, ranging from 26.3% according to the NES registered data to 14.5-15.4% according to the LFS (depending on whether one includes “temporary active individuals” as employed or unemployed). l2

36. The LFS data seem to confirm this pattern of an increase in unemployment and a decrease in employment. According to the LFS, employment decreased slightly until 2003. Unemployment had been rising and reached just above 500,000 individuals in 2003 for the 15+ working age population.

37. From 2000 to 2003, there were relatively smooth yearly changes in the LFS indicators; however, a discontinuity appears in 2004, especially noticeable in the jump in the unemployment numbers, and therefore in labor force participation. Most likely, this i s a result o f changes in the LFS methodology introduced in 2004 to provide a better count o f the unemployed. (For a detailed explanation o f the methodological changes adopted by the Republic Statistical Office, refer to Box 2.5) Given that the new sampling framework i s now based on the 2002 Census, the total population 15 and over represents a discontinuity in 2004 as well (see Annex Tables 2.2 and 2.3).

l2 These rates are for those aged 15-64.

18

Box 2.5: Methodology: LFS 1995-2003 vs. LFS 2004-2005

The Labor Force Survey (LFS) has been conducted continuously since 1995 in Serbia. From 1995 to 2003, the LFS framework for sample selection had been the 1991 Census and the sample size was around 3,900 households. As Expressed in previous World Bank reports (World Bank 2003 and 2004a), there i s concern about these data because questionnaires, definitions, and training o f interviewers did not follow international guidelines. For instance, the unemployed were defined as those who reported not having worked in the last month but having looked for a job (availability to start working in the next 2 weeks was not assessed). The definition o f employment was based on a reference month instead o f the usual reference week. The definition o f employment used remains unclear, but it i s likely to include individuals who, even though they may have worked in the reference month, would not be considered employed according to the ILO definition. Finally, LFS publications before 2004 would divide employment status into: paid employed, helpers, farmers, temporarily active, other active. These categories are impossible to match with the new ones: employers, self-employed, employees, and helpers. (See Appendix Table 2.3)

The new LFS 2004 i s now conducted by the Republic Statistical Office and the framework for sample selection i s the 2002 Census. A l l research tools were completely revised and fully adjusted to the last recommendations and definitions o f I LO and Eurostat. As a result, estimates o f labor market indicators are now consistent with international standards. In this new survey, active search for employment and availability to start working are properly assessed when accounting for the unemployed, and employment definitions are properly based on the internationally comparable definitions. According to the ILO, employment i s defined as individuals who worked at least one hour for pay in the reference week, and those persons temporarily not at work because o f i l lness or injury, holiday or vacation, strike or lockout, educational or training leave, maternity or parental leave, reduction in economic activity, temporary disorganisation or suspension o f work due to such reasons as bad weather, mechanical or electrical breakdown, or shortage o f raw materials or fuels, or other temporary absence with or without leave should be considered as in paid employment provided they had a formal job attachment.

38. Even though there appears to be a smooth transition in L F S employment numbers from 2003 to 2004, this is clearly just a coincidence. The number o f employees in 2003 according to the LFS was 2.919 mi l l ion and in 2004, 2.93 1 mill ion. However, this ostensibly smooth transition cannot be reflecting the real evolution o f employment. As summarized in Box 2.4, there have been significant changes in methodology which imply that these seemingly similar numbers are not measuring the same things.

3 9. Clearly, administrative data underestimates employment given that it does not consider farmers, part-time workers, and informal workers. There i s a sharp contrast between LFS and administrative data indicators (Figure 2.3). Employment i s much lower according to registration data. In 2005, while the LFS data estimates employment at 2.7 mi l l ion (1 5 years and over), the registration data figure i s 2.1 mi l l ion.

40. On the other hand, the registered unemployment figures are grossly overestimating unemployment given the non-work incentives to register with the NES, especially to receive health insurance. According to administrative data (NES), the unemployment rate in 2005 was 32.4% compared to the 22% estimate based on the LFS.13 The larger number o f registered unemployed compared to survey unemployed (about 1 mi l l ion versus 700,000) can be attributed to incentives to register as unemployed at the NES, especially t o receive health insurance.

4 1. Furthermore, there is a sizeable group of individuals registered with the N E S as unemployed, who are working according to the ILO definition of employment. Using information on registration included in the LFS, it i s possible to compare registration status with actual labor market activity (Table

LFS unemployment rate using ILO definition for working age population 15-64. 13

19

2.10). First, 125,736 o f the true (survey) unemployed were not registered with NES. On the other hand, 3 18,678 o f the registered unemployed had jobs in the informal sector; 263,619 were inactive according to ILO definitions (see Annex Table 2.1).14 In Chapter 3, we make use o f the group o f individuals who, while registered with the NES as unemployed, are employed according to ILO definitions. Since this group cannot be working in registered jobs, they offer clues on the characteristics o f those informally employed.

ILO unemployed, not registered

Table 2.10: ILO (LFS) and Registered Unemployment, 2005

125,736

Registered unemployed and ILO unemployed

Registered unemployed, ILO employed

Registered unemployed, ILO inactive

593,037

3 18,678

263,619

42. The population is aging but Serbia is in a relatively better position than the European average. Population growth rates have been significant for the 65-and-over group and projections (for Serbia and Montenegro) show that this trend wil l continue for the next three decades (Table 2.11). By the second quarter o f the century, the demographic profi le wi l l look considerably older than it does now. However, in the shorter term, the overall share o f those over 65 wil l remain relatively small (i.e., less than 15% over the next decade). At the other end, the under-15 group, which has been declining since 1995, will continue to shrink in both absolute terms and as a share o f the overall population. Still, Serbia not aging as quickly as many other countries in Europe.”

l4 Individuals have incentives to register mainly because o f pension and health insurance benefits, but not because it i s necessary to register to collect unemployment benefits in cash. Only a small percent o f those registered receive the cash benefit. l5 In 2005, Serbia and Montenegro’s median age was 36.5, compared to 39.0 for Europe. Projections (UN 2004, medium variant) are 38.8 and 41.8, respectively, in 2015.

20

Table 2.11: Demographic Trends for Serbia and Montenegro, 1985-2050

65+

0- 15 15- 64 65+

1985 1990 1995 2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 5-year growth rates'

0.5 -2.7 -9 -8.7 -5.8 -3 -2.4 -2.2 -2.3 -2.6 -2.6 -2.5 -2.6 0- 15

14.1 23.6 15.3 7.1 -0.3 5.5 11.3 5.7 3.7 3.3 4 5 5.1

Shares

24 23.4 21.9 20 18.3 17.3 16.9 16.6 16.4 16.2 16 15.8 15.7 15.6

67.4 67.1 66.7 66.9 67.6 68.6 68.2 66.7 65.7 65.1 64.4 63.4 62 60.5

8.6 9.5 11.4 13.1 14.1 14.1 14.9 16.8 17.9 18.8 19.7 20.8 22.2 23.9

2.7 3.3 0.3 0.6 1.3 -1.2 -3.1 -2.3 -2.2 -2.5 -3.2 -3.9 -4.5 i ::- i

1. Growth rates are for five-year intervals, e.g., 1990 stands for the growth rate between 1985 and 1990 Source: UN projections for Serbia and Montenegro. httu://esa.un.orp/undD/

43. Serbia's working age population will start decreasing both in absolute terms and as a share of the total population after 2010. The dependency ratio which measures the proportion of the population outside the working age (i.e., 0-14 and 65 and over) has been declining, but this trend wil l reverse in 2010 because of the rapid increase in older people. This means that the working-age population will decrease in relative terms; it will also decline in absolute terms -- between 2005 and 2020, the population in the age group 15-64 will drop by more than 210,000.

44. The decrease in the working-age population can be compensated by increases in participation rates. Aging has the potential to most negatively affect countries with low participation rates, not only among older people but also for the adult population as a whole (World Bank 2006c, forthcoming). Currently, as we have seen, the participation rate in Serbia i s only about 65% and among those between 55 and 64, it i s under 40%. So over the next decade, it will be important to raise these rates in order to adjust to the demographic trends.

21

Annex

Population 15+ 6173 6177 6169 6138 Active 3519 3538 3460 3419

Employed 3094 3 106 3000 2919 Unemployed 426 433 460 500

Annex Table 2.1: LFS Main Labor Market Variables and Definitions

6485 6456 3596 3453 293 1 2733 665 720

Inactive

Owner

Unemployed ILO Definition Unemployed Relaxed Definition Self-Employed Employee Household helper Formal worker Definition 1

Formal worker Definition 2

Formal worker Definition 3

Formal worker Definition 4

Formal worker Definition 5 Formal Worker Definition 6 Full-time worker

Working Age Population Wage: Definition

Not working in the last seven days + NOT looking for a job in the last four weeks + NOT willing to take up a job in the next two weeks Ownerlco-owner of a companylinstitution, shop, farm, doctor’s office, lawyer’s office, etc Not working in the last seven days + looking for a job in the last four weeks + willing to take up a, job in the next two weeks Not working in the last seven days + willing to take up a job in the next two weeks (whether looking for a job or not) Independent worker with no employees Employee Unpaid family worker Employee in a public or socially owned enterprise, or employee in a medium or large enterprise (size 50 or more) Self-employed with university education or more Owner with fifty or more employees Same as Definition 1, but more relaxed in the size o f firm for employees and owners. Employee in a public or socially owned enterprise, or employee in an enterprise size 10 or larger. Same as Definition 1, but more relaxed in the size o f firm for employees and owners. Employee in a public or socially owned enterprise, or employee in an enterprise size 5 or larger. Same as Definition 1, but different for employees. Employee in a public or socially owned enterprise, or employee with an open- ended or fixed-term contract Only employees for whom contributions to the Employee Pension Fund are currently made. Only employees, excluding farmers (RSO registered employment)

Individuals working 30 or more hours a week in their main occupation (Eurostat definition). Individuals aged 15-64

How much was your last net payment for work last month?

Values (Dinars) deflated to 2005 according to the national average Consumer Price Index.

Annex Table 2.2: FSO/RSO Labor Market Indicators (000s) for Working Age Population 15+

22

Total population

I Sampling Framework I Census 1991 I Census2002 I

LFS 2003 LFS 2004 6,138 6,485

1. Paid employed persons include employees, self-employed, and owners in 2003 2. Temporarily active population comprises persons who, during the reference period, performed some works for money, but which were not a permanent and regular source o f income.

23

24

CHAPTER 3: SPE THE LABIOR MARKET

45. This chapter looks at four specific issues in the labor market: long-term unemployment, wage determination, informality, and youth employment. Unemployment on its own is a very worrying phenomenon but it is especially so when such a high proportion is of a very long term. Wage differentials by gender, education, region, and ownership suggest segmentations in the labor market. I n addition, the informal sector is fairly large and seems to be increasing. Finally, youth in Serbia show extremely high unemployment rates, as well as low employment rates.

46. Overall, Serbia not only experiences high unemployment, but most of it is of a long-term nature. According to the 2005 LFS, 79% o f the unemployed aged 15 to 64 had been unemployed for a year or more, a situation which has largely prevailed over the last decade (World Bank 2004a). Furthermore, in view o f the ongoing privatization and restructuring program plus downsizing o f the government administration, this trend i s likely to continue.

47. Serbia shares the problem of long-term unemployment with several SEE countries; however, it is in a much more difficult situation than more advanced European countries. Table 2.2 in Chapter 2 shows that much o f the unemployment in the SEE region i s long-term in nature. Even though Serbia seems to be in a slightly better situation than Macedonia and Montenegro, EU-lo's proportion o f long- term unemployment i s almost half o f that o f Serbia. Table 3.1 highlights both the significantly higher incidence and rate o f long-term unemployment in Serbia compared to other more advanced European countries.

Table 3.1: Long-term Unemployment: Rates and Incidence, 2005'

1 Proportion o f long-term unemployed among individuals in the labor force 2 Percentage o f I LO unemployed looking for jobs for twelve months or more Source LFS (2005) for Serbia, KILM 4'h edition for the rest

25

48. The pool of long-term unemployed is composed mostly of women, the middle aged, the poorly educated, and those in Central Serbia (without Belgrade) and urban areas. Table 3.2 shows shares o f long-term unemployment by demographic characteristics. According to these tabulations, women, the prime-aged (25-44), poorly-educated individuals, those living in Central Serbia and in urban areas represent a larger share in long-term unemployment than do the other groups.

Average Duration in

Median Months Share in Long-term

Unemployment

49. Surprisingly, the probability of being unemployed for over a year does not seem to be associated with personal characteristics. Even though women are much more likely to be unemployed than men, their long-term unemployment incidence i s similar (Table 3.2). Also, for the age groups 25-44, 45-54, and 55-64 and among those with secondary education or less, the proportion o f long-term unemployment i s almost the same. Only the geographical variables seem relevant in determining the probability o f being unemployed for more than a year: the proportion o f long-term unemployment in Central Serbia exceeds that in Belgrade or Vojvodina, and those in rural areas spend more time looking for jobs than those in urban areas. This finding can be explained mainly by heavier restructuring process in Central Serbia compared to the other regions.

Incidence o f Long-term Unemployment

Table 3.2: Long-term Unemployment Rates and Duration in Serbia, 2005

Total Gender Female Male

48 66.3 100 79.0

48 70.8 54.6 79.6 48 60.8 45.4 78.4

15-24 25-44 45-54

55-65

24 29.9 20.2 67.8 60 74.8 57.1 82.2 48 74.6 17.1 83.1 48 84.7 5.6 81.6

Belgrade Central Serbia2 Vojvodina Rural Urban

26

36 53.2 17.7 71.8 48 69.4 58.1 84.0 48 68 24.2 74.1 60 71.9 41.5 82.2

48 61.9 58.5 76.9

50. A conditional analysis, controlling for other factors, confirms these findings. A probit regression shows that those with college education and young people are less l ikely to be long-term unemployed than the other education and age groups, respectively. Individuals in urban areas are equally l ikely to be long-term unemployed as those in rural areas, but workers in Central Serbia have a significantly higher probability o f long-term unemployment than those in Vojvodina or Belgrade.

Very good

5 1. Since only a small proportion of the unemployed is eligible for unemployment benefits, overall effects of UI on the level and duration of unemployment are not strong. Chapter 6 shows that unemployment insurance benefits actually cover only a very small percentage o f unemployed workers in Serbia. The LFS data show that the long-term unemployed are more l ikely to register with the NES than those who are short-term unemployed (85% against 73%).16

Unemployed >=1 year <lyear

0.9 2.8

52. The long-term unemployed are only slightly more likely to perceive economic hardship than the rest of the unemployed. According to individuals’ own assessment o f the financial situation in their households, those who have been looking for jobs for a year or more report only a slightly more negative v iew about their financial situation than the “short-term” unemployed (Table 3.3).

Predominantly good 12.0 16.0 Predominantly bad Bad

22.9 21.8 64.1 59.3

53. The dynamic analysis confirms that many individuals remain without employment for considerableperiods of time. The LFS data make it possible to see what happens to workers in 2005 who were without jobs in 2004. (Box 3.1 summarizes the methodology used for the panel analysis.) When we look at these year-to-year transition patterns, we see further evidence o f persistence o f non-employment. Figure 3.1 uses the LFS panel to track year-to-year transitions o f working age adults (15-64 years old) who were unemployed in the init ial year; they had twice the probability o f being unemployed than o f being employed in the succeeding year.

l6 As already mentioned in Chapter 2, some o f the individuals registered with the NES, might not be really unemployed but work informally.

In the CEM (World Bank 2004a), labor force flows for Serbia looked very different from these. The data source used, the LSMS, yielded significantly lower unemployment rates: 7.7% in 2002 and 8.0% in 2003.

27

Figure 3.1: Transitions Out of Unemployment

A O u t o f labor force 20%

Source. LFS (2004-05)

Box 3.1: Tracking Workers with the Longitudinal Panel

The 2004 Labor Force Survey and the subsequent wave in 2005 not only provide two cross-sectional views o f the labor market. Together they also provide a longitudinal panel which observes a common sample o f households over the two-year period.

The longitudinal, or dynamic, analysis presented in this report exploits this panel aspect of the LFS. It includes respondents who were surveyed in 2004 and 2005 waves. Overall, 9,800 individuals were interviewed in both waves. In the longitudinal analysis, then, we observe the labor market situation o f the panel households and their workers twice.

The transitions analysis reported in this chapter i s based on the observations o f labor force status o f each worker as it i s observed during the reference week (Le., once a year). At most, then, an individual in the panel for both years can have one transition. A transition i s only recorded if the individual changed from one o f the three observed states (out o f the labor force, unemployed, employed) to another in the following year. The figures in this chapter, then, are based on year-to-year transitions observed between 2004 and 2005.

54. The lowest probability of escaping unemployment and finding a job belongs to women and older workers; surprisingly, education does not seem to be an important factor. Table 3.6 shows transition probabilities f rom unemployment by some demographic characteristics. Women and older workers have the lowest probability o f finding a j o b from one year to the next. Furthermore, these groups are more likely to leave the labor force compared to men and younger workers, respectively. Surprisingly, education seems not be playing a role in these transitions.

28

Table 3.4: Transi t ion Probabil it ies f r o m Unemployment

2004 Unemuloved

2005 Employed I Out of Labor Force I Unemployed

27.6 19.7 52.6 Gender Men Female Education Groups Less than Primary Primary Vocational

36.1 15.3 48.6 20.5 23.4 56.1

28.3 23.9 47.8 25.7 24.1 50.2 29.8 16.8 53.4

General Secondary Universitv or More

26.2 20.0 53.7 29.7 17.1 53.1

5 5 . I n sum, a mix of weak labor demand and structural unemployment seems to explain the high incidence of long-term unemployment in Serbia. On the one hand, as will be discussed in the next chapter, employment growth has lagged behind the growth in the economy. So relatively few new j o b opportunities are available for those seeking work. On the other hand, most long-term unemployed workers appear to be older and relatively poorly educated; often they are in depressed regions as well. In any case, the question remains open whether the long-term unemployed are correctly classified as such: some could be holding jobs in the informal sector though not reporting them, and others could actually be inactive, taking advantage o f extended severance payments, unemployment benefits, or other sources o f income.‘8

15-24

56. Wages are highest in state-owned enterprises and lowest in the private sector. Mean and median monthly wages in the economy as a whole amount to 16,734 and 15,000 dinars in 2005. Mean wages in state-owned enterprises (SOEs) are approximately 20% higher than those in private enterprises (Table 3.5).

27.9 21.6 50.5

I t i s interesting to note that even though long-term unemployment i s very high, the level o f discouragement i s fairly low. Once we include “discouraged workers”, Le., those individuals without jobs who would be willing to take a job in the next two weeks, but have not searched, unemployment rates do not change significantly.

18

25-54 28.3 55-64 15.9

29

17.5 54.2 49.3 42.9

Table 3.5: Nominal Monthly and Hourly Wages by Type of Firm, 2005

Private

SOE

Share of Monthly Wages Hourly Wages’ Employment

Mean Std.Dev. Mean Std.Dev. 44.1 15069 9014 80.3 51

33.5 18753 8305 116.2 193

I SociallyOwned I 17.0 1 16867 I 8240 I 100.1 I 56 1 Other’

Total

5.4 16753 8902 97.0 54

100.0 16734 8808 96.9 124 1. Last week hours (not usual hours) 2. “Other” stands for mixed, cooperatives, and other enterprises. Source: LFS (2005)

57. Furthermore, the distribution of wages in the private sector is more unequal than in the SOEs or socially-owned enterprises. Table 3.5 shows that the standard deviation o f monthly wages for private sector employees i s significantly higher than for those in SOEs or socially-owned enterprises.’’ This occurs despite the fact that private sector average wages are much lower than the rest. As Serbia deepens the restructuring process and the share o f the private sector increases, more inequality o f wages i s to be expected.

Box 3.2: Data and Methodology for Wage Analysis

This section exploits LFS data to provide an overview o f wage determination. The analysis deals exclusively with earnings o f employees, their determinants, and the effect o f the minimum wages in Serbia. Chapter 5 o f this report presents an in-depth analysis o f formal sector wages, in the context o f a thorough analysis o f labor costs using fm data.

In order to isolate the impacts o f gender, education, experience, and other potential determinants o f wages, we have carried out various wage regressions. Results for the 2004 regressions are very similar to those for 2005 and, therefore, we only present the later results. The earnings measure refers to earnings on the main job only and the sample considers those aged 15 to 64, who reported nonzero earnings. Annex Table 3.1 presents two OLS sets o f estimates for the augmented Mincerian monthly earnings equation for 2005; one set includes age dummies and the other years o f experience instead.

58. The gender gap in Serbia is significant; male employees earn, on average, 15% more than women, after adjusting for other factors. N o t only do women experience higher unemployment rates, as well as lower employment and participation rates, but also they experience significantly lower wages. Two different specifications for the regression o f wage earnings, including both demographic and productivity variables, showed a 15% gender gap. (See B o x 3.2 for details on methodology). However high, the gender gap in Serbia i s s t i l l among the lowest among transition countries (Krstic 2005).

59. Education is closely linked with wage differentials. Figure 3.2 shows adjusted monthly wage premiums in 2005 according to five levels o f education (compared to those with less than primary). The estimates f rom these regressions show that educational differentials are substantial even after other

l9 Gini coefficients for monthly (hourly) wages in the private sector, SOE and socially-owned enterprises were in 2005: 0.30 (0.32), 0.23 (0.28) and 0.26 (0.27) respectively.

30

individual characteristics have been held constant. The figure shows the substantial wage advantage for those who completed college; wage premiums drop with lower levels o f educational attainment. Note that returns to vocational education are much lower than for general secondary education2’

Figure 3.2: Adjusted Monthly Wage Premiums by Educational Level, 2005l

University Education or Higher

0 Secondary School or More

Vocational School or More

Basic Education or More ,

1. Premiums with respect to Less than Basic Education Source: LFS (2005)

60, Contrary to most international experience, experience is not a significant determinant of wages. Annex Table 3.1 shows that, according to LFS data, returns to experience are zero in Serbia. World Bank (2006c, forthcoming) presents similar evidence for Belarus, Bulgaria, Hungary, Moldova, Romania, Russia, and Poland. I t i s possible that experience gained in the pre-transition period i s not rewarded in a market economy, which might explain this result in Serbia and elsewhere in the region.

6 1. Controlling for other factors, the public sector wage premium is significant. Wage earners in state-owned or socially-owned enterprises earn between I1 and 14% more than workers in the private sector. Confirming our unconditional analysis, multiple regressions reveal a significant public sector wage premium. This finding i s consistent with what the administrative show (presented in Chapter 5). This public sector premium appears to be decreasing slowly over time, signaling the (slowly) changing structure o f the economy.

62. Relative to average wages, Serbia’s minimum wage is in the middle of the range by regional standards. The minimum wage i s determined twice a year on the basis o f negotiations within the tripartite Socio-economic Council. In the period f rom July-December 2005, the minimum wage was set at 7,134 dinars. Figure 3.3 compares the minimum wage/average wage ratio for E C A countries. Serbia’s ratio

2o Figure 3.2 shows that there exists approximately a 15% difference between vocational and general secondary education. World Bank (2006~) shows that this i s the case for most transition countries. In planned economies, education systems were dominated by vocational schools that would match individuals to jobs awaiting them upon graduation. Now, some studies have suggested that vocational schools may not equip their graduates with flexible skills that are more appropriate in a market economy.

3 1

appears on the middle of the spectrum (since 2002, the minimum wage has fluctuated around 38-42% o f the average wage in the economy).

Figure 3.3: Minimum Wage as Percent of Average Wage, Latest Year Available

Lith BiH Mac Ukr

Sloven

Slovak Czech

Lat Pol

Rom Bul

E s!

Rus ia Berar Azer

*&En

da 0 10 20 30 40 50 60 70

Source: World Bank calculations

63. The minimum wage appears to be too low to affect employment to any signijlcant degree. Although minimum wages can be beneficial for some employees, they also create disincentives for the employment o f low skilled workers if set too high. Figure 3.4 shows the kernel-density distribution of non-zero log monthly wages for workers who, in principle, are subject to minimum wage regulations and informal wage workers, who are not. Looking at the formal-employee distribution (right panel), it i s evident that very few workers report earnings close to the minimum wage. If the minimum wage were an important -and binding- factor, we would expect to see a “spike” at the statutory level. Actually, the spike we see in the distribution (mode) occurs well to the right o f the minimum wage. Alternatively, if it was set at a market-relevant level but was not binding, we would expect to see a significant part o f the wage distribution below the minimum level; however, only 4% o f formal sector employees report wages below this level. Therefore, the “market wage” for unskilled labor appears to have been high enough above the minimum wage so that significant employment disincentives are not evident. 2 1

21 It i s interesting to note that the wage distribution for informal workers i s also largely to the right of the minimum wage level; the mode occurs at 10,000 Dinars and only 15% o f the informal workers earned less than the statutory minimum in 2005.

32

Figure 3.4: Monthly Log Wage Distributions, Informal and Formal Wage Sectors, 2005l

c

0

6 a 10 12 6 0 10 12 X

Graphs by Formal

1 Left graph. informal wages, right graph: formal wages. 2. Vertical line symbolizes the minimum wage at 8.87 Dinars (log of7,134) Source: LFS (2005)

64. I n Serbia, the informal sector is fairly large, covering 43% of all individuals employed, and 27% of wage earners in 2005, according to the definition used in this report. According to LFS 2005 data, informality reached almost 43% o f al l employed workers and 27% when we exclusively consider wage earners.22 (For a thorough explanation o f our definition o f informality, refer to the Annex to this Chapter). Also, according to consistent cross-section estimates for 2004 and 2005, informality rates increased from 41.5 to 42.9% for all workers and from 24 to 26.7% for wage-earners. In this section, unless noted, we wil l focus on informality among wage earners.

65. Informal employment is important both to the economy and to the welfare of many households; however, it is also significantly correlated with low earnings, poverty, and vulnerability. On the one hand, informal employment, in Serbia as elsewhere, i s the main source o f labor market f lexibil i ty as wel l as providing an important safety net. On the other hand, it seems to be the “employer o f last resort” and i s associated with low productivity, low earnings, and a lack o f protection. There i s a high incidence o f poverty among workers employed in the informal sector: those who had their principal j o b in the informal sector (30 % o f al l workers in 2003) had a poverty rate higher than average by one-third (World Bank 2003).23 Furthermore, LFS data show that workers’ o w n perception o f their household financial situation seems to be much more negative for those informally employed, whether compared to the employed as a whole or just the wage employees (Table 3.6).

22 Our definition o f informality includes: (i) self-employed individuals who have not completed postsecondary education, (ii) household helpers (iii) wage earners and owners o f private firms with less than 10 employees. A l l wage earners in the state- and socially-owned sectors are considered formal. 23 The definition o f informality for wage earners in that study, based on LSMS data, was social security contributions.

33

Table 3.6: Subjective Perception of Household Financial Situation, 2005

Very good Predominantly good Predominantly bad

66.

All Employed Wage Earners Informal Formal Informal Formal

3.2 3.4 2.6 3.1 29.3 38.6 30.7 38.1 28.1 28.4 27.0 28.8

Informality Rates

Share in Informal Share Among Wage Sector Earners

The young and the less educated are overrepresented in the informal sector. Main characteristics o f formal and informal wage employees are provided in Table 3.7.24 T w o observations clearly stand out. First, the probability o f young workers to be in the informal sector i s more than double that o f prime-age and older workers. Second, education turns out to be an extremely important determinant o f informality: those wage employees with less than primary school completed have almost f ive times the probability to be informal than those with college degrees or more.

67. Other things equal, the probability of being informal within the wage-employment sector (i.e. working in a private f i rm with less than 10 workers) is significantly correlated with being female,

24 It i s worth noting that according to our definition, informality among wage employees i s basically measuring the effect o f firm size in the private sector as wage employees in private firms with less than 10 employees are classified as informal.

34

young, and less educated. The LFS 2005 was analyzed using a probit model to estimate the effect of different personal characteristics o n the probability o f wage earners being employed in the informal sector. These results largely conf i rm the descriptive results discussed above. Controlling for various personal characteristics:

Experience Informal Wage Earners Less than 5 years 30.9 Five to 10 years 31.3 More than 10 years 37.8

0

0

0

A female wage worker i s 5% more l ikely to be informal than a male; Young workers are 23% more l ikely to be informal than older workers; Individuals without completed primary education have a higher probability o f working in the informal sector (in the range 15- 28%) than those more educated;

Formal Wage Earners 12.8 23.4 63.8

68. Job experience is much lower in the informal sector than in the formal sector. In 2005, informal sector workers reported that they have had on average around 12 years o f work experience, 30% lower than the mean work experience in the formal sector (1 8 years). The incidence o f very short work experience (less than f ive years) i s almost 3 times higher in the informal sector, whi le very long work experience (more than 10 years) i s two times more l ikely in the formal sector (Table 3.8). This tenure effect i s correlated with age and, as already noted, young workers are overrepresented in the informal sector.

Total

Table 3.8: W o r k Experience in the Formal and Informal Sectors

Mean Monthly Wage Ratio Mean Hourly wages Ratio

Formal Informal Informa'/ Formal Informal Formal Informal/ Formal

18153 13062 0.72 107.1 70.7 0.66

69. Wages in the informal sector are lower than wages in the formal sector, especially once hours of work are considered. In 2005, the unadjusted average monthly wages for formal employees were almost 30% higher than for informal employees (Table 3.9). The earnings premium attached to formal employment becomes stronger once the longer hours o f informal workers are considered. Informal employees work on average 45 hours a week, f ive more hours than formal employees do. In terms o f mean hourly wages, the formal sector premium r ises to 34%.

Table 3.9: Wages in the formal and informal sectors, 2005

35

General Secondary University

Mean Monthly Wage Ratio Mean Hourly wages Ratio

Formal Informal Informal/ Formal Informal’ Formal Informal Formal

17145 13526 0.79 98.4 73.9 0.75 249 15 19325 0.78 156.5 108.3 0.69

Gender Male Female

18990 13949 0.73 107.4 73 0.68

16960 11978 0.71 106.6 67.9 0.64

70. The wage premium for working in the formal sector is approximately 20% once other determinants are taken into account. To isolate the effect o f informality, we have included informal/formal employment status in the wage regressions, only for those employed in the private sector (see Annex Table 3. 1).25 The estimations yielded (statistically significant) positive wage effects in the range o f 19-21% for those wage employees working in the formal private sector, depending on the specification o f the model.

Region Belgrade Central Serbia

71. Longitudinal analysis shows that flows between the informal and the formal sector are small. Table 3.10 summarizes the evidence from the LFS panel on the transition probabilities o f workers from the informal and formal sectors. The top panel looks at workers who were observed as informal wage employees in 2004 whi le the bottom covers formal wage employees. The general message o f the table i s that informal workers had a high probability o f remaining informal. Only 10.5%% moved from informal wage employment in one year to a formal j ob in the next. On the other hand, the large majority o f formal wage workers remained in the formal sector the next year.26

21231 16879 0.80 131.1 94.2 0.72

16480 12055 0.73 94.9 63.6 0.67

Total 65.7 10.5 13.9 9.8

25 The variable “formal” was interacted with “private sector” to evaluate exclusively formality in that sector (all employees in state- or socially-owned enterprises are considered formal according to our definition). 26 Transitions from informal sector jobs to formal or informal jobs, unemployment or out o f the labor force do not change dramatically for different sub-groups (by gender, education, or age), except for well-educated workers. Those with college education or more have significantly higher transition probability into formal wage employment compared to the less educated (.39 compared to a range o f .03-. 14)

Men Women Education levels Less than Primary Primary Vocational

36

1

68.2 12.0 10.0 9.7 62.1 8.2 9.5 20.2

66.7 2.8 4.1 26.3 70.2 4.7 6.5 18.6 68.2 11.6 11.8 8.3

Age groups 15-24 25-54 55-64

72. Informality does not seem to be one of the main transition paths into employment. Table 3.1 1 shows the different paths workers go through from unemployment and from out of the labor force into employment. For those entering wage employment, both from unemployment or from inactivity, the probability o f ending up in a formal sector job i s almost as likely as that o f entering informality.

16.0 64.8 8.0 11.2 10.2 80.1 5.5 4.1 6.6 71.9 2.8 18.7

Table 3.11: Transition Paths Into Employment, LFS 2004-2005

1 Source: LFS 2004-05

uth in the L et

73. Along many dimensions, youth labor market indicators are discouraging. Table 3.12 shows the main indicators in 2005 for people aged 15-24. Even though labor force participation might not seem too worrisome given that non-participants may be in school, youth in Serbia experience low employment and extremely high unemployment rates.

37

Table 3.12: Main Labor Market Indicators for Youth, 2005

Total 15-19 20-24

Gender

I Labor Force Participation Employment Unemployment I 35.8 18.7 47.7 19.1 9.1 52.1 52.1 28.0 46.2

Female Male

30.6 14.8 51.7 40.8 22.5 44.8

I Education Less than Elementary Elementary Vocational Secondary

34.0 14.5 57.2 15.6 8.7 44.6 79.9 45.9 42.5 36.0 17.1 52.5

74. Serbia compares poorly with countries in the European Union, both in terms of youth unemployment and youth labor force participation. Table 3.13 highlights the poor performance o f youth in Serbia relative to the EU members and Romania and Bulgaria.

Table 3.13: Main Labor Market Indicators: Serbia and Selected Countries'

1. Youth unemployment rate covers persons aged 15-24; adult unemployment rate refers to those aged 25 and over. 2. Youth unemployment over adult unemployment. Source: Eurostat for EU; LFS 2005 for Serbia

75. Employment rates for youth in Serbia are very low, particularly among those aged 15-19, women, and the poorly-educated. In 2005, the employment rate for young people (aged 15-24) was 18.7%, which i s wel l below the national employment rate o f 5 1 .O%. Only 9% o f youth between 15 and 19 years o f age, and 14% o f young women have jobs in Serbia. Among the poorly educated, the experience i s similar: less than 15% o f those with primary education incomplete and around 9% o f youth with primary school completed were employed in 2005 (Table 3.12).

76. Low youth employment rates reflect two factors: many are still full-time students and those who are not are largely unemployed. Some young people do not look for work because they are s t i l l in school; in 2005, this reason was reported by 87% o f youth not in the labor force. Given the importance o f education for future labor market performance, this could be a positive factor. The second reason for low youth employment i s not -- many young people looking for work experience difficulties finding a job.

38

77. Unemployment rates for youth are especially abysmal in Serbia. While the unemployment rate for the whole working age population reached 21.8% in 2005, the unemployment rate for youth was 47.7%. Young women, especially, have higher unemployment rates and seem to be more discouraged than young men.27

Hourly Std. Dev. 1 Std. Dev. I Wa e I I Wage

78. Surprisingly, education does not seem to be an important determinant of youth unemployment. According to a probit regression o f youth unemployment, young people with general secondary education and those with college or more have the same probability o f being unemployed as those with less than primary schooling. Possibly, individuals with higher education are more selective when looking for jobs and have higher reservation wages. Table 3.14 shows that highly educated youth end up working fewer hours per week but earn significantly higher wages than the rest o f the youth group.

Hours per Std. Dev. Week

Table 3.14: Wages and Hours of Work, Youth in Wage Employment, 2005

Less than Elementary Elementary Vocational Secondary College or More

6160 827 25.7 8.8 61.2 18.7 9153 4905 49.7 24.4 48.2 17.3 1 1872 5832 62.5 31.0 45.2 14.6 14014 5193 85.3 85.0 42.0 13.0 15693 6181 94.5 38.8 40.4 5.9

79. Once employed, individuals aged 15-24 are mostly wage employees. Figure 3.5 shows that among those aged 15-24, almost 80% are in wage employment. Compared to al l workers, there are many more young workers helping in the household (14% compared to 7%) and employment (8% compared to 14%).

Figure 3.5: Employment Status of Youth, 2005

Owner 2% 1

Self- I

Household Help 14%

Employee 76%

I Source: LFS (2005)

much fewer in self-

’’ Discouragement i s assessed by including among the unemployed those individuals who are not working, are willing to start working in the next two weeks, but had not been looking for jobs in the week before the survey. Unemployment rates for women, including discouraged workers, i s 56.0% while for men i s only 47.9%.

39

80. The majority of young wage employees work in the informal sector. As already stated in the previous section, while among al l wage earners informality reaches 27%, more than 52% o f young wage employees are in the informal sector (Table 3.15). The lowest rates o f informality among young wage earners belong to those with college education or more, and the highest to those with less than elementary school completed.

Less than Elementary Elementary Vocational

College or More Secondary

Table 3.15: Informality Rates by Education, Young Wage Earners, 2005

Informal Wage Employees

86.4 65.8 58.4 45.4 15.9

Monthly Earnings

Mean Std. Dev.

15-24 12616 573 1

25-54 16840 8748

55-64 18740 10048

8 1. As would be expected, youth earn significantly less than the rest of the working age population. Table 3.16 shows unadjusted earnings differentials for wage earners by age groups. Individuals aged 15- 24 earn 20-35% lower wages than the rest o f the working age population, depending on whether means or medians are considered. Furthermore, Annex Table 3.1 shows that, controlling for individual characteristics, there i s a significant wage disadvantage for youth o f 16%.

Hourly Earnings

Mean Std. Dev.

71.1 63 .O

97.3 133.3

111.6 64.2

Table 3.16: Monthly and Hourly Wages by Age Groups, 2005

40

Annex

Annex Table 3.1: Conditional Regressions of Log Earnings, 2005

Regressions of Log Earnings on Individual Characteristics

Coefficient Std. Err. Coefficient Std. Err. Gender Male (Omitted) Female Education Less than Primary (Omitted) Primary Vocational General Secondary College or more Region Vojvodina (Omitted) Belgrade Central Urban Job Characteristics Informal Private (Omitted) Formal Private Experience

15-24 (Omitted) Age

25-54 55-64

Log Hours Ownership Socially-Owned (Omitted) Private State-Owned Sector Agriculture (Omitted) Industry Construction Public Administration Services Second Job

-0.15

0.14 0.26 0.42 0.78

0.17 -0.04 0.02

0.19 0.01

0.29

-0.11 0.04

0.28 0.39 0.39 0.28 -0.04

0.02

0.05 0.05 0.05 0.05

0.02 0.02 0.02

0.03 0.00

0.03

0.02 0.02

0.04 0.04 0.04 0.03 0.03

* * *

* * * * * * * * * * * *

* * * ** * * *

*** ***

* * *

* * *

* * * *** * * * ***

***

-0.15

0.1 1 0.23 0.38 0.75

0.18 -0.04 0.02

0.21

0.17 0.18

0.29

-0.14 0.04

0.27 0.38 0.36 0.26 -0.03

0.02

0.05 0.05 0.05 0.05

0.02 0.02 0.02

0.03

0.03 0.04

0.03

0.02 0.02

0.04 0.04 0.04 0.03

0.03

***

** *** * * * * * *

* * * * *

* * *

* * * *** ***

* * *

*** *** * * * * * *

*** Constant 7.75 0.12 7.76 0.12 Number o f Observations 371 1 371 1 R-squared 0.35 0.35 *, **, *** refer to 1, 5, and 10 level o f significance

41

Definition of Informality with LFS Data

Given that information on registration o f f i r m s or employees i s not provided by the LFS, we present several alternative definitions o f formality and test various methods to match the LFS number o f formal employees against other sources (RSO, Pension Fund). Without data on registration wi th social security agencies, the most problematic category o f employment to classify into formality or informality i s wage-earners. To determine the most credible methodology for identifying informality, we test various definitions using the LFS data by comparing alternate estimates with administrative statistics from the Pension Fund and RSO registered employment numbers. These definitions are summarized in the table below.

According to 2005 firm registration data, the number o f employees, excluding farmers, ranges between 1.839 and 1.924 mi l l ion (depending on whether one includes persons employed in the Ministry o f Internal Affairs and the military). However, a number o f studies have pointed out that these numbers could be actually overestimating the extent o f formality. Firms who register could s t i l l be reporting individuals who do not work for them any more and/or individuals for whom the firm i s not making social security contributions.

Unsurprisingly, the number f rom the Employee Pension Fund contributors (1.474 million), which also includes wage earners and excludes farmers, i s much lower than the one stemming from firm registration data. The Pension Fund number i s compared with the LFS total o f non-farmer wage earners (1.866 million) to get a rate o f informality o f 21%. 28

Definitions of Informality for Employees Aged 15+ (without farmers), 2005

Informality Rate Definition 1 "fm size 50" 3 9% Definition 2 "firm size 10" 25% Definition 2 "fm size 5" 15% Definition 4 "contracted worker" 3.5%

1.5% Definition 5 "RSO fm registration"' (2005 LFS data against 2005 RSO firm registration)

I Definition 6 "Pension Fund" 21% I I (2005 LFS data against 2003 Pension Fund) 1. RSO registration in this table does not include persons employed in the Ministry o f Internal Affairs and the military. Source: Staff calculations

Furthermore, we exploit the LFS data on a very unique group: those individuals registered with the NES as unemployed, who report in the survey that they are working (according to ILO methodology, see Annex Table 2.1). Since NES-registered individuals who are working must, by definition, be working in unregistered (i.e,, informal) positions, this group o f individuals gives us clues on what characteristics informal workers are most l ikely to have in this economy. It turns out that 65% o f individuals belonging to this sui generis group do hold contracts. Therefore, we discard the method in which contract holding i s used as a proxy for the number o f formal employees in Serbia and choose to use different proxy instead.

Thus, we consider firm size as a more adequate proxy for formality than whether the worker holds a contract and we simulate different firm size cutof f points to determine the most valid threshold for

** Pension simulations and work done by the World Bank in PROST for the DPL take 2003 numbers as the most reliable until now in Serbia.

42

informality. According to EU definitions a small firm i s defined as having less than 50 employees, which could be a yardstick for defining informality. However, as most wage earners in Serbia work in firms with less than 50 workers, this definition seems too encompassing and, indeed, it yields a high informality rate for non-farmer wage-earners o f 39% (1.147 million). Therefore, a more reasonable cut-off point should be lower in this context. We try cutoff points o f 10 and 5 employees per firm and find, respectively, 1.405 and 1.578 informal employees, respectively. Many studies have chosen firm size o f 10 as the cutoff point in other countries, and we closely match the target o f Pension Fund contributors using this threshold (1.405 million against 1.474 in the Pension Fund). On the basis of these tests, then, we established the following definition o f informality in this report: i) employees and owners in firms with less than 10 employees, ii) self-employed with less than postsecondary education, and iii) helpers.

It i s worth noting that earlier analysis done with the LSMS 2002-03, which include data on registration with social security agencies, found an increase from 30 to 35% in informality for the whole economy, not only wage earners (World Bank 2004a). The definition of informality used in that study covered: i) employed with no social contributions paid; ii) employed who worked in private unregistered firms; and iii) the employed who worked at home, from door-to-door, in the flea market and in other places.

43

44

82. This chapter looks specifically at the context surrounding the labor market - the macroeconomic environment, the investment climate, and the education and skills of the workforce. The first two are the major determinants of labor demand while the third is critical for the quality of labor supply. While economic growth has been fairly good, it wi l l need to be sustained and even accelerate for job creation to increase and to make meaningful inroads into the country’s unemployment problem. The job creation challenge facing Serbia’s economy is heightened by the large-scale restructuring that is essential for the overall economic strategy but, in the process, is eliminating public-sector jobs in substantial numbers. Because it w i l l set the stage for more job creation in the future, restructuring of the socially- and state-owned sectors needs to be completed as soon as possible. However, further improvements in the investment climate will be needed in order to realize the promise of future job creation. Although Serbia has made important reforms, the business climate remains a constraint on investment, growth, and job creation. I n addition to apprehensions about macroeconomic and political instability, investors and managers are uncertain about the application of regulatory policies, and are concerned about a range of other issues that affect the ease of doing business “on the ground”. Finally, a lack of skills currently does not seem to be aparticularly binding constraint on job creation. However, weaknesses in Serbia’s education and training system wi l l be a constraint in the future, as labor demand picks up and Serbia’s integrates further into the European and global economies.

8 3 . The economic environment is the most critical determinant of labor market outcomes. In this section, we briefly summarize the overall economic trends, highlighting the relationship between output growth and employment since Serbia restarted i t s transition at the beginning o f 2001 .29 The main message i s that, while economic growth has been fairly good, it will need to be sustained and even accelerate for j o b creation to increase and to make meaningful inroads into the country’s unemployment problem. The j o b creation challenge facing Serbia’s economy i s heightened by the large-scale restructuring that i s essential for putting the country on a high-growth path but, in the process, i s eliminating public-sector jobs in substantial numbers.

84. Serbia’s economy has made reasonably good progress in the past five years since the reform agenda was initiated. After a decade o f political turmoil and economic backsliding, Serbia introduced a reform program in 2001 aimed at a rapid transition to a market economy. Progress in making these reforms has been uneven during the past f ive years but, overall, much has been accomplished. Achievements have included macroeconomic stabilization, price and foreign exchange liberalization, partial restructuring o f the state- and socially owned sector, and significant improvements in the regulatory framework defining the business climate (discussed in next section).

85. As a result, the economy has expanded and living standards have risen. Real GDP growth has averaged about 5% per year thus far this decade (Figure 4.1). According to forecasts, it will remain at around this level at least through 2008 (IMF 2006). However, polit ical uncertainty does increase the

29 This section draws from the most recent CEM (World Bank 2004a), with updates.

45

downside risks. GDP per capita rose about 22% in real terms (in both $US and local currency) between 2000 and 2004.

Figure 4.1: Recent and Projected Trends in GDP, Serbia and Montenegro

9.0 20000 8.0

7.0 15000 6.0

5.0 10000 4.0

3.0 5000 2.0

1 .o 0 0.0

I 2000 2001 2002 2003 2004 2005 2006 2007 2008

1 - Real GDP per cap (LCU) +Growth Rate of Real GDP Per Capita

Source: IMF, World Economic Outlook 2006

86. However, Serbia’s output growth has not been strong enough to generate net employment increases; moreover, the employment intensity of its GDP growth has been below regional averages. As discussed in Chapter 2, documenting consistent labor market trends i s diff icult because o f data issues. However, various pieces o f evidence do point to an absolute decline in employment since 2001, despite the expansion o f the economy overall. Moreover, even in a region where jobless or near-jobless growth has been widespread, Serbia has been a relatively poor performer in translating increased output into increased jobs. Figure 4.2(a) compares Serbia and Montenegro with a selection o f countries in the region in terms o f how employment and GDP have moved in recent years. This figure reinforces the observation that employment growth has been relatively stagnant in the region, despite general economic growth. Even within this sample, however, Serbia’s employment elasticity i s unfavorable (i.e., below the trend line).

87. Serbia’s relatively poor job creation record is typical of countries in the early stages of transition. Panel (b) o f Figure 4.2 shows that this slow pace o f j o b creation i s characteristic o f E C A countries in the f irst years o f the transition. In other words, Serbia’s employment-relative to-GDP performance between 2001 and 2005 does not compare as unfavorably as it did when data for current years for a l l countries were used.

46

Figure 4.2: Changes in Employment and in GDP, Serbia and Montenegro and Selected Countries in Eastern Europe'

L." I"

1 c d9Q

(a) 2001-2004

Mzcedonia, FYR Romania

(b) During first years of transition

L." I"

Employment Growth

Lithuania

b

1. Employment for Serbia and Montenegro i s for 2001-03. Source: Own calculations based on ILO LABORSTA and WDI

47

88. Wages did rise rapidly early in this decade but they had moderated by 2003, and have not been a major constraint on aggregate employment since then. However, the 2001 tax reforms raised costs for low-wage labor, which likely has affected employment in this sector of the labor market. Official wage data indicate that wages have dramatically increased in nominal, real, and foreign currency terms since 2000. However, for various reasons, these wage estimates have been upwardly biased. After 2002, average wage growth appears to have slowed and, according to our estimates, it has not exceeded GDP and productivity growth f rom 2003 onwards. The regressive labor tax system introduced in 2001 has put a disproportionate tax burden at f i r m s and sectors employing l ow wage labor force, as well as regions with under-average wages. These issues are addressed in some detail in Chapter 5.

89, Like the experience in many ECA countries. Serbia’s disappointing employment performance reflects a transition process with an initial stage of public-sector restructuring that has “shocked” the labor market with large numbers of job losses. Over 125,000 workers made redundant due to privatization since 200 1 had received support under the Government’s Social Program through 2005. Since this program provides support only to selected enterprises, the total number o f layoffs i s actually considerably higher although exact numbers are not known. I t seems l ikely that this restructuring has contributed to Serbia’s productivity growth and, thus, wil l eventually have positive impacts on the labor market. However, to this point and into the near future, the major observable effect will be j o b destruction through what i s known as “defensive restructuring”. Further employment losses can be expected since over 250,000 are s t i l l employed in state- and socially-owned enterprises. Wor ld Bank estimates conclude that there i s a potential for 80,000 workers in these enterprises to be made redundant through 2008 (Cvetkovic and Lieberman 2005).

90. The more successful transition countries have moved beyond the “defensive restructuring” stage and started to create larger numbers of jobs through the creation of new private-sector firms and the expansion of existing ones. The reallocation o f jobs and workers away f rom old, less productive enterprises i s an essential step in building a strong economy and labor market. While it i s a necessary condition, however, it i s not sufficient. The ability o f transition economies to recover f rom the restructuring “shock” and to go o n to create new jobs has been largely determined by the rate o f new-firm creation and growth, as wel l as the abil ity o f f i r m s to restructure themselves to ensure profitability and improve compe t i t i vene~s .~~ A favorable investment climate i s key to moving through this transition process and stimulating j o b creation. This i s discussed in the next section.

91. International experience clearly shows that services will account for most of the new job creation. Transition countries, with a legacy of heavy industrialization, tend to have underdeveloped services and relatively low employment shares in the sector. Compared to international benchmarks for market economies, transition countries had economic and employment structures that were disproportionately oriented towards industry and away from services (see Table 4.1 below). Recent work has shown that this distortion s t i l l exists but that the more successful transition countries are moving towards the market economy benchmarks in terms o f their economic structure (Raiser et al. 2003, World Bank 2005a). This structural evolution i s very important for j o b creation because evidence from al l regions o f the wor ld shows that middle- and upper-income countries must rely on services as the primary generator o f employment.

92. Serbia’s service sector is relatively undeveloped, even by transition country standards. However, part of this difference is due to Serbia’s delayed transition. In comparison to other transition

30 This process o f job creation and job destruction i s studied intensively in the recent ECA labor market report (World Bank 2005a). The analysis relied on firm-level data in several countries over a number o f years since the transition. Unfortunately, the data required to undertake this analysis were not available for Serbia, which was not included in the report’s research on job creation and job destruction.

48

countries, Serbia’s economic structure i s weighted towards agriculture and industry. According to 1996 and 2004 data for SEE and CEE, i t s share of output in services was the lowest (Figure 4.3). This likely reflects the delayed transition in Serbia which has put it behind other countries in the region in terms of transforming i t s economic structure towards one that i s more typical o f a market economy.

Figure 4.3: Share of GDP in Services, Serbia and Montenegro and Selected Transition Countries, 1996 and 2004

Slovak Republic

Hungary‘

Poland

Croatia

Slovenia’

h o p e &Central Asia

Russian Federation

Macedonia, FYR

Czech Republic

Bulgaria

Albania Serbia & Montenegro 2004

Romnia

0 00 10 00 20 00 30 00 40 00 50 00 60 00 70.00 80 00

U 2004 = 1996

*Data available until 2003 only Source: World Development Indicators 2006

93. This translates into a relatively poor employment record in market services, the sector where employment will need to be concentrated in the future. Reversing this pattern will be essential for an improved employment performance. Table 4.1 compares the employment structure o f Serbia with the structure in CEE countries and in a sample o f “benchmark” countries that are market-oriented economies with income per capita levels that are similar to the CEE co~n t r i es .~ ’ It includes both recent shares, the structure at the time o f transition, and for CEE countries, shares at around 5 years after transition (in order to compare with Serbia’s current situation). The CEE countries have experienced substantial change since the transition began and, as the table indicates, their employment structure - whi le s t i l l somewhat overrepresented in industry - i s now approaching the structure in the benchmark countries. Notably, employment in CEE in market-oriented services (transportation, communications, trade, and finance) i s now very similar to the benchmark countries.32 On the other hand, whi le Serbia has also experienced some significant changes, the increase in the share o f these market services has been ha l f o f that in the CEE countries. When we compare Serbia with the CEE countries in the mid-l990s, the difference i s reduced but does not disappear. Most o f the service sector j o b growth in Serbia to this point has been in non-market services (government administration, health, education).

3 ’ The methodology for benchmarking i s described in World Bank (2005a, Chapter 4). 32 In 1989-90, employment in CEE countries in market services was 9 percentage points lower and employment in industry was 16 points higher (World Bank 2005a, Table 4.1).

49

Table 4.1: Employment Structure in CEE Countries and in Serbia, Compared to International Benchmarks

CEE

1989-90 I 1996* I 2002

I Emdovment share Serbia Benchmark

19893 I 2005 1989-90 I 2002 countries’

Industry Market-oriented services Non-market services4

I Auiculture I 17.8 I 16.9 I 14.5 I 25 I 18.9 I 23.2 I 22.3 42 33.8 32.4 35.9 26.9 26 26.2

20.9 27.1 29.7 19.6 24.3 28.5 28.9

18.8 22.2 23.3 19.4 29.9 22.4 22.7

94. A stronger economic context will be needed for Serbia’s job creation record to improve. This will require continuing with the macroeconomic reform agenda and structural reforms. Output growth o f about 5% per year has not translated into net j o b creation. Either higher rates o f GDP growth are needed or the employment intensity o f growth must increase. Continued macroeconomic stability i s essential, as are the structural reforms needed to complete the transition to a fully-functioning market economy.33 The latter set o f reforms are necessary to shift resources, including people, from declining, low-productivity sectors into sectors with potential for higher productivity and growth.

95. Overall labor market success in transition countries Itas been determined by their ability to develop the private sector through the creation of new firms and the expansion of existing ones. B o x 4.1, taken from the Bank’s regional labor market study, summarizes how private sector development has been a key for employment performance in transition countries. There are many factors involved in developing a private sector that encourages firm creation and expansion and provides j o b opportunities for workers displaced f rom the contracting sectors and for new entrants. But the most important i s a pro- growth investment climate.

Box 4.1: How Private Sector Development has been a Key to Job Creation in Transition Countries The disappointing employment outcomes in ECA reflect an incomplete transition process, but ineffective institutions and policies affecting the investment climate are also inhibiting job creation. Certainly, the major initial condition in most ECA economies was the transition shock that caused a dramatic fall in output, with a corresponding large fall in labor demand. The resulting shedding o f redundant labor and closing o f loss-making enterprises caused large inflows into unemployment. Yet, the ability o f ECA economies to recover from the transition shock and reduce unemployment has been largely determined by the rate o f new-firm creation and growth, and consequently the size o f the new sector, as well as the ability o f firms to restructure themselves to ensure profitability and improve competitiveness. Thus, widespread defensive restructuring i s an important factor behind relatively low rates o f job creation despite often significant economic growth. The process o f productivity catch up i s much more advanced in CEE countries than i t i s in SEE and in the CIS, where the competitive pressure i s less.

Source: World Bank (2005a)

33 According to the 2005 EBRD transition indicators, Serbia and Montenegro’s score i s tied with Albania and below all other SEE countries (EBRD, April 2005).

50

96. A business climate that is favorable for investments will also be a favorable one for employment, including employment in the formal sector. Cross-country comparisons based on the Doing Business 2006 indicators demonstrate that reforms to make it easier to conduct business allow f i r m s to grow faster and create more jobs (World Bank 2005b). Countries ranked in the top two quintiles in terms o f overall “ease o f doing business” had unemployment rates that were about one-half o f the unemployment rates in countries in the lower three q ~ i n t i l e s . ~ ~ Moreover, an increasing number o f new jobs will be in the formal economy because the benefits o f being formal (such as easier access to credit and better utility services) often outweigh the costs (such as taxes).

97. Serbia has made clear progress in recent years in improving the laws and regulations that define its business climate. Serbia and Montenegro was identified as the top reformer in the world in the recent Doing Business 2006 report (World Bank 2005b). The report shows that Serbia and Montenegro led by improving in 8 o f the 10 areas studied. One major area o f change was in starting a new business, with capital requirements cut and various innovations to ease registration. With these reforms, a company can start operating in 15 days rather than 5 1. Furthermore, the new code o f c i v i l procedure has almost halved the time to resolve commercial disputes while payroll and sales tax were replaced by an easier to collect value-added tax. The combination o f a l l o f Serbia’s reforms has led to a 42% increase in the number o f newly registered firms between 2003 and 2004 (World Bank 2005b).

98. However, Serbia still lags behind in international comparisons of the business climate, Despite these improvements, it i s clear that further progress i s needed when the findings o f various data sources are consolidated. (The principal sources used for this section are summarized in B o x 4.2.) The overall Doing Business ranking for Serbia and Montenegro i s s t i l l only 92nd out o f the 155 countries included.

Box 4.2: Principal Data Sources for Analyzing Serbia’s Investment Climate

Productivity and Investment Climate Survey: The PICS i s a firm-level survey that has been carried out twice in Serbia (2001 and 2003). We primarily use the 2003 results in this section. It i s modeled on the World Bank’s investment climate surveys that have been carried out in 58 countries now. The PICS sample in 2003 included 408 f i r m s and was representative o f the composition o f the Serbian economy. The survey data includes both quantitative and qualitative measures. They can be used to explore specific aspects of the country’s investment climate and also can be used to calculate various firm-level productivity measures. The questionnaire consists o f several modules that cover general information about the firm, sales and supplies, investment climate constraints, infrastructure and services, labor relations, business-government relations, legal environment, crime, capacity, innovation and learning, and productivity. http://siteresout-ces.worldban k.or~/INTSERBIA/Resources/300803-1121188966355/serbia-ica- complete.pdf

Business Environment and Enterprise Performance Survey: The BEEPS i s also a fm- level survey. I t i s the joint product o f the World Bank and the European Bank for Reconstruction and Development. The BEEPS utilizes a standard survey instrument applied to nearly all countries in Eastern Europe and Central Asia, thus allowing for cross-country comparability. I t has been conducted twice in Serbia and Montenegro (2002 and 2005). For this report, some indicators from the survey have been calculated specially for Serbia alone. The 2005 survey had a sample size o f 300 firms, while the 2002 survey covered approximately 230 f i r m s . Compared to the PICS, the BEEPS sample i s more oriented towards smaller f i rms. It i s also strictly qualitative and focuses largely on the quality o f the business environment as determined by a wide range o f interactions between f i r m s and the state in a number o f areas. http://info.worldbank.ore/g;overnance/beeps/

34 This relationship was statistically significant at the 1% level and remains significant when income per capita i s controlled for (World Bank 2005b).

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[ Doing Business: The World Bank’s Doing Business database provides indicators o f business-related regulations in order to measure the regulatory costs o f doing business. The indicators are comparable across 155 economies. The Doing Business database provides measures for Serbia and Montenegro together. Indicators cover 10 topics including starting a business, dealing with licenses, hiring and firing, registering property, getting credit, protecting investors, paying taxes, trading across borders, enforcing contracts, and closing a business. The methodology i s based on assessments o f laws and regulations. Local experts (from the legal profession, government, consultancies, etc.) provide input and verification. Wh i le the BEEPS and PICS data reflect the actual experience o f f m s , Doing Business indicators can show what should happen to a fm that follows all o f the laws and regulations as prescribed. These indicators are produced annually so the legal and regulatory framework for businesses can be tracked as it evolves. httr,://rru/DoineBusiness/default.asr,x

99. Moreover, many managers continue to voice dissatisfaction with the business environment, as it operates “on the ground”. Data from firm surveys show dissatisfaction with the prevailing business environment. The issue at hand i s that, while important legal and regulatory changes are being made, managers and owners do not see the impact o f these reforms yet. The capacity o f government administration i s improving very slowly and enforcement remains a problem. The uncertainty o f new regulations has made f i r m s more vulnerable to bribe and corruption. In fact, data f rom BEEPS show that, while there has been progress in some areas, managers indicated that problems had actually increased in others between 2002 and 2005 (Figure 4.4).

100. The concerns about the overall business climate affect Serbia’s investment levels, especially from foreign sources. According to the Economist Intelligence Unit, Serbia i s the riskiest country for investors in the SEE region. Other studies have found that Serbia and Montenegro has attracted very few greenfield investments and investors report shortcomings o f the business environment as the biggest obstacle (Center for Liberal Democratic Studies 2005; ILO and the Council o f Europe 2006). The business climate affects investment in general; however, in some ways, it i s most concerning in the case o f foreign direct investment. FDI i s a key element for growth and j o b creation in transition economies. On average, one j o b in the FDI sector can create up to 5 more in the domestic subcontracting sectors (Center for Liberal Democratic Studies 2005). An IMF study o f the FDI performance o f 14 SEE countries concluded that in 2003 Serbia ranked only loth in terms o f stock, far below i t s actual potential (Demekas et al. 2004). Figure 4.5 shows the relatively l ow FDI in Serbia and Montenegro compared to other countries in the region. However, recent improvements in the investment climate have translated into rising FDI which i s expected to reach US$2 bi l l ion in 2006.

52

Figure 4.4: Problems Faced by Enterprises in Serbia and Montenegro, BEEPS, 2002 and 2005

Figure 4.5: FDI as a Percent of GDP, Serbia and Montenegro and Selected Countries in ECA, 2004

L

0% 26% 509. 75% 100% 0Ss.M-2002 I S A M - Z O O S

Source: BEEPS

I

10.0

9.0

8.0

7.0

6.0

5.0

4.0

3.0

2.0

1 .o 0.0

Est I Sln Mac Croatia SAM Czech Lat Pol BiH Rom Blg

Source: World Development Indicators 2006

53

10 1. Continued improvements in the business climate wi l l be needed in order to encourage more domestic and foreign investment and produce a stronger j ob creation record. The various sources o f data on the investment climate identify the fo l lowing as key areas for improvement: contract enforcement; access to finance; regulatory burden; access to land and formalization o f real property; political and economic instability; perception o f foreign-owned f irms; and labor regulations. The last o f these wil l be discussed in detail in Chapter 5.35

102. Currently, the skills of the workforce do not appear to be a particularly important binding constraint on job creation. However, this is likely to change once job creation becomes stronger and, especially, if Serbia is to move towards a higher-productivity economy. Evidence from managers indicates that the ski l ls and education o f the workforce i s a relatively minor impediment to doing business in Serbia (recall Figure 4.4). According to the BEEPS results, this i s a less important constraint than it i s among the EU-8 countries or the E C A region as a whole (Figure 4.6). This i s l ikely to reflect the fact that many f i r m s are currently in a restructuring stage and/or in traditional industries. Once Serbia moves into a more robust job-creation mode and the competitive advantage o f firms becomes increasingly based on innovations in products and processes, the ski l ls and education o f workers will become a more serious constraint on employment.

Figure 4.6: Proportion of Firms Indicating that Skills and Education of Workers i s a Business Constraint, Serbia and Selected SEE Countries, 2005

0.35

0.3

0.25

0.2

0.15

0.1

0.05

0

Source: BEEPS 2005

103. However, the ease in filling vacancies does depend on the type of position. While it is not difficult to find workers for jobs requiring less education, there is some evidence that positions requiring highly-educated workers are already more difficult to fill. More detailed analysis based on both the BEEPS and the PICS shows that employers find it relatively easy to find skilled and unskilled blue-collar workers, and non-production (e.g., administrative, sales) workers. For example, the average

35 These areas were picked based on the increase in number o f firms reporting them as a constraint to business operation between 2002 and 2005 according to BEEPS. The Doing Business and PICS results reinforce these choices.

54

amount o f time to fill positions in these occupational groups i s less in Serbia and Montenegro than in the EU-8 countries or ECA as a whole. However, the search for managers and professionals i s not as easy. The average amount o f time fill a managerial vacancy i s about two weeks longer in Serbia and Montenegro than in ECA (BEEPS 2005). In other words, Serbia may already be facing a deficit in the supply o f workers with college or graduate degrees and with the types o f higher-level ski l ls required in the marketplace.

104. Younger firms and service-sector firms find it harder to fill vacancies regardless of the type of position. Since these are the types of firms where jobs will be created in the future, this is more evidence of an emerging skills gap. Further analysis o f BEEPS also shows that new f i r m s (less than 5 years old) along with some-service sector firms face much greater skill constraints than older f i r m s and manufacturing f i r m s . For example, a young firm, on average, needs more than 8 weeks to replace a manager, while real estate f i r m s needs over 11 weeks compared to the national average o f 6 weeks. In fact, the problem persists across al l occupational groups for these types o f f i rms. That is, even though on average it takes a week and a half to replace an unskilled worker, young f i r m s need up to 4 weeks.

Table 4.2: Time Needed to Fill Vacancies, by Occupation and Type of Firm

Time to fill a vacancy (in weeks) Age o f firm

0-5 6-10 yrs 11-15 yrs

16+ Sector

Mining and quarrying Construction Manufacturing Transport storage and communication Wholesale and retail trade; repair o f motor vehicles, motorcycles and personal and household goods Real estate, renting and business services Hotels and restaurants Other services

All Firms

Source: BEEPS 2005

Non Manager Professional Skilled Unskilled Production

8.1 6.7 2.9 4.0 3.4 5 .o 3.8 2.1 2.0 1.8 6.1 4.0 3.2 1.4 2.3

2.0 6.2 5.1 2.8 1.3

2.0 1.0 1 .o 1 .o 1 .o 3.7 2.6 2.7 1.3 1.8 6.3 4.8 3.2 1.7 2.1

7.9 3.4 1.7 1.3 2.2

5.4 5.1 2.6 1.6 2.5

11.1 8.3 4.4 1 .o 3.7 3.7 3 .O 2.3 1 .o 1.2 2.5 3 .O 2.2 2.0 6.2 4.9 2.8 1.5 2.2

105. The capacity to create more jobs and better jobs in the future will be limited unless Serbia is able to make greater and more effective investments in human capital. Earlier work by the World Bank has highlighted the importance o f increasing educational attainment (by increasing enrollments in secondary and tertiary education), improving quality, reforming secondary and postsecondary education, and improving the learning opportunities available to adults (World Bank 2004a). These all remain priority areas for reform.

55

106. Although educational attainment is comparable to other transition countries, it will need to improve to approach the level of many European countries. As in most Eastern European countries; literacy and enrollment rates are very high in Serbia and Montenegro. Primary net enrollment rates are currently reported at 96% while adult literacy i s over 95%. However, secondary education data, despite significant differences across sources, show a widening gap between Serbia and Montenegro vis-a-vis other European countries. According to The State of the World‘s Children 2006 (UNICEF), gross secondary enrollment rates o f 88% are wel l below comparators such as the Czech Republic (97%), Estonia (96.5%) and Slovakia (91%).

107. The international data on learning outcomes raises concerns about the quality of education. These assessments indicate that Serbia’s young people are lagging behind and many will not be prepared to participate in a knowledge-based economy. PISA 2003 (Programme for International Student Assessment), an internationally standardized assessment o f the education achievements o f 15 year-olds, highlighted the weaknesses o f the Serbian education system. In a l l four disciplines investigated in PISA (mathematics, reading, science, and problem-solving), Serbian students scored below counterparts in al l European countries (Figure 4.7).36 Since PISA assesses not only knowledge, but also the ability to apply it, it generates useful measures o f how well students are being prepared for an economy where knowledge and problem-solving wil l be essential. In th is sense, then, these results raise concerns for the future o f Serbia’s workforce.

Figure 4.7: PISA Performance Indicators, Serbia and Comparator Countries in ECA

mMathematics mReading OScience OProblem Solving

~ ~

Serbia Russian Fedemlion

Latvia Hungary Poland Slovak Republic Czech Republic

Source: OECD

108. The postsecondary education system is not generating an adequate supply of well-educated graduates with the appropriate skills for the changing labor market. Earlier reviews by the World Bank (2004a) and the European Training Foundation (2005) have raised major concerns about the performance o f the higher education system. Graduation rates are very l ow (just over 10% graduate on time) and the

36 Further analysis showed that “one half o f Serbian school students are basically illiterate, or barely literate, since they can only perform at the lowest levels o f cognitive complexity, (Le. making basic recognitions only), and not being able to deal successfully with higher order tasks.” Wilton Park Conference, 2005, “Preparing for Europe: Education for national minorities in Serbia and Montenegro.” Belgrade, Serbia

56

average length of studies i s 8 years (European Training Foundation 2005). Moreover, the World Bank (2004a) analysis highlighted the lack o f accountability and outdated curricula and teaching methods that are too often unrelated to the real needs o f the economy.

109. Opportunities to upgrade skills through adult education and training and active labor market programs are limited. The possibilities for lifelong learning do not really exist. The former Yugoslavia had a well-developed system for adult education and training. However, over the past 15 years, this system has essentially collapsed (European Training Foundation 2005). Retraining programs provided through the National Employment Service are very limited. (The capacity o f the NES will be discussed in more detail in Chapter 6.) And, as we will see below, in-service training offers opportunities to few workers. Overall, the possibility of moving between work and learning really does not exist. Improving this i s a pre-condition for moving towards a “lifelong learning” system - which means not just improving basic skills o f adults but enabling them to continue to develop a range of ski l ls and to enhance their employability throughout their lives.

110. There is a modest “new” training sector emerging that will be important to foster. There i s a growing diversification o f training providers (e.g., formal education institutes, Chambers o f the Economy, NGOs, private training deliverers, SME agencies) but the overall effort i s still modest. The constraints to the further development o f the emerging training sector are not well-understood (and a full investigation, while important, i s beyond the scope o f this study). But constraints are likely to include (i) the current low demand for training from firms (see below) and from individuals (since unemployment i s high and this increases the risks to investing in skills); and (ii) the lack o f information about providers and the quality o f their services (especially o f those who have recently entered the market).

11 1. Firms currently do not invest much in training and only a minority of workers has the opportunity to upgrade their skills through in-service training. Firms in Serbia and Montenegro train less than their counterparts in other ECA countries. According to the 2003 PICS, only about 30% o f f i r m s offered formal training, well below the rate in other countries in the region where Investment Climate Assessments have been carried out (Figure 4.8). As the figure also shows, even among f i r m s that do offer training, only about one-third of the skilled workers actually participate. Moreover, according to BEEPS data, non-production and unskilled workers have access to even less training than do skilled workers.

Figure 4.8: Incidence of training in Serbia and Montenegro and selected countries in ECA

0 Shareof f i rmsoffer ingformaltralnlng rn Shareo1~l l ledworkerirecelvingtralnlng 90 -~ __ .___

VI Y

.. !J I) E ; n 7 e

r e I , : 2.

; E

Source: PICS 2003 and Investment Climate Assessments

57

1 12. Serbia’s possibilities for improving productivity and incomes in the future will depend on being able to compete on the basis of a higher-quality workforce than it currently has. This will become increasingly imperative as Serbia opens up to Europe and the global economy. Accumulating and applying knowledge i s the common ingredient in the success o f today’s fast-growing countries - for example, the emerging economies in East Asia. This requires initiatives on many fronts but none i s more important than building up a nation’s human capital through education and training.37

The themes o f education, knowledge, technology, and growth are the focus o f a major World Bank study o f Latin 37

American economies (De Ferranti et al. 2003). The conclusions and recommendations of this report have strong applicability to all middle-income countries.

58

POLICtES: LABOR COSTS AND REGULATtON,$

1 1 3 . This chapter turns to the functioning of the labor market itserf, looking at the implications of labor costs and labor market regulations for j ob creation. Although official statistics indicate that wages have been rising substantially over the post-reform period, the official figures likely are overestimating wage growth, which seems to have slowed down since 2003. However, labor taxes should be an important consideration in addressing the country’s overall employment problems. The tax wedge at the average wage appears to be approximately at regional norms. The tax burden becomes significantly greater for low-wage labor because of the regressive nature of Serbia’s system. This raises potentially serious concerns about its negative impact on labor demand for less-skilled workers and for small firms in the private sector, especially in services, that must be the engine for future job creation. Labor market regulation is not overly rigid and in fact, Serbia compares fairly favorably to other countries in the region in terms of the flexibility of employment protection rules. However, for a minority offirms, this is sti l l a concern in doing business, more likely because of the administration of the labor law rather than the legislation itsel$

S

Wage levels

114. Official data indicate that wages in Serbia dramatically increased in the post-October 2000 period, After declines through the 1990s, real wages rose very rapidly in the early years o f this decade. Based on data through 2003, the last Wor ld Bank Country Economic Memorandum observed that real wages were rising more quickly than GDP and productivity growth and that Serbia’s wage levels were above levels in some neighboring competitors (World Bank 2004a).38

1 15. I n fact, the increases in offlcial wages have continued to slow down from 2003 on. Table 5.1 shows the annual wage trends, based on the RAD-1 survey o f enterprises which i s the basis for the wage information published monthly by the Republican Statistical Office.39 The top panel shows the official wage series (gross and net) which i s calculated as the total wage bill divided by total number o f employees, including zero-earners. This illustrates the very high real wage growth at the beginning o f the reform period and then a gradual slowdown after 2002, with the latest observation in 2005 at 6-7%. The bottom panel excludes the zero-earners and thus shows actual wages paid.40 Although the same pattern exists, growth rates o f these actual wages are more moderate, with real increases around 4% in 2005. According to these RAD-I estimates, in 2002 and 2003 wage growth substantially exceeded GDP growth

This section i s based on a background paper for this report prepared by Arandarenko with Stanic (2006). 38

3 9 Note that the monthly wage estimates are averaged in order to produce the annual wage figures for the economy. 40 According to RAD-1 monthly data, almost 12% o f employees earned zero wages in 2005.

59

(4.5% and 2.4%, respectively) and was slightly higher in 2004 and 2005 (when GDP growth was 9.3% and [projected] 4.8%, re~pect ively) .~’

2004 2005

~~

20,555 23.7 11.1 14,108 22.7 10.1 25,5 14 24.1 6.8 17,478 23.9 6.6

Gross wages Net wages

I I I I I I I I 1. Official and paid-out wages defined as in text. Since June 2001, RSO has officially monitored gross wages with fringe benefits. Since January 2002, net wages have been recorded with fringe benefits. Source: RSO (RAD-1) as presented in Arandarenko and Stanic (2006)

1 16. Moreover, careful analysis of the data suggests that the officialfigures overestimate real wage growth. Arandarenko and Stanic (2006) cite a number o f reasons why the official wage data overestimate actual real wage growth. One has to do with the labor tax reform in mid-2001 which effectively incorporated virtually a l l fringe benefits into wages. This translated into a significant one-off recorded increase in 2002 (shown in Table 5.1). Second, and most important, the R A D - 1 survey, which effectively has not been replenished since 2001, has become increasingly unrepresentative in ways that lead to an overestimation o f wages. The sample has been reduced from 13,000 reporting units to 8,500 and reported employment shrunk by 23% between 2001 and 2005. The attrition has largely consisted o f unprofitable establishments, primarily in the socially-owned sector, that have shrank or disappeared due to restructuring, privatization, and liquidation. Accordingly, the share o f the higher-wage public sector (including education and health) has increased, even with stagnant employment. And the growing de novo private f i r m s - which have lower wages and, until recently, slower wage growth - have never been in the RAD-1 sample frame.42 So, in effect, the RAD-1 has been shrinking a biased way, with “good jobs” (e.g., in public enterprises and government) becoming increasingly overrepresented, while “bad jobs” (e.g., in

4 1 Source o f GDP growth rates is IMF (2006, Table 1). 42 Arandarenko and Stanic (2006) use tax administration data to analyze wages in the non-RAD- 1 sector.

60

small socially-owned f i rms, soon to be privatized or liquidated; private and privatized f i r m s struggling for survival, etc.) being increasingly underrepresented.

117. Using tax administration data to estimate wage trends for the whole economy indicates that wage increases slowed down dramatically after 2002. From 2003-2005, real wages likely grew by 57%. Arandarenko and Stanic (2006) calculate an implied wage bill f rom the total wage tax revenue, given that a 14% flat wage income tax i s applied to al l wages. According to these tax administration data estimates, real wages had dropped below 7% by 2003 and since then have been at or below real GDP growth levels (Figure 5.1). In 2005, these data indicate that real wages grew by 5%. The tax administration data support the thesis that the RAD-1 data have significantly overestimated real wage growth, especially in 2003 and 2004.43

Figure 5.1: Real Gross Wage Trends, RAD-1 and Tax Administration Data Estimates, 2002-2005

40

35

30

25

20

15

10

5 0

2002 2003 2004 2005 I I I

Source: Arandarenko and Stanic (2006)

118. The RAD-1 overestimation of wages is more than a statistical artifact; it leads to some inflationary pressures because of its use as a benchmark for wage and benefit adjustments. The RAD- 1 wage data are used for at least three important practical purposes. First, they are used to calculate pension and other social benefits adjustments, along with the cost-of-living index. Second, they serve as an important input for semi-annual tripartite minimum wage adjustments. Third, they often represent a starting point for collective bargaining in the public sector and increasingly in large privatized companies.

119. The enterprise data indicate that significant wage differentials exist within Serbia. This suggests that excess labor demand in lagging regions does have a moderating effect on wages. Table 5.2 breaks down average wages (from RAD-1) for the country's 25 districts in 2001 and 2005, both in terms o f levels and as a percentage o f the national average. The major observation to be taken from these figures i s the substantial wage variation. In 2005, wages in Belgrade were the highest, with most districts in Central Serbia wel l below the average, and districts in the northern province o f Vojvodina usually in

43 In 2005, the difference between the RAD-1 and tax administration wage estimates was less than 2 percentage points. Arandarenko and Stanic (2006) speculate that this convergence may be due to (i) a more advanced stage of the transition with the RAD-1 sector losing some o f i ts wage advantage and the non-RAD-1 sector starting to catch up; and (ii) increased formalization following the introduction o f the VAT which led to less underreporting of wages in the non-RAD-1 sector.

61

between. For the most part, these relative positions have not changed much over the reform period. Arandarenko and Stanic (2006) find that wages and (registered) unemployment are negatively correlated at the district level, suggesting labor demand does affect wage determination.

JUDO-B ANATSKI

ZAP ADNO-B ACKI JU~NO-BACKI SREMSKI

Table 5.2: Average Net Wages by District and as a Percentage o f National Average, 2001 and 2005, RAD-1 Survey

7283 135,91 18499 121,73

597 1 11 1,43 16906 11 1,24

7153 133,49 20039 131,86

5510 102,83 15848 104,29

~~

Source: RAD-1 survey, cited in Arandarenko and Stanic (2006)

62

120. Cross-country comparisons of wages in SEE countries are seriously hampered by data issues. Table 5.3 compares net wages (in Euros) across SEE countries between 2001 and 2004. Note that these comparisons are not very rough since al l countries have gaps in their wage data and the basis for calculating net wages can differ significantly from country to country. In some cases, available wages are only available for the public sector. They also reflect currency exchange rates which can fluctuate substantially in this region. According to these data, Serbia i s in the middle o f the group. On the other hand, according to these data, Serbia’s wages have grown much more rapidly than wages in the other countries. However, these figures are based on estimates using the RAD-1 data; accordingly, they overestimate actual wage growth especially up to 2002 and the overall percentage change figure should be discounted to some degree.

Table 5.3: Serbia’s Net Wages (Euros) Compared to Other South Eastern European Countries, 2001-20041

1. Albania public sector only; Bosnia and Herzegovina - simple average for data in Republika Srpska and Federation of B&H; Bulgaria - data for 2004 are for 44 only; Montenegro - net wage does not include allowances for food, transport, etc. Source: World Bank staff estimates

Labor taxes

121. Labor taxes and other mandated benefits also directly impact labor costs and, thus, labor demand. The rules determining the taxation of labor and social contributions underwent a thorough reform in 2001. The reforms in 2001 were introduced to simplify a complex labor taxation system inherited from self-management that, over the 1990s, had become somewhat bizarre, imposed increasing cost burdens, and had become largely unenforced. The underlying logic was to broaden the tax base and lower the rates -- thus increasing compliance - and fully taxing fringe benefits.44 Basic features o f this system are s t i l l in force although specific provisions have been chan ed since 2001, most notably in 2003 and in 2004, when the L a w on Social Contributions was ena~ted!~ At the time this report was being prepared, a new set o f reforms were proposed by the Government. These reforms and the Bank’s assessment are discussed in the Overview. The major features o f the current system include:

0

0

A wage income tax set at 14% o f the gross wage. This i s a flat rate with no allowances or brackets. A personal income tax o f 10% which applies when the annual income i s more than four times higher than the average annual wage (RAD-1)

44 Prior to 2000, non-taxable fringe benefits were a major component in total compensation. The “meal allowance”, which was paid in cash to all workers accounted for as much as one-third o f the net income o f low-wage workers.

For a detailed discussion o f the pre-200 1 system, the 200 1 reforms, and subsequent changes, see Arandarenko and Stanic (2006). 45

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0

0

0

A universal minimum base for social contributions set at 40% o f the average. This roughly corresponds to the minimum wage.46 A universal maximum contribution limit set at five times the average wage (except for the pension plan for the self-employed which i s four times). Payroll taxes o f 35.8% o f gross wage shared equally by employers and employees. This includes 22% for pensions, 12.3% for health insurance, and 1.5% for unemployment insurance.

122. Although Serbia’s social contribution rates have increased since the 2001 reforms, they are not high by SEE and Eastern European standards. But this is a Izigh-tax region by global standards. Payroll taxes have been increased twice since 2001, with a combined increase o f 3.2 percentage points. However, Serbia’s current rate o f 35.8% i s s t i l l not high, compared wi th other countries in the region. Only Macedonia has a lower overall social contribution among FYR countries. Payroll tax rates in Bulgaria, Romania, and the EU-8 are al l over 40% o f gross wages. However, international comparisons o f social contribution rates show that the average rate for the Central and Eastern European countries (46.5%) i s much higher than in any other region (Vroman and Brusentsev 2005).

123. However, Serbia is unique in the sense that the labor tax wedge is highest for low-wage labor and lowest for very high-wage labor. This reflects the regressive nature of Serbia’s labor tax system The impact o f labor taxes i s commonly measured by the “tax wedge” which i s calculated as income taxes and combined employer-employee social insurance contributions (minus cash benefits) as a percentage o f total labor compensation. Table 5.4 presents calculations o f Serbia’s tax wedge at various wage levels. It shows that the tax wedge declines with earnings, a pattern that i s counter to what i s seen in other countries. Whi le the tax wedge i s 47.1% in the case o f workers earning 33% o f the average wage; this falls to 42.2% for average wage workers; and continues to decline, down to 32.7% for workers earning 8 times the average wage. The regressive nature o f Serbia’s labor tax system i s due to various features: (i) social contributions are levied on a l l earnings with no minimum income threshold and a minimum contribution base o f 40% o f the average wage; (ii) a flat 14% wage income tax, again without any minimum threshold; (iii) a maximum income contribution cap o f 5 times the average wage; and (iv) no credits or other advantages for low-income workers. The personal income tax i s levied on high earners but this does not compensate for the other parameters in terms of making the system more progre~sive.~’

Table 5.4: L a b o r T a x Wedge a t Var ious Wage Levels, 2005

46 Previously, workers with zero wages had been exempt but this was revoked in June 2005. 47 Revenues collected by the personal income tax are increasing but in 2005, equaled only 1% o f the wage tax revenues (Arandarenko and Stanic 2006).

64

E. Total Labor Cost (A+D) F. Tax wedge (B+C+D/E) Personal income tax threshold (102,056 net monthly) Base (net wage - threshold) Personal deduction

10,247 30,081 150,405 175,919 226,947 47.1% 42.2% 42.2% 38.1% 32.7%

.. 102,056 102,056

.. 6,761 50,645 ,. 10.206

I (B+C+D+G/E) 1. Minimum calculation base for contributions i s 40% o f average gross wage. Maximum calculation base for contributions i s 500% o f average gross wage. Annual personal income tax i s subject to payment on net earnings above 400% o f the gross wage (1,224,672 annually, or 102,056 monthly). Source: Calculations from Arandarenko and Stanic (2006).

G. Annual income tax (10%) H. Tax wedge, including income tax

124. Relative to other countries in Europe, the regressive character of Serbia’s labor tax system stands out. I n comparative terms, Serbia’s tax wedge is very high on low wages, in the middle range for average wages, and low for high wages. The general model in Europe and throughout the OECD i s to structure the labor tax system so that the tax wedge i s lowest for low-wage labor and increases as earnings increase. This i s true in al l o f the new EU member states - ranging, for example, f rom Hungary where the tax wedge r ises sharply f rom 38% at 50% o f the average production wage (APW) to 46% at the APW, and to 56% at 167% o f the A P W to the Czech Republic where the increase i s flatter (41%, 44%, and 46%). The progressivity, on average, i s stronger in the EU-15 countries than in the EU-8. Throughout SEE countries, tax wedges tend to be high, as in Serbia; however, they are either flat or somewhat progressive (Arandarenko and Stanic 2006). Serbia’s regressive pattern o f a high tax wedge for low-wage labor and then declining tax burdens as earnings r ise i s unique throughout Europe.

676 4,044 45.6% 42.2% 42.2% 38.5% 34.5%

125. A high tax wedge on labor income hampers job creation in the formal sector, although the magnitude of the effect can vary. The employment effects o f a high tax wedge depend on (i) the incidence o f the tax - i.e., who actually pays the taxes - and, thus, i t s effect on total labor costs; and (ii) the elasticity o f labor demand - Le., what happens to employment as labor costs change.48 T o our knowledge, there has been no quantitative analysis on these issues in Serbia and this would be required to estimate the impact o f the labor taxes on e m p l ~ y m e n t . ~ ~

126. However, Serbia’s labor tax system has placed a large burden on firms and sectors employing low-wage labor. This reduces formal employment chances for vulnerable workers and discourages hiring by small, de novo firms, especially in the service sector, that must be the engine for future job creation. The regressive tax system creates disincentives for f i r m s to hire low-cost labor. This i s a potentially serious policy issue, given the country’s high unemployment. It l ikely reduces labor demand - specifically in the formal sector -- for many o f the groups o f workers experiencing difficulties finding employment including marginalized groups, youth, the poorly-educated, and others experiencing long- term unemployment. Moreover, the emerging de novo private-sector, especially in services, i s l ikely to be particularly affected. The key role t h i s sector must play in future j o b creation was discussed in Chapter 4.

127. Although the overall lnbor tax burden is high, policy-makers need to be most concerned about its regressive pattern and this should be the focus of reform plans. The impl ic i t tax rate (ITR) on labor,

48 A high tax wedge can also have an impact on labor supply, although the importance o f the effect wi l l tend not to be as important as the effect on labor demand. Also high tax wedges can create incentives for employees to work informally because o f the difference between their gross wage and their take-home pay. This effect may be particularly evident where workers have low expectations that national insurance systems and other social services wil l deliver benefits in the future.

Vroman and Brusentsev (2005) review this literature for middle-income countries. 49

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defined as the total labor taxes collected as a proportion o f total labor costs, are relatively high in Serbia. Arandarenko and Stanic (2006) calculate Serbia’s ITR in 2004 at 40.8%, which i s significantly higher than the EU-15 and EU-10 averages (35.9% and 34.5%, respectively). Over the longer-run, then. Serbia should set a target t o reduce the overall amount o f taxes collected on labor. However, the current social security deficit (about 7% o f GDP) will make it very diff icult to address this -- unless other sources o f revenue are substituted for labor taxes. But, nonetheless, a more progressive system could substantially improve labor market outcomes whi le leaving overall tax revenues unchanged.

. c F ket Regulaticsn 128. While the span of labor market regulation is broad, this section focuses on employment protection legislation because of its relevance for job creation. Labor market regulation covers a wide range o f issues including employment protection laws (EPL), which provide the focus for this section. These rules cover the kinds o f contracts permitted and the rules and procedures for terminating workers. EPL arrangements can have important impacts on employment and other labor market indicators.

129. Employment protection rules should balance the protection of workers with a favorable context for job creation. EPL plays a critical role in protecting the fundamental economic rights o f employees and offering some security in the face o f business uncertainty and managerial discretion. However, the international literature has found that strong employment protection rules can have unintended labor market impacts, increasing informality, somewhat reducing participation and employment rates, and increasing unemployment duration (Table 5.5). Women and youth are disproportionately affected because they are underrepresented among the “insiders” who benefit f rom the j o b security rules. Analysis undertaken for the Wor ld Bank ECA labor market study confirmed the existence o f these effects in SEE countries; strict EPL was associated with higher youth and female unemployment, more long-term unemployment, and lower labor force participation (World Bank 2005a). The challenge for policy-makers i s to find an appropriate balance between flexibil i ty and security in i t s employment protection legislation.

Table 5.5: Impacts of Employment Protection Regulations Based on International Literature

Impacts of strict limitations regarding

Fixed-term and temporary Terminating regular employees for agency work economic reasons

Employment Somewhat lower Somewhat lower Labor force participation n.a. Somewhat lower Unemployment Insignificant Insignificant Unemployment duration Longer Longer Non-standard employment n.a. Probably higher Informal employment Higher Higher Job creation Lower Lower Job destruction Lower Lower Labor turnover n.a. Lower Job tenure n.a. Longer Groups benefiting Prime-age males, skilled, Groups losing Women, youth Women, youth, unskilled

n.a. Not applicable. Source: World Bank Employment Policy Primer Note on Employment Protection Rules.

130. The historical model of labor market regulation in Serbia was based on the unique ‘‘sew- management” system. The legacy of this system was strong employment protection for “insiders’’ in the

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state- and socially-owned sectors. The traditional regulatory framework in Serbia followed the FYR model, defined by social ownership and worker management, with a very high level o f j o b protection and overall rigidity in the labor market. This model was unique among the former socialist countries. The last statute prior to reforms was the 1996 L a w on Labor Relations which retained much o f the self- management legacy (see B o x 5.1).

Box 5.1: The 1996 Serbian Law on Labor Relations

The 1996 Law was the last before the post-Milosevic transition. I t reinforced many o f the features o f the traditional labor-management relationship in the FYR. In particular, employment was assumed to be a permanent arrangement. I t allowed for defined-duration employment only in very limited cases, such as seasonal jobs, a temporary increase in the volume o f work (up to six months), or the replacement o f a temporarily-absent employee. Overtime was allowed only in exceptional cases. Employees were entitled to various benefits and allowances, such as food allowances, transport allowances, and so on. Except for a few situations listed in the Law, public announcement of vacancies was mandatory. Although dismissal o f the employee due to technological, economic, or organizational changes was allowed, the procedure was very cumbersome and costly to the employer, including assigning the employee to another position; providing training to work in another position; or providing pecuniary compensation (termination) o f 24-36 monthly salaries o f the employed. However, during the period o f UN sanctions (especially during the first half o f the 199Os), firing was prohibited by government decree.

13 1. Reforms introduced in 2001 transformed the legal basis of labor market regulation from the “self-management” system to a market-based model. This has important implications for employment protection. A new Labor L a w was enacted in 200 1. This was a major departure, transforming the legal framework to a market-based model. N o t surprisingly, this was a polit ically diff icult reform, even though the process had involved a tripartite working group, including al l three recognized trade unions,50 and the United Branch Union “Independence” (“Nezavisnost”), as wel l as representatives o f the Chamber of Commerce o f Serbia and the Union o f Employers o f Serbia. The eventual law represented a compromise with the Government accepting 33 out o f the 50 amendments proposed by the trade unions.

132. Compared to the previous legislation, the 2001 Labor Law substantially increased labor market flexibility through changes in hiring and firing, labor deployment, and collective bargaining. The employment relationship was legally altered in many ways with this law. Some o f the most important changes were:

0

0

0

0

Elimination o f the legal requirement for employers to publicly announce vacancies; Professional qualifications required for a j o b were no longer to be posted through by-laws (Rules on the Job Plan); Establishment o f trial (probation) work for up to three months, during which the contract could be cancelled for unsatisfactory performance; Fixed-term contracts and part-time employment were no longer l imited to specific purposes, though the maximum duration for fixed-term relations was set at three years; Overtime limits were established as no more than 4 hours a day and not more than 240 overtime hours in a calendar year; these were among the most flexible among the transition countries. Restrictions were removed on when overtime could be used.

50 These were the Association o f the Unions o f Serbia, the Association o f Free and Independent Unions, and the United Branch Union “Independence” (“Nezavisnost”). In June 2001, “Nezavisnost” withdrew their representatives from the working group.

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0

0

Severance payments were reduced to 2-5 monthly wages, depending on j o b tenure; 5 1

Limits were placed o n when employers were obliged to adopt a program to solve redundancies, in collaboration with the NES. Previously, this had been required o f a l l employers in the event o f technological, economic or organizational changes. Many substantial changes were introduced into collective bargaining including the abolition o f mandatory collective agreements binding on al l employers and employees. As well, decentralized bargaining (i.e., firm-level) was legally prescribed for the first t ime and criteria were established to define whether employers’ associations and trade unions were authorized bargaining representatives.

0

133. I n 2005, a new Labor Law was enacted This was not a fundamental reform in the regulation of the labor market but it did introduce some important changes compared to the 2001 Law. The 2005 Labor L a w contains new rules in various areas, including labor deployment, compensation structure, and employment p r ~ t e c t i o n . ~ ~ Annex Table 5.A1 summarizes the main features o f the 2005 and 2001 laws, as well as the national labor laws for four comparator countries in ECA.

134. A key aspect of the 2005 Labor Law is the change in how remuneration is to be structured and administered. Employers have expressed concerns about this part of the reform. In addition to provisions for basic salary and performance-related increased salary, the new L a w has a long l i s t o f other forms o f non-wage compensation (cash and in-kind) on a non-taxable basis, such as a retirement gratuity, in the minimum amount o f three average earnings; premiums for voluntary insurance o f different types; presents for employees’ children; as wel l as various expenses to be reimbursed. This shifts compensation away from wages to non-taxable incomes. Employers argue that the overall effect o f the new law i s to distance the system o f wage remuneration from market principles. They also report that the new compensation provisions are too complex and that they face difficulties explaining it to the employees and, as such, they represent an additional and unnecessary source o f labor disputes.53

135. Certain employment protection rules were also changed in the 2005 Law. The general orientation of these reforms was to strengthen job security. While this increases protection for covered workers, it can create unintended hiring disincentives which reduce the chances for “outsiders” to get into the formal labor market. Most importantly, severance payments were significantly increased. In the event o f dismissal due to technological, economic, or organizational changes, the employer now has to pay a severance equal t o one-third o f the salary o f the employee for each completed year o f employment for the f irst 10 years o f employment, and one-fourth for each subsequent completed year o f employment. This means a severance payment o f one monthly salary for j ob tenure o f three years, and nearly 6 salaries for 20 years’ service. For long-tenure employees, severance payments are now higher than the average for the E C A region (Figure 5.2). Also the maximum period for a fixed-term employment contract was shortened from three years to one year. Although this change affects relatively few employees (according to the 2005 LFS, 6.1% o f employed had fixed-term contracts), the impact might s t i l l be fe l t in the labor market. Among workers with fixed-term contracts in 2005, one-third had contracts for 12 months and longer - presumably struck under the old law -- so they w i l l eventually be affected by the new law.

This reduction in severance payments had already taken place in mid-2001 with amendments to the 1996 Law on Labor Relations.

This includes new language to make Serbian labor law consistent with EU practices. For example, it includes specific provisions against discrimination, harassment and sexual harassment, unlike the 200 1 Law which had only one general article dealing with this issue. Note that the 2001 and now 2005 Law brought Serbia’s legislation into line with many ILO conventions. Serbia and Montenegro has ratified 69 conventions, including all 8 associated with core labor standards - on forced labor (Nos. 29 and 105); on child labor (Nos. 138 and 182); on discrimination (Nos. 100 and 11 1); and on the Freedom o f Association (No. 87), and Right to Organize and Collective Bargaining (No. 98). 53 Letter from Foreign Investors Council to Minister o f Labor, Employment and Social Policy, 2005 (undated).

5 1

52

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138. According to the OECD EPL index, Serbia is in the middle range when compared to OECD countries and slightly below other SEE countries. The OECD (2004) calculates strictness o f EPL according to 18 indicators o f employment protection in three areas: dismissal regulations for permanent or regular workers; regulations o f fixed-term contracts and temporary agency work; and regulations governing collective dismissals. These indicators, as well as a summary score, are scaled between 0 and 6, with a higher value indicating a greater degree o f employment protection. The OECD has recently calculated EPL scores for Serbia in order to compare it to OECD members. The summary score for Serbia, at 2.4, i s in the middle range (Table 5.6). It i s slightly above the OECD average o f 2.15 and the average for European OECD countries o f 2.26. Separate calculations were made by the World Bank (2005a) for the E C A region; according to these results, the range o f the index for other SEE countries was 2.6-2.8, or slightly above Serbia's score.

Table 5.6: OECD-Method Indicators for EPL Strictness, Serbia and OECD Countries (descending order)'

1. Scores range from 0-6, with higher scores indicating a greater degree o f protection. Methodology i s in OECD (2004, annex 2.A1). Source: OECD (2004), and calculations by OECD for Serbia.

detail in

i s s t i l l a major problem. According to the BEEPS 2005 data, in the last 12 months prior to the survey, the respondent f m s were inspected on average two times, and the average duration o f these inspections was three hours per visit.

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139. The World Bank “Doing Business” indicators show Serbia as a relativelyflexible country in terms of employment regulations. The World Bank’s indicators are calculated as part o f the Doing Business database which i s based on an assessment o f laws and regulations (see B o x 4.2). In the area o f employment flexibility, this database includes three measures: diff iculty o f hiring; diff iculty o f firing; and rigidity o f hours, plus a synthesis measure on the rigidity o f employment. These scores range between 0 and 100, with higher values indicating greater rigidity. Serbia i s combined with Montenegro in the analysis. The overall rigidity o f employment score, calculated after the 2005 Labor L a w has been enacted, was 28, a slight rise f rom the score o f 23 that had been based on the 2001 Law. However, Serbia and Montenegro’s score remained wel l below scores in other SEE countries that ranged from 42 (Bosnia and Herzegovina) to 64 (Slovenia). It i s interesting that Serbia and Montenegro i s assessed as completely flexible (i.e., a score o f 0) in terms o f the rigidity o f hours index yet actual f lexibil i ty in terms o f hours as observed in the labor market seems quite low. For example, as we saw in Chapter 2, part-time rates are very low.

140. Although labor market regulation is not overly rigid on paper, nonetheless about one-third of Serbia’s firms indicate that this is a problem in doing business. This may reflect how some employers experience the administration of the law. Compared to other constraints, labor market regulations do not figure as one o f the most severe obstacles to doing business in Serbia (recall Figure 4.4). Nonetheless, for a minority o f f i rms, it does seem to be an issue. As Figure 5.3 shows, the incidence i s comparable to the situation in the EU-8, and slightly above the averages reported by SEE countries as a whole. Whatever dissatisfaction exists may reflect the application o f the law more than the law itself. According to the Foreign Investors Council, employers are facing numerous problems regarding the implementation o f the Labor L a w by competent judic ia l and executive bodies. The Council cites various issues including courts applying legal concepts f rom previous laws; various ministries having uncoordinated opinions on the same issues; the courts having completely uncoordinated practices; and administrative officers not having the required knowledge o f basic regulations, et^.^^

Figure 5.3: Labor Regulations as a Problem in Doing Business in Serbia, SEE, EU8, and ECA Countries, BEEPS, 2002 and 2005’

Serbia

SEE

EU8

ECA

0 10 20 30 40

2005 LI

1. Percent o f firms indicating labor regulations as a problem Source: BEEPS

55 These are cited in a letter from the Counci l to the Minister o f Labor in 2005 (undated).

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Annex

Annex Table 5.1: Key Benchmarks on Labor Regulations (for regular employees) from National Labor Laws, Serbia and Comparator Countries in ECA

The maximum duration of a probationary period The maximum duration o f fixed-term contracts The maximum number o f hours in a regular workweek The maximum working time including overtime per week and annually The premium for work deemed in excess o f a normal workday or workweek in percentage of normal wage Days o f annual leave with pay The legally mandated notice period for a redundant worker The legally mandated severance payment as number of monthly wages for a dismissal o f one redundant

Serbia 2001

3 months

3 years

40 hours

4 hours a day and not more

than 240 hours in a calendar

Year

Established in the labor contract

Not less than 18 working days Determined in

the program for solving the redundancy

problem 2-5 monthly

wages depending on service length

worker 1. Fixed-term contract can be extende

. legislation.

Serbia 2005

6 months

1 year

40 hours

48 hours per week

At least 26 percent

Not less than 20 days 30 days

1/3 o f monthly wages for the first 10 years

o f employment,

and 1/4 o f wages for over 10

years o f service subsequently

in some circumz

Slovakia 2004

3 months

3 years'

40 hours

48 hours per week, 150 hours in a

calendar year

At least 25 percent

At least 4 weeks

2-3 months depending on service length

2-3 monthly wages

depending on service length

ices.

Czech Republic 2002

3 months

Not regulated in the Labor Law

40 hours

48 hours per week, 150 hours in a

calendar year

25 percent

At least 4 weeks

2-3 months depending on the cause for

contract termination 2 monthly

wages

Bulgaria 2002

6 months

3 years

40 hours

46 hours per week, 150 hours in a

calendar year

50-100 percent

20 work days

Not less than 30 days

1 monthly wages

FYR Macedonia

2005 6 months

4 years

40 hours

50 hours per week, 190 hours in a

calendar year

Bonus o f one monthly salary to the employee

who worked over 150 hours

overtime

20-26 working days

Not less than 1 month

1-6 monthly wages

depending on service length

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CHAPTER 6: SAF WORKERS)

14 1. As Serbia’s economy becomes increasingly market-based and oriented towards Europe and the global economy, its labor market will become more volatile. As a result, an effective safety net will be essential to support workers in adjusting to the inevitable market dislocations. Currently, the capacity is very limited and has focused heavily on providing income support to workers made redundant because of privatization. The completion of the restructuring task is an essential step for establishing the preconditions for private-sector led job creation in the future. Completion is also essential for freeing up resources to finance a social protection system that supports all workers. Young people, the poorly educated, and other vulnerable groups actually account for the bulk of the pool of unemployed workers and they are not really served by the current labor market safety net which is quite threadbare. The unemployment insurance system provides benefits to very few workers and has serious arrears problems. With most beneficiaries claiming for long periods of time and ofen exhausting benepts, U I does not play the role it should -- a temporary safety net for unemployed workers while they search for jobs. The National Employment Service lias very few resources and limited capacity to finance or provide active labor market programs to help jobless workers get into the labor market. Both active and passive policies will need to extend their coverage and the real level of support they offer workers. I t is likely that resources will gradually have to be increased to achieve this objective.

142. Beginning in 2001, the Republic of Serbia launched a restructuring reform and privatization program. According to data from the Privatization Agency, 1,348 companies were privatized from 2002 to March 2006. The Privatization Law, adopted in 2001 (and amended in 2003), stipulates three methods o f privatization: (i) tenders o f large enterprises, offering to a strategic investor at least 70% of the shares; (ii) auctions o f small and medium-sized enterprises; and (iii) restructuring and subsequent tenders and auctions o f a select group o f large, presently loss-making but potentially viable enterprises or parts thereof. Table 6.1 summarizes privatization trends since the new law was passed. 56

Table 6.1: Privatization o f SOEs, 2002-2006

1. January-March only. 2. Sale o f residual state share held by the Share Fund in majority private companies privatized in the 1990s. Source: Privatization Agency.

56 The privatization process in Serbia has had three waves. The first started within the reform program o f 1989; the second (mostly oriented to insiders) was started in 1997, and the third was started by the newly elected Government in 2001.

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143. The support of state- and socially-owned enterprises places a significant fiscal burden on the Government. This includes indirect subsidies, direct subsidies through the Development Fund, and severance payments through the Transition Fund. The 2005 budget law allocated 7% o f total expenditures (CSD 32 billion) t o subsidies for non-financial public corporations (Cvetkovic and Lieberman 2005). In addition to these direct subsidies, companies receive a variety o f indirect subsidies through unenforced arrears on utility charges, social contributions, taxes, and credits f rom state-owned banks. Total budgetary subsidies and indirect support to state and socially owned enterprises v ia accumulation o f payment arrears accounted for 1.8% o f GDP in 2004.

144. The enterprise restructuring program has already led to substantial numbers of layoffs and it will lead to further large-scale redundancies over the next few years. The Government has committed to largely completing the privatization program by mid-2007 although this target date may slip. There are s t i l l around 250,000 employees in state-owned and in socially-owned enterprises under restructuring. As noted in an earlier chapter, there i s the potential for 80,000 o f these workers to be made redundant over the 2005-08 period (Cvetkovic and Lieberman 2005).

145. The challenge of compensating or redeploying redundant workers is an integral part of the privatization process. Typically, social mitigation measures include compensation for job loss, such as severance payments, unemployment benefits, social assistance, early retirement, and retirement benefits and/or labor redeployment services such as retraining, j o b search assistance, counseling, and mobil ity assistance. These types o f measures are critical to help laid-off workers and their families manage the temporary and permanent reduction in income. They also increase the attractiveness o f SOEs for investors. Naturally, potential buyers wi l l be reluctant to b id for companies where they would face the prospect o f laying o f f large parts o f the workforce, or where the government has no plan in place to help them downsize.57

146. I n 2002, the Government instituted the Social Program to compensate and support workers displaced in the process of restructuring or privatization. The Program was renewed and slightly revised in 2005. The Social Program i s applied to socially-owned and public enterprises, as wel l as public institutions engaged in an ongoing process o f restructuring and/or preparation for pr ivat i~at ion. ’~ Under the Program, participating redundant workers can choose among three different severance options: (i) remuneration amounting to 10 average gross wages for employees with more than 10 years o f insurance record; (ii) remuneration equivalent to 100 Euros per year o f service in Dinar equivalent; and (iii) severance pay according to the Labor Law. Under the last option, they can register at the National Employment Service and claim unemployment insurance benefits.

147. While workers under the Social Program have been eligible for employment services provided by the National Employment Service or their former enterprise, very few have chosen to receive these services. With the 2005 changes, the Government is hoping to increase the role of these services. Under the Social Program, workers are eligible for NES-sponsored active labor market programs but, because o f l imited funding, there has been very litt le programming available. Only those choosing to receive standard (and not extended) severance have privileged access to these ALMPs but this has

There are basically three options for labor redeployment: (a) le t the new investor deal with them; (b) have the government assist prior to sale; or (c) combine both approaches. The Government o f Serbia’s preferred strategy has been to initiate major enterprise restructuring and downsizing prior to sale and then allow the buyer to make further adjustments in the number o f employees (in both directions, hiring new employees or dismissing s t i l l redundant ones) after the completion o f the privatization process. ’’ The rationale for the Government Social program i s that the majority o f the companies undergoing restructuring andor privatization have historically been in a position to pay employee salaries as a result o f Government subsidies. These subsidies are no longer forthcoming, and the companies simply do not have the finances to support the labor adjustment costs. So the state pays this compensation to selected companies through the Transition Fund.

57

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covered less than 5% o f a l l those in the Social Program. One potentially important innovation recently incorporated into the Social Program i s the concept o f redundant worker transition centers (or redundant worker action center^).^' These centers are currently being tested under the Wor ld Bank/DFID Employment Promotion Project in six enterprises undergoing restructuring and privatization, with four other centers to be launched shortly. They are intended to act as a resource center providing information on workers’ redeployment options and options related to the Government’s Social Program, and assist in implementation o f enterprise social plans (see B o x 6.1).60

Box 6.1: Redundant Worker Transition Centers

The redundant worker transition centers act as a worker communication and coordination center for labor redeployment pre-layoff and post-layoff services such as counseling, job placement, screening and referral o f workers for further assistance, as well as tracking and monitoring o f participating workers.

Services provided by transition centers are demand-based and may be otherwise missing. Between June 2005 and February 2006, there were almost 5,000 visits for information, counseling and job search assistance by current and former employees in five pilot enterprises. For example, in the “Magnohrom” company in Kraljevo, where around 400 workers are being made redundant, the specially equipped transition center staffed with an enterprise team o f six consultants has provided retraining courses to 67 workers on specialties in demand, such as bookkeeping, welding, florists, and computer training. Workshops and training sessions have been provided on topics such as job search skills, basic computer skills, basic English, managing stress, worker benefits and rights, managing a severance, how to start jour own business, and how to use the internet. In “Petrohemija” company in Pancevo, a Business Incubator i s being launched by the transition center for start-up o f three new businesses which wi l l employ 107 workers.

148. The overall financial costs of the Social Program have been significant. During 2002-2004, redundancy payments f rom the Transition Fund, established to cover the costs o f the Social Program, were 13.6 bi l l ion dinars (211 mi l l ion Euros), which equaled around 0.4% o f GDP annually. In 2005, 6.165 bi l l ion dinars were paid out and these are expected to increase further in 2006, partially due to arrears to restructuring companies estimated at around two bi l l ion dinars.6’ Between 2002 and 2005, the Social Program provided support to around 126,700 redundant workers in 231 enterprises. In total, 87 enterprises benefited f rom the Social Program during the last year, and 27,300 redundant workers benefited f rom it (MoLESP 2006).62

s9 This concept i s consistent with opinions o f workers reflected in tracer surveys. Many o f those who were surveyed pointed out that the loss o f a job could hardly be compensated by any amount o f financial benefit, which leads to conclusion that the future social programs should be based on trying to help workers find new employment within the shortest period o f time possible (CONZIT 2005). 6o Enterprise social plans are designed to allow for early intervention into the enterprise, establish on-site teams that would assist with the planning and implementing o f labor redeployment services, evaluate worker needs via use o f a worker survey, implement services (in most cases at the site o f dislocations), and then track various statistical factors intended to measure results.

These figures do not include costs incurred by MoLESP in assisting enterprises undergoing restructuring and preparation for privatization with specific active labor market measures. In 2005, the program for active redeployment measures was implemented for 723 employers with 367,400 employees o f which 48,100 (or 13%) were made redundant. In that year, 750 million dinars were spent on this program (MoLESP 2006). This figure excludes financing o f entrepreneurship programs for some workers from the Development Fund.

I t i s estimated that around one-third o f workers in enterprises included into the Government Social Program are made redundant and benefit from the program.

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Impact of the Social Program on redundant workers

149. Tracer surveys of redundant workers provide information on who Itas been affected, on what has happened to these workers, and on enterprise restructuring and the Social Program more generally. Under the Wor ld Bank/DfI D-sponsored Employment Promotion Project, three waves o f tracer surveys were carried out in 2004-2006. These were conducted in Pancevo, Kraljevo, Nis and Lazarevac (see B o x 6.2).

Box 6.2: World Bank-DflD Tracer Surveys of Redundant Workers

As part of the World Bank/DflD Employment Promotion Project, tracer surveys o f around 1,000 redundant workers were conducted by CONZIT between October 2004 and November 2005. This was carried out in three waves among the people who were displaced due to restructuring and privatization o f nine big companies within four pilot municipalities. The companies were “Industrija stakla“ and “HIP Azotara“ from Pancevo; “E1 korporacija“, “MIN Holding” and “Vulkan” fiom N i s , “Magnohrom” and “Fabrika vagona” from Kraljevo; and “Kolubara - Ugostiteljstvo“ and “Kolubara - Gradjevinar” from Lazarevac. All o f these companies were beneficiaries o f the Social Program. The third wave was not conducted in Lazarevac given that none o f the companies had started the process o f restructuring by October 2005. The largest number o f those who were included in this survey had lost their jobs during 2003 (45%), and during 2002 (39%). The objectives o f the survey were to: (a) identify the ways in which the benefits obtained through Social Program were being used; (b) conduct analysis o f the workers’ attitudes towards the Social Program; (c) conduct analysis o f their economic status as consequence o f displacement; (d) identify typical models o f behavior in the labor market; and (e) provide an overview o f the effect o f the active employment policy measures.

150. The displaced workers tended to be older, have long tenures, and were in specialized blue- collar occupations. This is a difJicult profile for reemployment. In three out o f the four localities, the sample was dominated by older workers with long tenure; for example, in Pancevo, over 25% o f displaced workers had job tenure o f over 30 years, and only 6% had less than 10 years. By their j o b profile, most displaced workers were blue-collar workers wi th narrowly specialized ski l ls. This makes their redeployment a challenging task. The largest share were craftsmen, plant and machine operators and assemblers, elementary occupations workers, and office clerks.

15 1. Many of the sampled workers appear to have been on partially employed or on administrative leave prior to being laid off Most redundant workers reported very l o w salaries prior to dismissal; 81% earned less than Euro 100 per month (in 2003, average net salaries in the country were around Euro 170, and in 2002, around Euro 150). This indicates that many o f them probably were not fully employed prior to dismissal or were on administrative leave.

152. Consistent with the general trend, almost all workers opted for lump-sum compensation. Based o n the results o f the third wave, more than 98% chose one o f the lump-sum extended severance options. This i s not surprising since these options become more attractive with tenure. The average redundancy payment equaled around 130,000 dinars (about Euro 1600), or nine average monthly salaries. This i s a far more generous compensation than the registered unemployed with insurance records can claim. Over one- third (37%) received between 140,000 and 210,000 dinars (between 12 and 18 average wages). There were no requests for training or self-employment assistance, and just a very small number (1.6%) o f predominantly older workers who needed a short period o f time to qualify for retirement opted for monthly payments o f unemployment benefits from the NES.

153. Most of the redundant employees used severance to cover consumption needs, including paying off debts. The survey found that 84% o f the funds received were spent on consumption expenditures (of

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which 13% for purchases o f durable goods), followed by investments (1 l%), and savings (5%). Given that many workers had very low wages prior to redundancy, this pattern i s understandable. Very little of the money that was spent on investment was used for education and training (1 0%); among the younger workers, this share o f investment rose to 20%. Better-educated workers invested more on education.

u p to 35 years Looking for a job

154. The vast majority registered at the National Employment Service, with job search being the major reason for registering, especially among younger workers. According to the third wave o f survey, 97% o f the respondents registered at the NES following their layoff, This has been an increase compared to the previous stages o f the survey (87% and 90% in the first two waves, respectively). According to the surveyed workers, the primary reason to register at the NES was to find employment (71% from the third wave). Younger workers were especially likely to indicate they were seeking work (Table 6.2). The other important reason to register was to get health insurance for themselves and members of their families (32%).

35-45 45-55 Over 55 Years years years

Table 6.2: Job Search Activity Among Redundant Workers (YO distribution) by Age, Tracer Survey Results

Constantly Periodically I’m not searching for a new job

73.1 64.5 50.3 33.3 22.2 17.8 26.2 33.3 4.6 17.8 23.5 33.3

I Total 100 100 100 100

155. Less than 5% of the workers participated in any active labor market program. In part because o f the low capacity o f the NES and a shortage o f funds, a vast majority have seen cash payments as the only viable option for assistance. Undoubtedly this also reflects the characteristics of the workers and their perceptions about job opportunities that might exist. Among ALMPS, job fairs, self-employment, and subsidies, followed by additional education and training have been evaluated by the surveyed workers as the most acceptable measures, according to the results o f the third wave.63

156. Most redundant workers find it very dqficult to get reemployed, with the large majority remaining unemployed at tlie time of being surveyed. Only 5% of the workers surveyed during the third wave had remained out o f the labor force but almost two-thirds (64%) reported they were unemployed. The remaining 3 1% had found new work; almost 60% o f these were now working in the private sector. About two-thirds o f those who had found employment by November 2005 had done so within one year of losing their old job. The NES role in finding a job i s negligent: only 1.3% found their job through the employment agency. Of the employed, 18% had launched their own business or became self-employed. Most people who had found jobs were now working in the service sector.

157. Workers see a lack of vacancies as the main obstacle to reemployment. In the third tracer survey, 57% o f the respondents indicated that the lack o f vacant positions was the key problem; this was significantly higher than the figures in the first two waves (29% and 44% in the second and first waves, respectively). Despite what i s certainly a difficult labor market, job seekers are not eager to accept any job offers. Job rejections are related to low wages or unfavorable working conditions, or employer qualifications set too high for job seekers to meet. In particular, wage expectations o f many o f the

63 These results are quite different from the results o f the second wave, where the priority was given to self- employment, followed by the subsidies for the employers.

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unemployed are quite high. The second most frequently cited barrier was the age o f redundant workers; 44% o f respondents said that no one employs workers o f their age.

158. Employment status is strongly correlated with age, gender, and education. The probability o f redundant workers finding a new j o b decreases significantly with age (Table 6.3). This i s especially true o f private-sector employment. The better-educated and men reported higher employment rates both overall and in the private sector. Those starting their own business tended to be better-educated men aged 35-45. On the other hand, temporary jobs were most l ikely to be held by the young and less-educated. Unemployment rises with age; it i s also associated with poorer educational attainment and women are also overrepresented among the unemployed.

Table 6.3: Employment Status in April-May 2005 of Workers Displaced in 2002-2003, According to Socio-demographic Characteristics (% distribution), Tracer Survey Results

Source: CONZIT 2005.

159. The survey results indicate that the majority of redundant workers believe their living standard had deteriorated since they had lost their jobs. This observation was made despite the fact that many workers had had l o w incomes before being made redundant because o f arrears or irregular payment in their previous job. Mos t households o f redundant workers included in the surveys were very poor: almost 50% said that they have less than 3,500 dinars (around US$50) o f monthly income per family member. Survey results indicate that socio-economic status worsened significantly for older redundant workers, as wel l as for workers with lower levels o f education.64

160. Serbia’s unemployment insurance system is defined by the 2003 Law on Employment and Unemployment Insurance. This law substantially reformed, and tightened up, the original UI system established in 1992. The main parameters o f the system include the following:

0 Unemployed workers with a minimum o f 12 continuous months o f unemployment insurance contributions preceding dismissal, or 18 months with interruptions, are eligible for unemployment benefits;

However, where redundancies are voluntary, those who choose to leave may be the most employable and, thus, wind up in a better economic situation than those who stay. A survey o f workers employed by RTB Bor, a socially- owned copper mining enterprise with 2.500 voluntary layoffs in 2002, found that households o f former employees were not worse o f f than households o f current employees. Many o f the employees who left have found employment (often in the informal sector) while those who remained struggle with low wages and arrears.

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The benefit duration depends on length o f contributions. Contributions o f 1-5 years allow for 3 months o f benefits; 5-1 5 years for 6 months o f benefits; 15-20 years for 9 months and greater than 20 years for 12 months. Employees can get 24 months o f benefits with a combination o f many years o f contribution and being over a certain age.65 Although duration o f benefits has been reduced, the maximum duration i s s t i l l high when compared to other regional and E C A countries, with a typical maximum duration o f 12 months. The unemployment benefit i s set at o f 60% o f the individual’s average wage in the 6 months preceding unemployment for an init ial period o f 3 months, and then it i s reduced to 50% for the remaining period. This benefit level i s increased by 10% if the individual i s enrolled in further education and/or retraining. The maximum amount o f benefit i s the average monthly wage, while the minimum benefit cannot be lower than the minimum wage. In addition, beneficiaries are eligible for pensions and health insurance, paid on the actual benefit levels. The payments to the Health Insurance Fund and to the Pension Insurance Fund are made by the NES.

161. Actually, very few unemployed workers receive benefits. According to the 2005 LFS, only 5.5% o f the unemployed reported getting UI benefits. There are various reasons for the l o w coverage. One i s exhaustion o f benefits because o f the high incidence o f long-term unemployment. Another i s that many unemployed workers, including the large numbers o f unemployed young people, do not meet the eligibility criteria in terms o f the minimum insurance period. To illustrate the latter point, only 0.2% o f unemployed workers less than 25 years o f age reported receiving UI benefits in the 2005 LFS, compared to 22.7% o f unemployed workers 55 years and older.

162. UI coverage is even very low among unemployed workers who have registered with the NES. Among the registered unemployed, coverage was s t i l l just 8.5% according to the 2005 LFS. Many workers register at the NES not t o receive UI benefits but to be eligible for other benefits, primarily health insurance.

163. The real coverage provided by unemployment insurance is reduced even further because of arrears in the payment of benefits. In reality, claimants receive their first payment only six months after being declared eligible. According to the NES Department for Unemployment Insurance, this arrears situation began in 2000-2001 with a decrease in contribution rates and the start o f large numbers o f layoffs in state- and socially-owned companies. The NES simply was not receiving enough revenues from contributions to meet i t s liabilities to UI beneficiaries and transfers f rom the government budget were too l ow to compensate. In December 2005, according to NES data, unemployment benefit arrears were over 7 bi l l ion dinars. The 6-month delay in receiving benefits can easily discourage the unemployed from making an application to NES. This i s especially discouraging for those who do not have a long insurance history and thus would not qualify for longer benefit durations. Beneficiaries, after getting their f i rst (delayed) benefit, do continue receiving full benefit amounts for the number o f months for which they are eligible. However, there are other negative consequences o f this arrears situation. First, the real value of benefits received by beneficiaries i s lower because o f inflation. Second, the situation creates incentives for informal employment. UI claimants, needing income, may have to work during the 6-month arrears period but this employment wil l need to be i n the informal sector if future benefits are not going to be put in jeopardy.

164. The UI system really does not act as a transitional safety net for workers temporarily out of work and searching for new jobs. I n fact, most beneficiaries have very long benefit durations. According to NES administrative data, only 20% o f all beneficiaries receive unemployment benefits for 9

65 For example, individuals 5 1 or over are eligible if they have contributed for 38 years (men) or 33 years women. Similarly, 24-months duration i s possible for workers over 55 with more than 25 years o f contributions or 20 years o f contributions if over 60 for men or over 55 for women.

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Q 3 months D 6 months 13 9 months D 12 months

1 S months D 24 months

Up to pension

SO

indicate that a significant percentage o f beneficiaries must receive benefits that are at the minimum wage or only slightly higher.

Total expenditures (1+2+3+4) 1. Expenditures for NES employees (wages and allowances) 2. Expenditures on goods and services (NES

167. The unemployment benefit program absorbs 72% of the NES budget. This includes both net unemployment benefits as we l l as transfers to the pension and health insurance funds. The share o f the NES budget going to total UI expenditures has declined somewhat over the last couple o f years following the enactment o f the more restrictive Employment L a w in July 2003 (Table 6.5). In addition to UI benefits, NES administers several other passive employment measures including benefits for employees from Kosovo; these are small programs but, taken together, absorb about 9% o f the NES budget. In 2005, the share o f spending on active employment measures was also about 9%.

9,708.80 0.9 14,421.18 1.1 17,584.24 1.09

0.0 633.80 0.0 919.90 0.06

Table 6.5: NES Expenditures (CSD millions), 2003-2005

Expenditures Yo of GDP yo Of 2005 GDP yo Of 2004 2003 GDP

Source: NES

168. NES revenues from UI contributions fall short of what is needed to finance unemployment insurance. However, the situation seems to be improving. In 2005, contribution revenues were only able to cover 67% o f the expenditures for gross UI benefits (i.e,, including pension and health fund contributions). When these revenues are not able to meet the benefits related expenses, transfers from the Republican budget are needed to cover shortfalls. Sti l l , the financial situation to fund unemployment insurance seems to be improving. Between 2003 and 2005, contributions collected have been able to cover a growing share o f UI system liabilities (Figure 6.2). Collection has been steadily improving; the annual real increase in the revenues from UI contributions was 20% in 2004 and almost 10% in 2005.

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L

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than spending in many CEE countries.69 Also, it should be remembered that substantial public funds go into the severance payments under the Social Program. As Table 6.6 indicates, less than 10% o f labor market expenditures by N E S are for active measures; this i s much lower than the share in many other CEE countries. Furthermore, spending on ALMPs has been very volatile, dropping from 880 mi l l ion to 410 mi l l ion dinars between 2003 and 2004 and then rising up to 1.545 b i l l ion in 2005. This volatility i s due to the fact that priority i s given to UI-related liabilities with ALMPs essentially getting what remains. If, as shown in the preceding section, UI contributions are indeed becoming more reliable, then the financing prospects for A L M P s may improve accordingly.

172. While the available budget is limited, the clientele - the registered unemployed -- is very large. This reflects the fact that many people, who may not be actively seeking work, register with the NES in order to get health and other forms of social insurance. According to NES records, registered job- seekers numbered 990,700 o f which 895,700 had the status o f ~ n e m p l o y e d . ~ ~ This number far exceeds the estimates o f unemployment based on the Labor Force Survey (see Chapter 2). As discussed at various points in this report, there are strong incentives to register since, according to the Employment Law, unemployment beneficiaries are entitled to health, pension, and disability insurance during the period o f benefit ~ay rnen t .~ ' As a result, many people registered with NES as job-seekers are actually employed in the informal sector or not in the labor force. The Ministries o f Health and Labor are working on options to remove these incentives but a solution i s not in place yet.

113. This large caseload places a major burden on already overstretched employment service. Overall, the NES i s facing a number o f severe problems: it lacks funds; it i s understaffed; and it i s heavily constrained by a fragmented network o f employment offices and trying to modernize an old-fashioned system o f employment services.72 Staff caseload - the ratio o f clients to employment counseling staff - i s a critical constraint. In December 2005, the NES had a staff o f 1,836 employees o f which 541 employees were front-line employment counselorsiadvisors (MoLESP 2006). On average one counselor has to deal with more than 1,600 registered unemployed (in some local offices the caseload i s more than 2,000 unemployed individuals per one counselor) making it one o f the heaviest work loads o f a public employment service anywhere in the region (Figure 6.3). A significant share o f working time o f front-line staff i s spent on non-core functions, such as record-keeping. The current human resource situation i s totally inadequate for dealing with the potential increase in unemployed people and even more inadequate in the context o f delivering ALMPs, specifically effective and personalized mediation services. An additional problem i s the lack o f modern IT technology, which slows down the work and leads to lower efficiency.

69 For example, in 2004 the Czech Republic spent 0.51%, Poland 0.98% (excluding expenditures on PES and administration), and Slovakia 0.76% (OECD 2005). 70 About 92,100 individuals were temporarily incapable or unavailable (maternity leave; health reasons, change of the place of residence, compulsory military service, etc.), and 2,900 persons were looking for job-to-job transfer.

Moreover, according to the Law on Health Care, certain socially vulnerable groups, including the registered unemployed, are also entitled to health care subsidized from the state budget. According to the Law on Health Insurance, the unemployed persons and other groups o f population are entitled to subsidized health care only if their monthly incomes fall below certain threshold, but the implementation o f relevant entitlements takes effect only in January 2007. 72 NES activities have been analyzed in numerous reports prepared by international and national experts. This section summarizes some o f the main findings.

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F i g u r e 6.3: Publ ic Employment Service Staff, Selected Countries, Latest Y e a r

Job seekers

First time job seekers Unemployed more than 2 years

Of which females

B&H

Serbia

Albania

Croatia

Bulgaria

Latvia

Slovenia

Germany

Slovakia

Lithuania

Estonia

Denmark

Austria

Netherlands

unemployed per PES total staff

0 200 400 600 aoo 1000 1200 1400 1600 iaoo

Source: ILO online database.

2000 2001 2002 2003 2004 2005 72 1799 768595 842652 947296 945027 99 1807 410531 43 16 18 465899 515178 5 15247 539579 448969 475088 502729 535541 ... 467430

433347 445439 477792 5 18299 ... 457326

114. NES registered job-seekers include large numbers of first-time job-seekers as well as people who have been unemployed for a long time. In 2005, almost half o f job-seekers (47%) were searching for the first time (Table 6.6). A similar share had been unemployed for more than two years. Although many on the NES rolls are first-time job-seekers, young people (19-25 years) account for only 18% o f the total number o f registrations. Almost two-thirds (65%) are over 30 and 40% are over 40. Most registered job-seekers (54%) were females. A vast majority o f unemployed have low levels o f qualification.

175. Under the new Employment Law, employers are not obliged to publicly announce job vacancies but they are required to register them at the NES. The number o f vacancies registered with NES i s quite significant -- during 2005, 602,600 (which was 19% more than in 2004). In this same year, 537,100 persons from the roster found employment - 55% without NES assistance. Quite a significant number o f vacancies, 65,400 from the beginning o f 2005, remain unfilled. One o f the reasons i s that most vacancies (around 70%) were for skilled workers while, as noted above, many o f the registered unemployed are not well qualified. The majority o f job openings (by estimates, around 60%) are not advertised -- most employers do not need to advertise because it i s not difficult to find applicants.

176. The number of registered unemployed participating in ALMPs is relatively small. Between 2002 and 2004, on average 37,000 unemployed workers participated every year in ALMPs; this represented about 4% o f all the unemployed). However, in 2005 with more resources available, the

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number increased to 101,500, which represents about 11% o f the registered unemployed (MoLESP 2 00 6) .73

177. The main programs provided by NES are mediation and information services. Table 6.7 summarizes participation by type o f program in 2005. In terms o f numbers, the major activities were what are known as “employment services” which are intended to improve the information available to job- seekers and employers and to mediate between the two. Group information sessions had the largest participation. Job and vacancy fairs have also been gaining popularity. In recent years, placement rates o f participants in these fairs have improved; in 2004, around one-quarter o f job-seekers found a new j o b through direct contacts established during the fairs. In addition, the N E S i s currently implementing improved employer contact services by gaining better knowledge o f local employers, and developing methods for j o b offer solicitation and employer information on current j o b openings. Finally, in 2005, NES adopted the “Rulebook for Act ive Job Search” aimed to create incentives for active j o b search, and create disincentives to register with NES for those j o b seekers who are not genuinely ~ n e m p l o y e d . ’ ~

Table 6.7: Types o f Active Labor Market Programs Provided by NES, 2005l

1. The sum o f participants exceeds the total number o f 101,500 quoted in the text because some participants took multiple services. Source: MoLESP 2006.

178. Other types of ALMPs, including training programs and various forms of self-employment assistance, are offered but only on a small scale. As Table 6.8 indicates, just over 11,000 people participated in an NES-sponsored training course, Various business start-up and self-employment assistance activities are also offered, but al l on a small scale. There are some l imited interventions designed to help unemployed youth which i s a large group. These include internship (apprenticeship) programs and self-employment programs to assist business start-ups.

179. There is no empirical evidence on the impacts of the ALMPs in Serbia. Without monitoring and evaluation evidence on the active labor market programs, their impact on the employment and earnings o f beneficiaries i s not known. Without this program information, policy-makers cannot know how limited funds should be allocated to maximize their impact and how programs might be improved to increase their effectiveness. A comprehensive assessment o f the results o f the programs implemented by the National Employment Service in Serbia has not been conducted.

73 In EU countries, 30% o f a l l the unemployed, on average, take part in ALMPs annually. . The Rulebook institutes an individual plan o f employment for all newly registered job seekers as complementary

to individual and group counseling programs. The plan implies the assessment o f person’s employability and sets up particular steps for job seekers in their efforts to look for vacancies. This allows the NES staff to monitor, and if necessary, revise the plan. These job seekers who are not actively seeking for jobs according to their individual plan might be excluded from the NES roster o f unemployed.

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180. International experience demonstrates that positive effects of ALMPs are by no means guaranteed. Many ALMPs do not have the desired impacts on employment and earnings o f participants. A Wor ld Bank review o f 159 scientific evaluations o f different active labor market programs found a wide range o f results, with some programs demonstrating positive labor market effects and others showing either no impact or even negative effects (Betcherman, Olivas, and Dar 2004). The results for each type o f ALMP are summarized in Table 6.8.

Table 6.8: Impacts of ALMPs, Based o n In ternat ional Experience

Intervention Summary o f overall impact Comments

Employment services

Training for unemployed

Retraining for workers in mass layoffs

Training for youth

Wage/employment subsidies

Public works

Microenterprise/self- employment assistance

Generally positive impacts on employment and earnings. Costs relatively low, so cost-benefit ratio usually positive. Positive impacts on employment but no overall effect on earnings in developed countries.

Often no positive impact on employment and earnings, but there are exceptions. Very negative impacts on employment and earnings in developed countries, though some positive impacts in developing countries (Latin America). Overall negative impacts on employment and earnings.

Overall negative impacts on future employment and earnings.

Not enough labor market-oriented evaluations to determine overall employment and earnings impacts.

Programs have most positive impacts when economy i s good. Impact limited where lack o f labor demand.

Program effectiveness benefits from on-the-job training and employer involvement. Women often seem to benefit more than men. Programs have most success when economy i s good. Better results may be achieved with integrated training and employment services. Youth employment problems more effectively addressed through earlier, education-related interventions. Successfd programs require intensive services and thus are costly. Recent evaluations in developed countries more favorable (welfare-to- work programs). Programs may be more effective when combined with training. Can be effective as a short-term safety net for the poor but generally not as program to improve fbture LM prospects. Very low take-up. Some evidence o f positive impacts for older, better- educated individuals. Better results when advisory services accompany financial aid.

Source: Betcherman, Olivas, and Dar (2004).

18 1. A range of reforms will be necessary to improve ALMPs so that the services available improve future employment and earnings prospects in a cost-effective manner. The foundation i s a strong public employment service and private agencies. The cornerstone i s high-quality and cost-effective employment services. This wil l require investments in the NES and dynamic suppliers f rom the private sector. A key element i s improving the existing information system, including information on vacancies, programs, and available funding. The NES i s currently working on upgrading o f the UIS (unified information ~ystem). ’~

75 The new information system has been used since 2001 in the Belgrade branch office, and branch offices in Nis and Prokuplje since 2005. Other branch offices are scheduled to be integrated into the NES UIS. The new

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Upgrading o f staff skills, competence, and motivation i s another area o f reforms. Given the rapid turnover o f staff, the issue o f ongoing training i s especially critical. Efficiency and quality o f service could also be improved by getting more NES staff on the front line dealing with clients.

182. Cleaning the NES registry will reduce the demands on the agency as well as reducing incentives for informal employment. As we have seen, a substantial proportion o f the NES registered unemployment rolls i s there to gain access to social insurance as opposed to finding work. Reforms are needed to address this. Registration as unemployed needs to be based on the criteria established by the Employment L a w (Le., availability for work and proof o f j o b seeking). According to the Law, the unemployed are obliged to submit evidence o f active j ob search, accept j o b offers, and participate in ALMPs if offered. However, given the fact that the unemployed person i s obliged to report personally t o the NES only once in three months (and on every request o f the NES), in practice, given the scarcity o f employment programs and suitable jobs, it means that most job-seekers on the roster are left on their own. In addition, a significant portion o f the more than 90,000 registered individuals temporarily incapable o f or unavailable for work could be asked to re-register after they meet the requirements in the Employment Law.

183. Allocation of resources for ALMPs needs to be directed towards measures with low unit costs that reach a large number of unemployed. The international literature has shown that employment services represent the intervention with the most cost-effective positive impact on employment. Job- seekers often lack information about how to look for a job, as wel l as about what opportunities are available. Counseling can be crucial in helping individual workers obtain information about education, training, and alternative j o b opportunities, in making other employment services more demand-oriented, and in better targeting expenditures for other employment services. These services can be especially useful for young people, a group that constitutes a large share o f the unemployment pool.

184. The more expensive job creation programs, such as wage subsidies or self-employment grants, should be very carefully designed, or left to specializedfinancial institutions. These programs must be l imited and carefully targeted to vulnerable groups because o f high unit costs and considerable evidence that they have no impact, and often negative impact, on post-program employment and wages.

185. Training has an important role but it must be directed to the real needs of employers. A number o f studies point to the observation that on-the-job training and employer involvement and sponsorship seem to be associated with more positive outcomes than classroom training and programs that do not have connections to the private sector. Some studies also highlight the value o f linking training with formal qualifications.

186. ALMPs may be ultimate responsibility of government but the private sector can be effective in delivering employment services and other ALMPs. The 2003 Employment L a w allows licensed private employment agencies to provide ALMPs, including employment services and training. The NES has already gained an experience in dealing with these service providers. So far 25 private agencies have been established.

information system would allow NES to monitor main labor market indicators and relevant changes in the labor market, thereby to make corrections to the menu o f services provided and introduce a new IT system containing a client database which wil l provide the potential for client profiling. This wi l l enable the NES to forecast what the likely employment chances are for specific people facing redundancy (profiling) in order to better target ALMPs. Also included i s the development o f a self-service system, including internet services (and intranet for NES staff), and self-service terminals and call centers, enabling job seekers to access databases on vacancies. It wi l l also include the development o f a performance information management system to assess cost-effectiveness and efficiency of provided programs and services.

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187. Another priority is to meet the different situations existing in the various regions of the country. This implies some need for decentralization o f financial resources and decision- making at the level of local employment offices. Moreover, this w i l l also imply that local budgets w i l l have to contribute and local authorities and other stakeholders, via Local Employment Councils, w i l l have to be more involved in the work o f NES.76

188. Ultimately, the ALMP strategy and resource allocation must be based on evaluation evidence of “what works”. Policy-makers w i l l also need to be realistic about the objectives o f these programs. While resource limitations may preclude rigorously evaluating every program, it i s critical to implement an information system with reliable performance indicators and good cost information. Solid information i s essential for directing resources to programs that work. A sound ALMP strategy that i s well implemented can help unemployed or otherwise vulnerable workers get jobs or improve their situation in the labor market. However, these programs cannot solve problems o f high unemployment by themselves. *

76 By November 2005, Local Employment Councils were established in 54 municipalities.

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