Regulating the labour market is essential to address the inherent imbalance of power between employers and employees. But that doesn?t necessarily mean that the state needs to intervene more than it already does. Alan Manning argues for smarter regulation that leads to better work for all.

A long tradition in economics says that if an employer and a worker agree a contract on any terms, both parties must be made better off or they wouldn't have agreed to the contract in the first place. If that were true, there would then be no case for regulating the employment contract. But most countries do regulate the employment contract in many ways. There are minimum wages, guaranteed paid holidays, maternity and paternity leave, unfair dismissal laws, health and safety laws, regulations on overtime premia (though not in the UK) and on working hours.

We have these restrictions because competition between employers for workers is not strong enough to ensure a fair and efficient division of income between workers and employers. In labour markets (and some other markets) we often have a situation akin to one where a professional is interacting with an amateur; an employer typically has experience of dealing with many more workers than a worker has experience of employers.

Part of being a professional is to be skilled at getting the other party to agree to terms favourable to you but not them. That is why the state needs to step in to influence what is allowable and what is not.

How regulation can help with power imbalances in the job market

Employers have what is sometimes called "monopsony" power because it is hard for workers to change jobs. Monopsony means that employers have some market power over their workers, which allows them to pay wages lower than they would in a competitive market. An employer that offers worse pay and conditions than its competitors may find it harder to recruit and retain workers, but it is still able to hire some. Monopsony implies that there is a natural imbalance in power between employers and workers that regulation should seek to address.

But there is still some way to go from this general case for regulation to the specifics of what should be regulated and how. Here I discuss three principles: that we should be seeking an appropriate balance of power; that we need to worry about the boundaries of regulation; and that regulation can be a blunt instrument.

Problems with regulation: the case of zero-hour contracts

Finding the right balance of power is important because it is possible to go too far and end up with a situation where it is workers who becoming more cautious about whom they hire, with jobs becoming scarcer as a result. We have raised the minimum wage without, as yet, finding clear evidence of resulting job losses, but there has to be some limit to how high it could go. A similar argument applies to rights against unfair dismissal: grant these from day one and there is a risk of employers being cautious about hiring, but the current two-year threshold for acquiring such a right is much too long.

There is legitimate concern that zerohours contracts are used to shift risk from employers onto lower-paid workers

We have to police the borders of regulation. Some employers will seek to avoid the spirit of regulation while sticking to the letter of the law. For example, there is no minimum wage for the self-employed and some employers, such as Uber, will reclassify workers as independent contractors if they are allowed to do so (in Uber's case, the supreme court ruled that they could not). Regulation also has the problem that it can be a blunt instrument as it is almost always in the form of "one-size-fits-all". Take the example of zero-hours contracts. There is legitimate concern that such arrangements are used to shift risk from employers onto lower-paid workers who when taking a job may know their hourly rate but not how much they are likely to earn. And workers on zerohours contracts rarely have financial reserves to absorb fluctuations in income. Yet surveys of workers on zero-hours contracts find that some value the flexibility (Chartered Institute of Personnel and Development, 2022).

While some have argued for a blanket banon zero-hour contracts, perhaps a smarter approach would be for employment contracts to clarify what are the minimum guaranteed have too much of the upper hand. The likely consequence of that would be employers earnings to make any disadvantage clear. And the flexibility of zero-hour contracts needs to be genuinely two-sided: workers should have the right to turn down hours that are inconvenient for them.

Correcting the overreach of regulation

One way to deal with the blunt instrument problem with regulation is to replace a top-down approach with a bottom-up one, empowering workers either through a more supportive environment for trade unions or giving workers a louder voice on boards to negotiate what is best in the local circumstances. Such agreements between unions and employers could even over-ride regulations in selected cases. Empowering workers can overcome some other weaknesses of regulation. For example, minimum wages only raise earnings at the bottom end of the labour market, but the problem of employer market power is pervasive across the earnings spectrum.

We also need steps to prevent noncompetitive practices among employers such as no-poach agreements or "noncompetes". There has been what has been called a "historic imbalance" in the application of competition laws to product and labour markets. Restrictions that would be thought of as shocking in product markets are regarded as normal in labour markets.

For example, utility regulators in the UK have actively made it easier for consumers to switch suppliers of gas and electricity in the belief that this promotes competition. Yet your employment contract probably contains a lengthy notice period that makes it harder for you to change employers. These notice periods are so normal that we do not reflect on whether they are anti-competitive.

There is change, for example, in 2023 the UK Competition and Markets Authority published guidance on this. But action in this area is more active in the United States where the Federal Trade Commission is seeking to implement a wide-ranging ban on noncompetes. Debates about labour market regulation are often reduced to whether we should have more or less. That is not helpful. It is better to see regulation as smart versus stupid rather than more versus less. We need a balanced approach to labour market regulation that protects workers from a power imbalance with employers, but also encourages employers to be flexible and open to hiring.

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18 October 2024     Paper Number CEPCP691

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This CentrePiece article is published under the centre's Community Wellbeing programme, Labour programme.