High compliance costs are a deterrent to hiring labour

An IMF study carried out in 2000 found that SA’s labour laws were not more inflexible than those of the OECD countries. However, that does not mean that they are appropriate for our circumstances.

SA has an appreciably higher number of unskilled and semi-skilled people than the OECD member states. Furthermore, our smaller employers lack the skills of SME owners in those developed countries. This means that OECD-type labour laws are bound to have more negative consequences for employment in SA than in developed countries.

Studies have shown that in most countries small firms employ the largest percentage of the total workforce. Two-thirds of all jobs in the EU, for example, are in SMEs employing 0 – 249 employees.

Based on our local method of classification, which differs from that used in other countries, SA’s small firms employ slightly more than 50% of the total workforce. However, if we were to use the EU classification of 0-249 employees, the SA small firm sector would be shown to employ a much larger percentage of the total workforce.

Ninety-three percent of EU small firms are micro enterprises with fewer than 10 employees. High levels of regulation, and especially labour regulation, could possibly be responsible for this phenomenon. In business environments characterised by stringent labour laws, small firms tend, wherever possible, to employ family members and to avoid expanding to the point where they attract the attention of labour officials and unions.

In the absence of regulatory barriers, unskilled people do not generally look to large firms or the government for employment. They usually approach more accessible small firms, which are also more likely to take on staff for trial periods to test their capabilities, and more inclined to provide on-the-job training in a diversity of disciplines. Once they have gained skills and experience in small firms, workers are in a better position to secure employment in large organisations.

Since the administration and labour law compliance costs of employing an unskilled worker can be equal to or higher than the costs of employing a skilled person, prospective employers often decide that the cost of employing an unskilled person is too high in relation to the potential benefit. Regulatory compliance costs can then create a serious bias against the employment of unskilled people.

Compliance costs per worker have been shown to average as much as 60% more for small firms than for large firms. The reason is that in a big company the costs are spread over a larger number of workers. The average cost then constitutes a much greater percentage of the wages of employees of small firms and is particularly high in the case of low-wage workers.

SA has many low-skilled job seekers but also has large numbers of existing and potential low-skilled employers, who do not have the capacity to administer and comply with the requirements of complex labour laws. Complex labour laws, together with minimum wage laws, then have a doubly retarding effect on the employment of labour: not only do they price unskilled people out of the labour market, they also prevent low-skilled people from becoming employers. Relief for both employees and employers at the lower end of the SA job market could consequently bring about both a significant reduction in unemployment and an increase in the number of labour-intensive firms.

When the small firm is subjected to onerous labour laws the dismissal of an unsuitable person can be very costly, compelling the firm to change its hiring system and possibly its entire approach to labour utilisation. If the firm decides it needs to create a personnel department to handle labour law requirements, it will have less money available for employing productive workers, which will reduce its output and efficiency. It may outsource the work previously done by certain categories of employees, or alternatively, utilise machines and technology operated by fewer more highly skilled workers. Another alternative would be for the firm to shut down its labour-intensive divisions altogether.

All approaches to the problem of reducing the ‘hassle factor’ created by the labour laws, especially in the employment of unskilled people, entail a reduction in the numbers employed. Job destruction is even greater than is superficially apparent because of the many potential new firms that may have been started, and that may have employed unskilled people, but never do so. The latter are the ‘invisible’ or ‘unseen’ job losses that are not quantifiable and tend to be overlooked.

In order to rapidly absorb the unemployed into the labour market, SA needs spectacular growth in the order of 7.2% per annum for an extended period, which would double the country’s GDP every ten years. Other countries, such as South Korea and China, have averaged higher growth rates for decades and there is no reason why SA should not do the same. However, the full wealth-creation and job-creation potential of all firms, but especially small firms, must be utilised to make this possible.

The bias against small firms caused by high government-imposed costs should be removed or reduced, either by reducing costs for all firms or by exempting small firms from some of the laws and regulations. Small firms in some instances become the victims of laws and regulations that are specifically intended to regulate the activities of large companies. Identifying and exempting small firms from such ‘all-encompassing’ regulatory requirements should be a relatively simple matter, and instituting measures to ensure that small firms are not accidentally ensnared by future legislation should also be easily accomplished.

By reducing regulation on small firms in tandem with the granting of a special dispensation to the unemployed, government can bring about the most rapid possible reduction in unemployment. It will allow unemployed people and small employers to ‘find’ each other quickly, without barriers to employment complicating the process. Small firms are primary job generators; all that is needed is for jobs and workers to be left to find a match with each other as fast as possible and unemployment will rapidly decline.

Author: Eustace Davie is a director of the Free Market Foundation. This article may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the author’s and are not necessarily shared by the members of the Foundation.

FMF Feature Article/ 3 January 2006 - Feature Article / 15 December 2009