Labor Costs and Corporate Investment in Italy
IMF Working Papers, February 21, 2020
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Bibliographic details
- Authors: Daniel Garcia-Macia
- Published: February 21, 2020
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781513529721.001
Summary
- The recovery of private investment in Italy has lagged its euro area peers over the past decade.
- The paper examines the role of elevated labor costs in hindering the recovery.
- Labor costs rose faster than labor productivity prior to the global financial crisis and have remained high since, weighing on firms’ profits, capital returns, and thus capacity to invest.
Empirical evidence and identification
- Sectoral analysis:
- Sectoral wage growth appears unrelated to sectoral productivity growth.
- Sectoral wage growth is negatively associated with investment.
- Firm-level analysis:
- Identification exploits the interaction between sectoral wage growth (treated as exogenous to the firm) and the lagged labor share of the firm.
- Firm-level data permit better identification of the causal impact of wages on investment.
Quantitative results and key statistics
- A 1 percent increase in real wages is estimated to cause a 1/3 percent fall in fixed capital.
- Profits absorb only ½ of the cost increase, indicating incomplete burden-sharing by profits and the presence of liquidity constraints.
Mechanisms and interpretation
- Elevated labor costs relative to productivity reduce firms’ profits and capital returns.
- Reduced profitability and constrained liquidity lower firms’ capacity to finance new investment.
- The asymmetric absorption of labor cost increases (profits absorbing only ½) points to financial frictions or constraints limiting firms’ ability to smooth costs via retained earnings.
Policy implications and recommendations
- Labor market reform is highlighted as necessary to reinvigorate investment.
- Reviving investment is presented as a pathway to boost labor productivity and job creation.
Source: Labor Costs and Corporate Investment in Italy, IMF Working Paper by Daniel Garcia-Macia (February 21, 2020).
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