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Employee protections can lead companies to innovate — and shed jobs

Employee protections can lead companies to innovate — and shed jobs
Posted 2022-08-04

Employee protection laws are intended to help workers keep their jobs, but a new study from UBC Sauder shows they can spur corporate innovation — and actually reduce jobs in the long run.

Until the early 1970s, most U.S. businesses were governed by “employment at will,” a common law that allowed them to terminate an employee without any reason, explanation or warning. Then from 1973 until 1995, state courts gradually introduced “good faith” exceptions to at-will employment, which stopped employers from firing workers without just cause and put them at risk of pricey litigation.

But according to the new research, when states adopted those laws, businesses were far more likely to increase their process innovation — replacing human labour with more advanced automation, for example — in order to reduce their costs and financial risk.

For the study, titled Shielding Firm Value: Employment Protection and Process Innovation, researchers compiled all of the utility patents awarded by the United States Patent and Trademark Office from January 1976 to December 2012, and used textual analysis to determine whether the patent was process-related or non-process. They then compared that data against the states’ adoption of good faith laws, and controlled for timing, individual states’ business environments and their political leanings.

The results showed that, following the adoption of the good-faith exception, firms increased their process innovation by between 6.1 per cent and 13.4 per cent more than those in states without the exception.

The researchers also found the adoption of the good-faith exception in neighbouring states had no effect on a firm’s innovation, which further supports the theory that the difference in law is driving the results.

“If you cannot dismiss employees, or it’s costly to dismiss employees, it will make the labour input costlier in terms of the firm’s production,” says UBC Sauder Associate Professor Dr. Jan Bena (he/him), who coauthored the study with UBC Sauder Associate Professor Dr. Hernán Ortiz-Molina and University of North Carolina Associate Professor Dr. Elena Simintzi.

Firms need capital and labour, he adds, and business leaders will determine how best to mix those two elements in order to produce products in the most profitable way. “Then owners and managers of these firms think twice before hiring the next person, because they will be harder to dismiss."

The change doesn’t happen overnight, emphasizes Dr. Bena; rather, it tends to be a longer-term shift in terms of how funds are allocated. For example, if a company has a factory that’s a mix of workers and machines, over time they may invest in more machines to reduce their labour costs.

“Over the course of five or 10 years, you can design a factory that produces the same thing, but employs half of the labour force and puts more capital into technology,” he says. “And after these laws were introduced, firms invested in developing new technologies that are aimed at saving on labour.”

Dr. Bena adds the effect was especially strong in industries that rely heavily on labour. Meanwhile the tighter regulations had no measurable effect on the rate of innovation in non-process areas of the businesses, which reinforced the study’s findings.

He says the results are especially important as companies face increasing pressure to shift production from overseas back to North America, because people often oversimplify what that actually may look like.

“If I produce a product in Vietnam, I will use more labour. But if I move the same production back to the U.S., I will change the production in a way that is more capital-intensive and less labour-intensive, because labour is more expensive,” explains Dr. Bena. “So, if you move production back, then you might destroy 1,000 jobs in Vietnam, and you only create 100 jobs in the U.S.”

Dr. Bena emphasizes the study isn’t intended to discourage the introduction of labour protections; rather, it shows they can have unintended consequences that policymakers should carefully consider when enacting legislation.

“Because of technological changes, firms are able to automate their production processes, so they’ll invest in a way that relies more on technology and capital than on workers,” he says. “So, if you try to protect workers, you might be speeding up that shift.” 

Interview languages: English, Czech