SOCIAL PROTECTION & JOBS DISCUSSION PAPER No. 2502 | JANUARY 2025 Regulating Markets So More People Find Better Jobs Eliana Carranza Federica Saliola Truman Packard © 2025 International Bank for Reconstruction and Development / The World Bank 1818 H Street NW, Washington DC 20433 Telephone: +1 (202) 473 1000; Internet: www.worldbank.org. This work is a product of the staff of The World Bank with external contributions. The findings, interpretations, and conclusions expressed in this work do not necessarily reflect the views of The World Bank, its Board of Executive Directors, or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. RIGHTS AND PERMISSIONS The material in this work is subject to copyright. Because The World Bank encourages dissemination of its knowledge, this work may be reproduced, in whole or in part, for noncommercial purposes as long as full attribution to this work is given. Any queries on rights and licenses, including subsidiary rights, should be addressed to World Bank Publications, The World Bank Group, 1818 H Street NW, Washington, DC 20433, USA; fax: +1 (202) 522 2625; e-mail: pubrights@worldbank.org. Regulating Markets So More People Find Better Jobs 1 Eliana Carranza, Federica Saliola, and Truman Packard January 2025 Abstract This paper proposes a dynamic regulatory framework that adapts to the evolving structural transformation of economies across sectoral, spatial, occupational, and organizational dimensions. It highlights how well-designed and appropriately enforced labor and product market regulations (LMRs and PMRs) can enhance labor market outcomes, support job creation, and improve employment quality. A dynamic approach involves tailoring regulations to economic shifts, market failures, and administrative capacities, fostering structural transformation while addressing emerging challenges associated with service-led growth and digitalization. The paper advocates for a much greater investment in labor market observatories (LMOs) as tools to guide data-driven, agile regulatory responses akin to monetary policy adjustments. By integrating LMR and PMR, it outlines a path toward sustainable economic transformation, while discussing political economy challenges inherent in implementing dynamic regulatory frameworks. Keywords: labor market regulation, product market policy, employment, wage, productivity, worker protection, firm competition, public policy. JEL: J20, J30, J8, K2, L5. 1This chapter was authored by Eliana Carranza, Truman Packard, and Federica Saliola, drawing on extensive literature reviews by Joana Duran-Franch and Celina Proffen. Data analysis and visualizations for this chapter were prepared by John Walker. David Alzate assisted in the final stages. Early drafts benefited from thoughtful feedback by Matteo Morgandi and Gordon Betcherman. 1 I. Introduction This paper presents arguments for a dynamic approach to market regulation that is better suited to the continuously evolving nature of economies—that is, their structural transformation along four dimensions: sectoral, spatial, occupational, and organizational. The paper draws on descriptive data and correlational insights to highlight how regulations might shape structural transformation along these dimensions, to make a case for how policy makers interested in improving worker’s labor market outcomes should pay attention to regulation as an instrument that, if appropriately designed and enforced, can help accelerate and enhance the process of structural transformation that underlies the creation and quality of jobs as countries develop. By ’dynamic’, we refer to a regulatory framework with parameters that are assumed to move over time, that is, to be managed as important market contextual factors evolve. In contrast to the prevailing approach of governments in most countries, a dynamic approach assumes that regulatory frameworks and specific instruments should enable this transformation and adapt with the structure of economies, with the type and severity of market failures, and with a government’s administrative capacity to monitor and consistently enforce the compliance of firms and individuals. Beyond establishment of core labor standards, such an approach would entail the careful introduction of regulatory instruments (for example, a mandated wage floor) and rare, modest changes to restriction on firms’ and households’ market decisions as economies transform and governments’ administrative capacity grows. A dynamic approach to regulation would intentionally facilitate an economy’s structural transformation and be responsive to its ongoing evolution. For example, as most countries’ structural transformation may become a process that is increasingly driven by growth in the services sector (Rodrik and Stiglitz 2024), a dynamic approach to regulation would tailor regulatory reforms to workers and firms in that sector and reform older regulations which are primarily grounded in the realities of manufacturing-intensive work. These dynamic regulatory responses could be guided by continuously collected and updated data from a labor market observatory (LMO) agency. LMOs have already been established by governments across the Organisation for Economic Co-operation and Development (OECD) and in low- and middle-income countries (LMICs) such as Botswana, Cameroon, Colombia, Jamaica, Rwanda, and South Africa—typically as small offices reporting to a Ministry of Labor, a Ministry of Education, or a Public Employment Service (Rutkowski and de Paz 2018). Such observatories could be considerably expanded to also monitor trends and failures in the product market, providing a holistic view of how market dynamics affect both firms and workers. This proposed ‘dynamism’ in regulatory response, while less frequent, is conceptually similar to the management of an economy’s reference interest rate or its banks’ reserve requirements. Although not a perfect analogy, the comparison to central bank management of monetary policy serves as a reminder that governments can be nimble in shaping policy in response to fluctuating economic conditions. Understanding that the demand for labor and skills is derived from the demand for products and services and that structural transformation is increasingly propelled by the growth of the services sector— including digitally delivered, tradable (for example, business process outsourcing), and non-tradable (for example, ride hailing) services—the paper’s treatment of regulation is of broader scope than what is strictly considered labor market regulation (LMR). Product market regulation (PMR)—including competition policies, openness to trade and foreign investment, mandates and exemptions based on firm 2 size, price controls, preferential treatment in public procurement and access to finance—are interventions that impact firms’ viability and their decisions, with direct effect on demand for labor and skills. For this reason, the paper’s consideration of regulation will also include these and other interventions deployed to ensure contestable product and service markets, which mitigate ‘monopsony’ practices as well as any detrimental ‘spillover’ of such practices to the rest of the economy. The paper considers how LMR interacts with PMR to facilitate or hinder the economic transformation required to give more people access to better jobs. Furthermore, the paper revisits the link between governments’ regulatory stance and the efficacy of their social protection policies. A 2019 white paper on risk sharing policy (Packard et al. 2019) and more recent sector strategy documents argue that the overly restrictive formulation of regulations in many LMICs might be explained by a missing or underdeveloped social protection system. Where social protection policy has been ignored or underfunded, mandates on firms might be the primary instruments policy makers have to fulfill key social contract obligations. Governments of many low-income countries (LICs) and middle-income countries (MICs) may not have reached the administrative capacity required to optimally fund and manage better instruments for redistribution, risk-sharing, and economic inclusion, leaving statutory mandates on employers as a primary option. However, these statutory mandates face limitations; in countries with smaller formal employment bases, which are typical of LICs and MICs, regulatory measures apply to a limited segment of the workforce. Moreover, overly intensive regulation can inadvertently reduce the formal employment base by discouraging firms from operating within the formal sector. Consequently, while such regulatory measures become necessary in the absence of a robust social protection system, they also impose constraints on labor market inclusivity, posing a complex policy trade-off. Understandably, organized labor would fight hard to sustain such a regulatory stance if it could not count on effective protection outside of the employment relationship. It is important from the outset to acknowledge that market regulations can have a relatively minor impact on jobs outcomes when compared to public policies that determine the shape and stability of economies as well as the tools deployed by governments to raise their revenues (in the framework of the World Development Report (WDR) 2013: Jobs, the ‘policy fundamentals’). First, powerful levers of macroeconomic policy affect the demand for labor and jobs outcomes: exchange rate and monetary policy have intended and unintended impacts on the choices that firms make. For example, the pace of technology adoption and automation may be rapid, but it also can be unduly hastened by relatively inexpensive capital. A policy stance that biases firms’ decisions one way or the other can lead to structural imbalances: too much capital and not enough labor in certain sectors of the economy or vice versa. Over time, these imbalances can become embedded economically and even politically as interest groups form and become accustomed to policy-enabled, favorable treatment in factor and product markets. Second, public revenue policies also shape the incentives faced by firms and households. For example, there is a persistent fetish for taxing wages and salaries as well as firms’ payrolls, despite advances in technology and administrative capacity that make other market flows more visible and other revenue instruments more viable. In almost every country, inherited wealth, land, and pollution are undertaxed. 3 Globally, since 2004, the burden of taxation has shifted away from profits and toward labor earnings (Packard et al. 2019). Taxes on earnings from labor are now set at higher rates than are those on most other sources of income. From a household perspective, overtaxing labor earnings can create disincentives to work or to work formally, especially among younger and older workers, lower-skilled workers, and women. As discussed in other papers of this report, it is vital for governments to pay close attention to jobs outcomes when setting ‘fundamental’ policies. The paper is structured as follows. Section II revisits the arguments presented in WDR 2013: Jobs and subsequent World Bank publications on LMR with new empirical evidence from recent research. Section III discusses how LMR policies relate to structural transformation, supported by examples and suggestive insights from cross-country observations. Section IV synthesizes recent empirical literature on the implications of PMRs on labor market outcomes, such as employment, wages, and job quality. Section V builds on the analysis from Section III by estimating the association between PMR policies and indicators of structural transformation. Section VI discusses how the current regulatory approach falls short in LICs and MICs. Section VII makes the case for an alternative approach that combines both LMR and PMR. Finally, Section VIII discusses the ways in which the political economy of market regulation and market governance structures can pose a challenge to implementing the proposed dynamic approach. 4 II. Labor market failure, the case for intervention and the LMR ‘Plateau’ Human capital is the most important asset in which people invest. The labor market is where they seek the return on that investment as well as a place where most people experience shocks and losses that threaten their well-being. Like all markets, the labor market has imperfections and failures, which are even more chronic in LMICs: uneven distribution of power between those seeking and those selling labor and skills; limited and similarly uneven information that even the best written contracts cannot balance; a dearth of insurance instruments and missing markets for the risks to household income from job loss and extended periods of unemployment; and externalities (beneficial and harmful) arising from purely market outcomes. These failures motivate actions by governments to help improve people’s prospects and aggregate employment outcomes. Policy actions vary widely across countries in form as well as the combination and the intensity with which they are deployed. There are also sizeable differences in the capacity of governments to implement, monitor, and enforce policies; to limit the unintended effects of their interventions; and make these measures amount to more than just pages in the statute books. This said, the objectives of most governments are similar: to ensure that the labor market is allocating human capital efficiently and safely and that it ensures people’s skills and enterprise are rewarded fairly in line with their contribution to economic productivity and growth. Policy makers who are navigating their economies through the structural transformation process can also use regulations to encourage and support transitions, for example, from rural agrarian to non-agrarian livelihoods, moves to work in urban areas, from petty self-employment to more capital-intensive employment or entrepreneurship, and expansion into global markets. Long-running debates over the benefits and costs of LMRs are once again rising in volume and in pitch. WDR 2013: Jobs (World Bank 2013) argued that on a metaphorical ‘plateau’ between extreme ‘cliffs’ of ‘too little’ and ‘too much’ regulatory intervention, these instruments matter less to aggregate efficiency (that is, total employment and productivity) outcomes than might be expected given the large volume of published research and strident tone of the debate (Betcherman 2019). However, this conclusion does not mean that labor regulations are of no consequence. The core labor standards of the International Labour Organization (ILO), for example, represent vital bulwarks that safeguard hard-won advances in securing human rights and well-being from work. The importance of labor regulation to human capital and its contribution to economic growth has been equated to that of property rights over financial and physical capital to economic development (Freeman 1993, 2003). However, even when set to purportedly safe ‘plateau’ levels, regulation can have unintended—or sometimes even intended—distributional impacts that compromise the job opportunities open to people with intermittent participation in the labor market (principally women with families attempting to balance market and household responsibilities), new entrants with little knowledge of the market and less work experience (for example, young people just completing secondary school or a tertiary degree), and minority segments of the population whose aspirations and expected labor productivity has been hindered by isolation, discrimination, and other forms of exclusion. 5 Figure 1. The labor market regulation ‘plateau’ Source: Packard et al. (2019) based on World Bank (2013) and Betcherman (2019). The topographic LMR ‘plateau’ serves as a compelling and powerful metaphor—a rhetorical tool to convey the importance of avoiding regulatory extremes. Currently, there is no theoretical or empirical estimate pinpointing the exact LMR levels that define the ‘cliffs’ of ‘too little’ or ‘too much’. That ‘topography’ is expected to vary significantly across countries, according to their economic and institutional development, how these determine the contestability and competitiveness of markets, the relative distribution of market power between ‘buyers’ and ‘sellers’ of labor and skills, and differences in societal values (Betcherman 2019). The impact of regulations is also likely to vary with individuals’ endowed and accumulated human capital, since regulations tend to more directly determine the decisions and compel the behavior of lower-skilled workers. This is particularly true for labor market participants with less experience, whether due to the competing demands of household responsibilities, youth, or historical and persistent exclusion. Shifting from abstraction to observed regulatory practices, in this section we will present country-level descriptive indicators that ‘profile’ countries’ regulatory posture. The descriptive analysis highlights patterns in regulatory approaches across different levels of economic development and regions. For example, there is a notably more restrictive regulatory stance in the statutes (de jure) of the lowest income countries, such as substantially higher statutory minimum wages (SMWs) relative to value added per worker and slightly more stringent dismissal procedures, including requirements for third-party approval of even a single dismissal. This approach appears to be an attempt to compensate for scant monitoring and compliance enforcement capacity (Kanbur and Ronconi 2018). 6 Figure 2. Countries’ regulatory stance in the labor market a. Wage floors b. Procedural restrictions on dismissal c. Costs of dismissal Source: Authors, using data from Employing Workers (2019) and the Penn World Table 10.0. Note: Figure 2 presents a global view of the relationship between growth and regulatory conditions. The left column presents the association across all countries for which data is available, highlighting case study countries. The right column breaks down this association by World Bank income groupings. Facing significant data constraints, reported data points are the mean of reported values for the period 2010–2019. Log gross domestic product (GDP) per capita is the log of GDP per capita (LGDPPC) in international US dollar at constant 2017 prices, taken from the Penn World Table 10.0. The variables reported on the x-axis of panels (b). and (c). are the first principal component across variables measuring procedural restrictions on dismissal or costs of dismissal, respectively. They are scaled such that a higher value implies greater regulation. The trend lines represent predictions from simple bivariate regressions. 7 Figure 2 presents the relationship between LGDPPC and measures of LMR intensity, aggregated over the period 2010–2019. The left and right columns display the same data points, grouped by region or with the case study countries highlighted, and a linear regression line plotted, respectively. Panel (a) shows a strong negative association between LGDPPC and the ratio of the minimum wage to average worker productivity, indicating that relative minimum wages tend to be lower in higher-income countries. This trend is particularly pronounced in East Asia and the Pacific and low- to lower-middle-income countries. By contrast, Panels (b) and (c) reveal only weak associations between LGDPPC and procedural restrictions on dismissal (weakly negative) and on LGDPPC and costs of dismissal (weakly positive). More generally, certain LMRs—particularly higher relative minimum wages—are more commonly used among LMICs, while other regulatory practices are widespread across different contexts. An SMW can mitigate the risk of exploitation by raising the pay of people who would otherwise earn very low wages—that is, below their marginal productivity or alternatively below a minimum sustainable living standard. However, the empirical evidence from high- and middle-income countries of the impact of SMWs on labor market outcomes continues to be mixed. Much of the evidence shows a positive impact from minimum wage increases comes from the United States, where enforcement is effective and compliance is high (Liu et al. 2015). In theory, where the SMW is already high relative to average worker productivity, further increases can lower the likelihood of employment, particularly among people with lower levels of completed education and limited work experience—typically, the lowest productivity workers at the lower end of the earnings distribution. Yet, recent literature reviews show variation across studies when it comes to employment findings, and the weight of the evidence suggests that any job losses are quite small (Dube 2019; Manning 2021), with a median own-wage elasticity across all studies and countries reviewed (United States, United Kingdom, Germany, and Hungary) of −0.16 (Dube 2019). In LMICs, negative employment effects ranging from 2–3 percent have been found in Peru (Céspedes and Sanchez 2013) and Brazil (Jales 2018), while research in China (Huang et al. 2014) and Mexico (Campos- Vasquez and Esquivel 2021) show no significant effects. High SMWs can increase the likelihood that people will be employed informally. The main adverse effects of a minimum wage that is set too high include increased evasion and undeclared working arrangements (either in underreported hours or in terms of reporting earnings); employers’ substitution of higher productivity for lower productivity workers; firms choosing to invest more in capital—particularly in labor savings technology and automation—to reduce their use of labor; and job destruction and longer spells of unemployment, particularly for people with little work experience (Neumark et al. 2013). While these effects can be small for the labor force as a whole, they can affect certain groups more acutely, including women, people with less education, and young people who have not yet accumulated work experience and can present riskier prospects to employers. 8 Box 1: When wage ‘floors’ touch the productivity ‘ceiling’: Colombia’s minimum wage The objective of most governments that legislate a statutory minimum wage (SMW) floor is to ensure workers are paid fairly, according to their productivity. In the often-imperfect labor market, where the bargaining power of employers (the ‘purchasers’ of labor time and skills) and workers (who are seeking to sell their labor time and skills) is uneven, an SMW is an important policy instrument deployed to ensure a ’fairer’ distribution of marginal product. Few instruments of labor market policy have been scrutinized and debated as heatedly and for as long as the SMW. First introduced in 1894 as an official structure for the resolution of industrial disputes by a government in New Zealand, the instrument grew in popularity and became widely deployed, starting in late-industrial era European countries and during the period of turbulent industrial relations in the Americas between the two world wars (Neumark and Wascher 2008). As enduring and as plainly heated as the policy debate on the merits and costs of this policy instrument has been, it also appears to be maturing. It is now rare to hear the polarized positions taken by many economists in the 1980s and 1990s. Those in the broadening ‘mainstream’ of the profession have tended to debate how an SMW should be imposed and managed, rather than whether it should. Another welcome sign of maturity in the discussion is that an appeal to evidence has become expected. For this reason, the body of empirical evidence on the impact of wage floors and the minutia of their implementation is far larger and more expansive in the countries it covers than, for example, evidence of the impact of regulations on hiring and dismissals or unionization and collective bargaining. Key pieces of this evidence have been cited earlier in this paper. What level of statutory wage ‘floor’ is too high—off the metaphorical ‘plateau’? Few researchers and even fewer politicians would dare to venture a figure. The better administrated, higher capacity institutions charged with setting the SMW carefully monitor both the beneficial and adverse effects and weigh the former against the later. However, given the policy objective of the instrument, a reasonable ‘rule of thumb’ is between 40 percent and 60 percent of the median wage of an economy. When it rises higher than 60 percent of the median wage, a statutory wage floor gets perilously close to average labor value added and is likely to do far more damage than good. Colombia is a case in point. In international comparisons, Colombia stands out as one of the countries with a substantially high SMW with respect to average and median labor income. The ratio of the minimum wage to average and median labor income has been relatively stable and has remained above 0.65 and 0.80, respectively, between 2009 and 2019. Both indicators stand out when compared to developed and emerging economies. In developed countries, the SMW represents 55 percent of the median wage, while in emerging economies this represents 67 percent. Among its competitors in global markets, only Ecuador has a higher SMW. Colombia’s high minimum wage has had a negative impact on the demand for labor, particularly in the manufacturing sector, putting the viability of firms, especially those of smaller size, at stake. Likewise, the high minimum wage has affected consumers by pushing up prices for services. In the face of an economic shock, the rigidity of the minimum wage does not allow for the labor market adjustment to occur through prices (wages). Instead, it forces it to happen through quantities (employment) so that the falls in employment are higher than they could have been with a more flexible or lower minimum wage. And although the ‘push’ of people into cities from years of violence and insecurity was a dominant factor in Colombia’s urbanization, the high SMW is likely to have created a formidable obstacle to these migrants being absorbed into formal jobs, retarding structural transformation. (Carranza et al. 2022). 9 When set at high levels relative to median wages, minimum wages can harm employment prospects for youth, particularly for the youngest and least skilled workers. In the United States, research suggests that a 10 percent hike in minimum wages reduces the likelihood of teenagers being employed by 1–4 percent. The weight of the evidence indicates that minimum wage hikes are especially detrimental to the employment prospects of young people, particularly those who have not completed secondary education (Clemens and Wither 2019; Liu et al. 2015). In LMICs, several studies also associate increases in SMW with reductions in young people’s probability of being employed. The size of these effects varies substantially, from a 0.08 percent reduction in China to 0.78 percent in Brazil, with most estimates hovering around 2– 3 percent. In Indonesia, minimum wage hikes have been found to disproportionally impact the employment of 15–24 year olds, especially lower-skilled and part-time workers (Surhayadi et al. 2003). Consistent with reviews of the empirical literature on high-income countries (HICs), recent meta-analyses on emerging economies show no overall employment effects but indicate that youth and low-skilled members of the workforce are more negatively affected by minimum wage increases (Chletsos and Giorgis 2015; Broecke et al. 2017). Turning to employment protection regulations, the objective of these instruments is to improve workers’ welfare by establishing some degree of job security and improving their bargaining power in relation to employers. Employment protection regulation typically achieves these goals by setting conditions for fair and unfair dismissal of permanent employees and limiting the use of temporary contracts; mandating certain benefits, such as severance payments to employees; and prescribing the necessary procedures to be followed when employment is commenced or terminated. Ideally, employment protection regulation balances firms’ need for flexibility to adjust their labor force to deal with demand shocks, technology shocks, and cost changes, with workers’ living standards and need for stable jobs and incomes. The effects of these regulations on outcomes are theoretically ambiguous. On the one hand, strict protection is expected to reduce job destruction and, hence, reduce flows into unemployment, leading to greater employment stability over the business cycle. On the other, employment protection can reduce job creation and flows into employment if the high statutory costs of dismissing workers cause firms to hesitate before hiring, prolonging unemployment spells. The aggregate effect on the overall level of employment at any point in time, therefore, depends on the rate of hiring relative to the rate of dismissals. As with the SMW, evidence on the impact of employment protection is mixed. The earliest comparative studies across OECD member countries and on countries in Latin America found negative, although weak, employment effects. More recent cross-country studies, however, have failed to find significant impacts on employment. This ambiguity highlights not only the limitations of cross-country studies but also the need to examine specific regulatory elements (such as rules on contracting, dismissal procedures, and severance payments) rather than treating employment protection as a single category or as bundled packages. More conclusive findings have emerged from country-specific studies that focus on particular components of dismissal costs and hiring restrictions. Increasing severance provisions, for example, had sizable and significant negative effects on employment in Argentina (Mondino and Montoya 2004) and Peru (Saavedra and Torero 2004), though similar measures did not appear to have any effect in Brazil (De Barros and Corseuil 2004). Additionally, greater restrictions on the use of temporary contracts appears to reduce employment in Colombia (Kugler 2004). In India, where employment protection and dismissal costs vary widely from state to state, evidence of negative effects has been found not just on employment but also on firms’ investments and productivity (Box 2). 10 Box 2: Subnational heterogeneity of LMR: The case of India Since independence, India’s labor market has been governed by a complex framework of 45 national laws and over 100 state statutes. One of the most debated laws, the Industrial Dispute Resolution Act (IDA) of 1947, requires factories with more than 100 employees to obtain government approval before dismissing workers or shutting down—a process often lengthy and cumbersome. Noncompliance could result in significant fines and imprisonment. Globally, third-party notification or approval for dismissals is among the more restrictive aspects of employment protection legislation (World Bank 2014, updated with WDI). India’s federal governance structure grants states some flexibility to amend labor laws, as labor falls under the Concurrent List of the Constitution. Both central and state governments can legislate on labor-related matters. This framework aims to balance national policy objectives with state-specific labor market needs, through states primarily influencing statutory minimum wages (SMWs) and working hours. While this flexibility creates heterogeneity in labor market regulations (LMRs)—a deliberate feature of India’s system— it has also segmented formal product and labor markets, limiting India’s ability to fully leverage its economic scale and potential, unlike other emerging market ‘giants’. Empirical studies have leveraged this heterogeneity to examine the impact of labor regulations, with early findings suggesting that labor laws intended to increase employment security and worker welfare can have unintended consequences. Rigid regulations discourage hiring, increase informality, and constrain firm growth and productivity, as smaller firms forgo the benefits of scale. States enforcing stricter labor laws or exceeding IDA requirements experienced declines in employment, output, and value added per worker in registered manufacturing firms (Besley and Burgess 2004; Ahsan and Pages 2009), while more flexible states benefited from delicensing reforms through lower informality, higher productivity, and larger firms in labor- intensive industries (Sharma 2009; Hasan and Jandoc 2012). Additionally, high labor costs and regulatory circumvention have led firms to favor capital- and knowledge-intensive production, despite India’s comparative advantage in low-skilled, labor-intensive manufacturing. However, more recent research emphasizes the importance of broader economic factors, highlighting that while restrictive labor laws incentivize informality and limit firm growth, policies such as export incentives and government support programs also play a role (Chakraborty, Khurana, and Manghnani 2023; and Bertrand et al. 2021). India’s 2022 labor reform marked a significant turning point by consolidating over 140 central and state laws into four streamlined labor codes: Wages, Industrial Relations, Social Security, and Occupational Safety. Key changes included raising the firm-size threshold for requiring government approval for dismissals from 100 employees to 300 employees, setting a nationwide minimum wage, enhancing worker health and safety protections, and modernizing labor market governance and industrial relations. This consolidation aimed to simplify compliance, improve enforcement, and reduce regulatory fragmentation. By complementing labor law reforms with broader policy measures and leveraging advancements in technology and governance— such as the e-Shram portal, a national database of unorganized workers launched in 2021, and the One Nation One Ration Card, which enables the portability of food security benefits for migrant workers—India is addressing vulnerabilities associated with informality and gradually fostering more inclusive and productive labor markets. While these reforms represent monumental progress, their full impact will depend on effective enforcement and their ability to address underlying constraints. As of now, states retain the power to set LMR parameters and implementation remains a work in progress—with all but four states and one union territory having published draft rules for the new codes, paving the way for their rollout. Meanwhile, the still-existing restrictive and fragmented ‘patchwork’ of labor regulations, coupled with inconsistent enforcement, could continue to reinforce perverse incentives for firms. 11 In HICs, there has been a clear tendency for governments to reduce the degree of stringency of employment protection over the past years, mostly focused on regulations governing individual and collective dismissals. However, in numerous instances, flexibility has been introduced at the margin via ‘irregular, non-standard’ temporary contracts without relaxing stringent employment protection legislation on ‘regular, standard’ open-ended contracts, contributing to labor market segmentation (Scarpetta 2014). Recent empirical research often focusses on this regulatory dualism: the outcomes that result from governments offering firms more flexible ways to legally employ people when a comprehensive reform of LMR is politically out of reach. Much of this research on formalized ‘duality’ has found the emergence of ‘insider-outsider’ dynamics and adverse labor market consequences for the outsiders, replicating in the regulated parts of the labor market many of the dynamics and consequences of the ‘dualism’ observed between formal and informal sectors of LMICs. In addition to offering firms more flexibility to hire legally, an argument in favor of irregular contracts is that they might act as a ‘stepping-stone’ into regular employment. Empirically, in some countries they have been shown to be a vital first step toward an open-ended employment, and a proverbial dead end in others. The evidence in favor of this ‘stepping-stone’ rationale, mostly comes from countries with less- stringent regulation of dismissal of people with regular contracts. Duality induces changes in the organization of production leading to high labor turnover rates, detrimental to productivity growth (Hijzen et al. 2017). In dual labor markets, this outcome often counters any potentially beneficial role of non- standard contracts as stepping-stones toward more stable jobs (Bentolila et al. 2019). Consensus is stronger in literature that employment protection regulations have a negative impact on job prospects of youth. As new entrants to the labor market, youth are less skilled and less productive than more experienced, prime-age workers. All else being equal, younger workers can be riskier for employers to take on. More stringent employment protection regulations can make firms reluctant to hire young people if they remain unproductive and are difficult to dismiss, for example. Tenure-based restrictions on dismissal can also make firms reluctant to fire existing, older workers in response to an economic contraction, even if they are less productive, and instead to let younger workers go. The empirical literature shows that more restrictive regulations adversely affect those for whom labor demand is more elastic (that is, less-skilled groups), including young people. As presented in this section, in the decade since the ‘plateau’ metaphor was introduced, there has been considerable growth in literature on LMR and its impact on economic, employment, and welfare outcomes, from productivity to living standards and social cohesion (see Alzate et al. 2024). More rigorous methodological designs and the availability of new, better data—even in LMICs—shed further light on historically disputed relationships and uncovered previously unknown interactions and margins of adjustment. Yet the basic message of the plateau metaphor remains the same—avoid extremes. 12 III. The LMR ‘plateau’ and countries’ structural transformation Reexamining the ‘plateau’ metaphor in the context of structural transformation across sectoral, spatial, occupational, and organizational dimensions offers fresh insights, with emerging hypotheses adding nuance to its relevance. Evidence on the impact of labor regulation on structural transformation remains limited, though ideally, regulation should be set to facilitate the structural transformation process: ’too little’ would fail to facilitate and ‘too much’ would act as an obstacle to economic transformation and the accompanying creation of better jobs. As summarized in Table 1, given market failures, the visible manifestation of ‘too little’ in the context of structural transformation, may be a persistent preference for autarky/subsistence production, low levels of household participation in the labor market, and consequently, little incentive to invest in human capital. The manifestation of ‘too much’ may be a stasis of factors (principally of labor and skills) and a pileup or spillover of people into low-skilled, capital-starved self-employment in the informal economy. Table 1. Impact of extreme levels of LMR on the structural transformation process LMR instrument Too little (least restrictive) Too much (most restrictive) Wage floors Disincentivizes participation in labor Creates obstacles to formal hiring and market and investment in human incentives for premature automation capital Contract modalities Abusive, exploitation of human capital Intra and inter firm/sector rigidity of labor and skills makes innovation difficult Working hours Abusive, exploitation of human capital Intra and inter firm/sector rigidity makes innovation difficult and creates barriers for inclusion of women and youth. Dismissal procedures Capricious dismissal with negative ‘Sclerosis’ (uncertainty, labor stasis, external costs, little incentives to obstacle to creation of regulated invest in firm or sector specific skills, employment) and incentives for ‘smallness’ and high levels of turnover (formal firms of five or fewer workers; self- employment) Dismissal payments Little/no protection and risk aversion Sclerosis, firm reneging on payment, costly to labor market participation/mobility legal disputes Source: Authors’ adaptation from review of literature (Alzate et. al 2024). In LMICs, there is evidence that labor market frictions might hinder structural transformation preventing the creation of better job opportunities for workers, who are forced to rely on low-capital intensity self- employment (Donovan and Schoellman 2021). LMRs may add to these frictions, though their impact is not straightforward. On one hand, stringent LMR might prevent the reallocation of labor and human capital within and across firms, between sectors, and so on. On the other hand, if labor regulation leads to wages above subsistence levels, they could support economic shifts across sectors by enabling workers to shift their consumption to non-food items and have greater ability to save, invest in physical and human capital, and/or migrate. 2 Setting a wage floor that raises the price of labor might also lead to higher aggregate productivity, as firms may have incentives to invest in more capital, and labor-intensive firms 2 Herrendorf et al. (2014), summarizes theoretically how such a consumption mechanism can act as a force behind structural transformation. 13 may exit markets.3 Indeed, descriptive analysis from other studies indicated that higher capital stock (capital per worker) is associated with productivity increases in the medium and long run. Minimum wage policies can encourage firms to provide training or adopt technology that will raise the value added by their workers. Some theoretical literature supports this expectation (Katz 1986; Levine 1992; Raff and Summers 1987), and governments in LMICs often cite this argument when considering the introduction or increase of their SMW. In an empirical analysis of minimum wage increases in China, Mayneris, Poncet, and Zhang (2014) found substantial increases in the productivity of firms that survived the statutory hike in labor costs. They argue that this policy had a ‘cleansing effect’ that not only raised aggregate productivity but also led to increased compliance with labor standards. Despite the inability of many firms to survive with the higher statutory floor on wages and the job losses that these failures entailed, the overall gains to the economy were evident. The lesson of moderation from the LMR plateau is an important part of this account. Notably to these positive outcomes, the minimum wage increase the authors study occurred during China’s high-growth period, and the increases tended to keep the SMWs (which differed across locations) at about 40 to 60 percent of median wages. While it is wise for policy makers to avoid the extremes of ‘too little’ and ‘too much’, as illustrated in Figure 1 and Table 1, how LMR helps or hinders the process of structural transformation will depend critically on economies’ structure. For example, a general consensus in the theoretical and empirical literature is that the extent of employer market power matters to how LMR shapes job outcomes in the course of structural transformation. 4 With respect to its impact on employment outcomes, the level of LMR that is ‘too little’ and that which is ‘too much’ will vary substantially across different levels of labor market concentration. Concentration and employer market power varies across geography, sectors of the economy, and in the same places over time with policy intervention and development. 5 For example, effects of the minimum wage on different local labor markets vary depending on their degree of competition. Monopsonistic industries often see employment rises following minimum wage hikes while industries with more competitive labor markets see employment declines. 6 When it comes to employment protection regulations, there is evidence that labor market concentration also impacts job security. More specifically, greater concentration in the labor market has a negative impact on job security. Greater labor market concentration is associated with a lower probability of being hired on a 3 There is evidence that establishments increase their capital stock in response to minimum wage increases in the medium run, suggesting that capital-labor substitution plays a crucial role in raising productivity (Harasztosi and Lindner 2019). In a study for South Korea, Seok and You (2022) argue that the rise in capital investment is facilitated by the long-run increase in labor productivity for employed workers which was triggered by the minimum wage. 4 Amodio et al. (2022) show where employment concentration is higher in the manufacturing sector in Peru, wages are lower and self-employment is more prevalent and less remunerative. Lower levels of concentration magnify the pass-through of productivity and profitability shocks to wages, but worker sorting across wage and self-employment mitigates these effects. Other frictions preventing labor reallocation include the existence of transportation costs or the lack of information restricting the ability of workers to shift across sectors (Franklin 2017; Donovan and Schoellman 2021; Carranza et al. 2022). 5 Formally, there are three varying sources of monopsony power, analogous to the three determinants of monopoly power: (1) the price elasticity of market supply (Es), (2) the number of buyers in a market, and (3) interaction among buyers. In the labor market, employers’ monopsonic power means they have the power to set overall hourly compensation rates below competitive market rates. Search frictions (including geographic distance and language or cultural differences) and switching costs (for example, information frictions or skills specificity) may grant monopsony power to incumbent employers by reducing workers' outside options. 6 Popp (2022) shows that sectoral minimum wages lead to negative employment effects in slightly concentrated labor markets while this effect weakens with increasing concentration and ultimately becomes positive in highly concentrated markets. 14 permanent contract and, in dual labor markets, lower chances of being converted to a permanent contract after being hired on a fixed-term contract (Bassanini et al. 2022). In many LICs and MICs, labor regulations are set at relatively extreme levels, often to make up for low monitoring and enforcement capacity (Kanbur and Ronconi 2018). This adds another dimension and use of the ‘plateau’ metaphor: the contrast between de facto versus de jure. Regulations may be either scantly and barely enforced or, conversely, set at restrictive levels and applied partially or even opportunistically, and in concert with poor product market policies—to choke off competition and preserve oligopolistic markets (points taken up in later sections of this paper). Although data and methodological constraints limit what can be inferred from cross-country analysis, Table 2 and each of the panels of Figure 3, present basic associations between broadly deployed regulatory instruments (such as minimum wages and employment protections) and selected indicators that chart the structural transformation process. Where possible, the self-employment rate is included in regressions as a proxy for a given country’s stage of structural transformation, with country-level fixed effects applied to reduce the impacts of country-level heterogeneity. Table 2. SMWs and markers of structural transformation (Regressions of structural change indicators [row] on two-year lagged minimum wage indicators [column]) Minimum wage/value added per Minimum wage (10s USD per month) worker Outcome variable Coefficient p-value Coefficient p-value Log capital per worker 0.007 0.00 0.048 0.000 Self-employment rate 0.002 0.08 0.005 0.67 Wage employment rate 0.001 0.00 0.032 0.002 Low-skilled employment rate -0.002 0.00 -0.027 0.023 Medium-skilled employment rate 0.001 0.00 0.021 0.029 High-skilled employment rate 0.001 0.00 0.004 0.50 Urban population rate 0.003 0.00 0.024 0.003 City population rate 0.002 0.00 0.008 0.16 Non-agricultural value added 0.000 0.07 0.012 0.15 Non-agricultural employment rate 0.002 0.00 0.060 0.000 Source: Authors, using data from ILOSTAT, GMD/GLD, and PWT 10.0; regulatory parameters taken from Employing Workers. Note: Table 2 presents country fixed effect regressions of structural change indicators on minimum wage indicators that have been lagged two years. The minimum wage is measured in 10s of USD per month. All regressions except that of the self- employment rate on minimum wage indicators include the contemporaneous self-employment rate as a control. Reported p- values account for heteroskedasticity. In Table 2, the SMW is given prominence as it is the widest-used and best-known regulation instrument. Two variables are used: the minimum wage level and its ratio to value added per worker. These variables are lagged by two years as a cautious approach to reduce the impacts of potential reverse causation and endogenous selection, with the aim of approximating any causal relationship that might emerge. While not an ideal strategy, it provides a practical means within the limitations of cross-country analysis. In general, the coefficients on the minimum wage indicators are positive (excluding low-skilled employment, for which a negative change implies a greater degree of structural transformation), suggesting that minimum wages might support structural transformation. However, the magnitudes of 15 the coefficients are very small, particularly on the unadjusted minimum wage variable, indicating that any such relationship is weak. Many of the relationships are statistically significant at the 5 percent level, though this is partially mechanical—the length of the panel and inclusion of country fixed effects allow us to detect even tiny effects. The most economically meaningful effects are of the ratio of the minimum wage to value added per worker on the non-agricultural employment ratio, the wage employment rate, and the transition from low to medium-skilled employment, with effect sizes ranging between 2 and 3 percentage points. The charts shown in the four quadrants of Figure 3 (next page) present the results of the same, simple empirical exercise using a broader set of indicators of the strength of employment regulation instruments on indicators of structural change. The employment regulation indicators are composite indices of related instruments, constructed as the first component from principal component analyses (PCAs). The restrictiveness of hiring rules is a composite indicator made up of a dummy for prohibition on fixed- term contracts for permanent tasks, the maximum length of fixed-term contracts of various types, and the maximum length of a probationary period. While it is noisily estimated, it stands out for its robustly statistically significant association with indicators of structural transformation, as well as the direction and consistency of this significance: it shows a positive association with indicators of structural transformation, excluding high-skill employment. However, as with the SMW, the estimated coefficients are generally small. The remaining employment regulation indicators show only weak, largely non-statistically significant associations with the structural change indicators. While the strength of redundancy rules, redundancy costs and notice period captured by the PCA indicators are generally negatively correlated with indicators of structural change and they are positively associated with high-skill employment. The results on working hours and severance pays are indeterminate and difficult to interpret. While this analysis suggests possible associations between LMR and structural change indicators, its limitations must be noted. Despite the attempts to control for time-invariant characteristics and for reverse causation, the analysis does not establish a causal relationship between LMR and structural change. For instance, the relationship may be bidirectional—structural change might prompt governments to enact different types of LMRs, or LMR reforms could coincide with other regulatory changes driving structural change. 16 Figure 3. Associations between LMR instruments and indicators of structural transformation, controlling for the degree of organization a. Sectoral–non-agricultural employment share b. Spatial–urban population rate c. Occupational–high skill employment rate d. Organizational–self-employment rate Source: Authors’ calculations using Employing Workers and GMD, 345 to 599 country/time observations. Notes: Figure 3 presents 95% confidence intervals of the estimated association between four indicators of structural change and a set of two-year lagged LMR indicators in percentage point terms. The LMR indicators are defined as follows. The minimum wage ratio is the ratio of the minimum wage to average worker productivity. Hiring rules, working hours, redundancy rules, redundancy costs, notice period, and severance pay are the first principles component from PCAs of associated variables. Confidence intervals are constructed using heteroskedasticity-robust standard errors. Each regression includes country fixed effects and control for the contemporaneous self-employment rate and each regression, except for panel (d), where data limitations prevent inclusion of country fixed effects and where controlling for contemporaneous self-employment would complicate inference. To summarize the results of this simple empirical exercise, while the statistical association between the most often deployed LMR instruments and indicators of structural transformation is underwhelming and not the sign of a causal relationship, the findings are also consistent with literature in two key ways. First, the emerging consensus is that the impact of labor regulation on structural transformation outcomes is better identified in longitudinal analysis that gives greater weight of countries’ contexts, rather than cross- country analysis which generally fails to take context into account. Episodes during which changes in labor regulation over time can be observed are relatively rare. Second, assuming precise identification, while there are indications of a statistically significant association between LMR and structural transformation, the size of the impact is small. These points notwithstanding, policy makers would be wise to pay more attention to the less quantifiable costs imposed by labor regulations, which may discourage hiring, such as the contingent liabilities and unquantifiable mandates, including due to legal uncertainty and 17 complexity, and whose costs are unpredictable and can make small firms bankrupt or with long risks of litigation. Ultimately, the weak associations may suggest that other factors at play are probably more important to the structural transformation process and whether that process delivers more opportunities for people to find better jobs. 18 IV. Product market regulation and labor market outcomes Product markets play an essential role in determining aggregate economic outcomes and, by direct extension, the quantity and the quality of jobs. How efficiently the supply side of a country operates determines the prices and quantities of goods and services and, thereby, the welfare of consumers. In addition, inefficient product markets can be a key barrier to structural change, as shifts in prices and relative productivities matter for the reallocation of firms toward more modern sectors. At the same time as being producers, firms are also employers. As such, their operations will affect aggregate employment rates, sectoral employment shares, wages, and working conditions. This section of the paper presents a synthesis of the empirical literature on the implications of PMRs on labor market outcomes, such as employment, wages, and job quality. Literature consistently highlights market contestability as a key determinant of productivity among firms and workers and efficient allocation of resources. Contestable markets, characterized by costless entry and exit of firms and sustained pressure from potential competition, can enhance structural transformation, raise wages, and support the creation of more, better, and inclusive jobs (Blanchard and Giavazzi 2003; Nicoletti and Scarpetta 2003). PMR can enhance economic outcomes by lowering entry costs for new firms and boosting competition among existing ones. Effective and well-enforced regulations protect consumers, uphold low entry barriers, prevent corporate abuse through antitrust laws, and encourage innovation, business dynamism, investment, and employment. 19 Figure 4. Countries’ regulatory stance in product markets a. Public ownership b. Barriers to trade and investment c. Administrative burden on startups Source: Authors, using 2018 indicators from OECD and World Bank PMR Indicators. Note: Figure 4 presents a global view of the relationship between growth and product market regulatory conditions in 2018. The left column presents the association across all countries for which data is available, highlighting case study countries. The right column breaks down this association by World Bank income groupings. The trend lines represent predictions from simple bivariate regressions. 20 This section aims to provide a comprehensive overview of how the structure of product markets influences labor market outcomes, including employment, wages, and job quality. To analyze these effects, it adopts a broader definition of PMRs than the OECD. The OECD PMR indicators are widely used by policy makers to assess how a country’s regulatory framework aligns with international best practices and by academic researchers to examine links between product markets and aggregate economic outcomes across countries and over time (Vitale et al. 2020). However, the OECD PMR indicators are limited in scope, focusing only on economy-wide distortions to competition due to regulatory barriers and state involvement, along with sector-specific indicators for particular industries. 7 Moreover, these standardized indicators of regulations and institutions are not yet readily available for most LMICs. To address these limitations, this analysis also incorporates World Bank indicators that assess the broader business environment for firms, capturing a wider range of factors that shape market contestability and firm operations within a country. Figure 4 offers visual evidence of the association between various regulatory stances in product markets— public ownership, barriers to trade and investment, and administrative burdens on startups—and economic growth, using data from 2018, across all available countries (left column) and broken down by income group (right column). In general, higher levels of public ownership, greater barriers to trade and investment, and increased administrative burdens on startups are associated with lower GDP per capita. These patterns suggest that restrictive PMRs may hinder economic growth, particularly in middle- and lower-income countries where regulatory burdens and public ownership are more prevalent. While these associations do not imply causation, the figure underscores the potential benefits of reducing regulatory barriers to enhance growth and competitiveness, especially in less developed economies. The most prominent way in which PMR affects labor market outcomes is by altering the degree of competition in an economy. In the presence of strong market power by individual firms, quantities are often artificially restricted for rent-seeking purposes, resulting in higher prices than those that would be expected in a competitive market setting. Increased competition in the product market affects workers in four ways: First, increased competition will lead to more production, which increases the demand for labor (Blanchard and Giavazzi 2003). Second, competition decreases the prices that producers can charge for their output and thereby decreases profit margins or the marginal return of labor, which is reflected in lower (nominal) wages (Spector 2004). Over time, this effect can be offset by technological progress spurred by competition (Marino et al. 2019). If production technologies improve, they will increase the marginal return of labor and put upward pressure on wages. This constitutes the third channel through which competition affects workers’ well-being. Finally, and probably most obviously, because employees are not only workers but also consumers themselves, lower prices of consumption goods will increase the number of products that can be afforded with a given nominal wage, implying an increase in real wages through the consumption price channel (Blanchard and Giavazzi 2003; Spector 2004). The concept of dynamic efficiency highlights how increased competition enhances product market adaptability and flexibility (OECD 2018). When entry barriers are lowered, new firms often bring in new ideas, and incumbents face greater incentives to innovate. Relatedly, research has documented that well- 7 The OECD’s PMR indicators rely on extensive questionnaires administered to local authorities and cover topics such as rules on firms’ ownership structures, the governance of state-owned enterprises (SOEs), government involvement in business operations, public procurement processes, or the complexity of regulatory procedures. The final indicators then range from (0) to (6), where (0) indicates the international best practice (OECD 2018). 21 designed PMRs can enhance the resilience of labor markets to adverse economic conditions. Intuitively, when markets are less constrained by procedural rules and entry/exit barriers, they can operate more smoothly, finding faster solutions to exit moments of crisis. For example, De Serres, Murtin, and De La Maisonneuve (2012) show that unemployment is less persistent in OECD economies with less regulated product markets, which has direct implications for the welfare of a country’s workforce. Similarly, Cacciatore and Fiori (2016) find that product market deregulation reduces the welfare costs associated with business cycle fluctuations in EU countries. Figure 5. Middle East and North Africa region’s high presence of SOEs is associated with lower labor productivity growth compared to income peers Source: Islam, Moosa, and Saliola (2022). The impact of these mechanisms on aggregate labor market outcomes such as overall employment and wage levels is highly dependent on the institutional context and implementation of the product market reform (Nicoletti and Scarpetta 2005). In a recent analysis drawing on extensive data on PMRs across eight middle- and high-income economies in the Middle East and North Africa (MENA) region, Islam, Moosa, and Saliola (2022) argue that regulatory policies in the region have stunted the private sector, dominated by small, low-productivity firms. The collected data enabled, for the first time, comparison of several indicators of economy-wide distortions from state involvement in product markets, benchmarked against 37 high-income and 14 upper-middle-income countries from the 2018 PMR database. 8 They found that the lack of dynamism and persistent state presence, especially through state-owned enterprises (SOEs), contributes to the stagnation of labor markets in MENA (Figure 5). Firm entry rates remain low, growth is not led by the most productive firms, and firms exiting the market are not the least productive. Additionally, firm mobility is minimal: nearly all firms that were small in 2016 remained small by 2019. This unproductive structure limits MENA countries’ global competitiveness and restricts opportunities for their populations. 8 OECD and World Bank Group-OECD Product Market Regulation Database, 2018–2020. 22 In addition, literature highlights a temporal trade-off, where increased competition may negatively impact employment and/or real wages in the short run but positively in the longer run (Bouis et al. 2020; Cacciatore and Fiori 2016; Gal and Hijzen 2016; Griffith et al. 2007). Three additional mechanisms can be leveraged through changes in PMRs. The first channel pertains to worker safety and sustainable production practices. Well-designed PMR can uphold workplace safety standards by mandating, for instance, that firms use safe machinery regularly inspected by accredited entities. PMRs can also impact the allocative efficiency of resources across firms and sectors (OECD 2018). Factor misallocation is an important contributor to cross-country productivity differentials (for example, Restuccia and Rogerson 2008, 2017), often due to misguided PMR that constrains firm operations. Examples include size-dependent distortions, such as costly reporting requirements that only apply to firms that exceed a certain number of employees or market capitalization, or ownership restrictions that limit firm growth. In developing countries, where informality is prevalent, such distortionary policies may discourage firm registration, certification, and licensing, preventing workers from benefitting from social security (Meghir et al. 2015). Finally, the importance of well-functioning product markets is heightened by existing upstream and downstream linkages in an economy (Barone and Cingano 2011; Bourlès et al. 2013; van der Marel et al. 2016). Literature has empirically shown the importance of such linkages by examining efficiency spillovers from the professional service and network sectors to other parts of the economy. Professional judicial, accounting, or real estate services are key enablers for the smooth operation of downstream industries such as manufacturing or retail. The same is true for the network sector, which provides services such as electricity, transportation, or telecommunication to producers further down the line. From a model perspective, these services can be seen as intermediate inputs for production and influence the efficiency in the production of final goods. The argument about how intermediate inputs affect overall productivity is thereby similar to the findings of Melitz and Redding (2014) regarding the productivity gains achieved through more intense trade integration. 23 V. Product market regulation and the structural transformation process In this section, we build on the analysis from Section III on LMR and apply a similar approach to PMR, estimating the association between PMR policies and indicators of structural transformation. Figure 6 presents a comparable empirical exercise, this time examining the contemporaneous association between PMR instruments and structural transformation indicators. As previously mentioned, PMR indicator coverage remains very limited, with data available only for a selection of high- and middle-income countries in 2018. This limited coverage restricts our ability to mitigate reverse causality by lagging regulatory indicators, which introduces potential bias. Specifically, if HICs tend to have lower levels of PMR (as seen in Figure 4 and previously for LMR), observed associations may partly reflect income effects. Despite these data and methodological limitations, a notable difference emerges in the magnitude and consistency of the association between PMR and structural transformation compared to LMR. The results are both consistent and economically coherent, suggesting that PMRs have a far more economically consequential, negative association with each of the structural transformation indicators. 24 Figure 6. Associations between PMR indicators and indicators of structural transformation a. Sectoral–non-agricultural employment share b. Spatial–urban population rate c. Occupational–high skill employment rate d. Organizational–self-employment rate Source: Authors’ estimates using OECD and World Bank indicators of PMR and GMD, 39 - 46 country observations 2018 Note: Figure 6 presents 95% confidence intervals of the estimated contemporaneous association between four indicators of structural change and LMR indicators in percentage point terms. Due to data limitations, country fixed effects are not included, and the structural change indicators are not lagged (they are contemporaneous). The self-employment rate is included as a control in each regression except those in Panel (d). 25 VI. How regulations fall short in LICs and MICs. The current approach to labor and PMR assumes the existence of a universally appropriate regulatory framework that, once put in place, will require only minor adjustments over time to support efficient and equitable, jobs-rich growth. There is little consideration of how the selection of regulatory tools—or their specific deployment—would optimally vary according to a country’s stage in the structural transformation process, as observed along the four dimensions. While it is possible that regulations gradually evolve as countries advance through different stages of structural transformation—potentially evidenced by less restrictive LMR and PMR in HICs—this would require further longitudinal analysis or country case studies to confirm. Nonetheless, the implicit message of the current approach to policy makers is that by simply establishing this regulatory framework and investing in government capacity to administer it, employment outcomes will improve. The underlying assumption—sometimes stated, but in most cases implied—is that all countries will follow the same path of structural transformation and economic development. This approach, however, lacks an appreciation for differing development paths and, along these, for how the nature and severity of market failures will evolve as economies transform, changing the way people work. Prevailing institutional and regulatory models were established when structural transformation primarily meant a large-scale shift of workers from agriculture into manufacturing and eventually into services. These regulations are thus crafted in a way that is more suitable to manufacturing jobs and increasingly showing strains in economies where services are already or rapidly becoming dominant. This misalignment is a growing concern as many countries' transformations are now driven by services-led growth, with manufacturing no longer as productive or labor intensive as it once was (Rodrik and Stiglitz 2024). Regulatory frameworks adopted during the industrialization waves of the 19th and 20th centuries, predicated on mass wage and salaried employment, actually apply to a relatively small part of the labor force in LMICs, with much lower shares of dependent employment than in Europe and North America when the prevailing models were adopted. 9 In most countries of sub-Saharan Africa and South Asia and even the HICs of East Asia and Latin America, well over half of workers are engaged in self-employment or family enterprises. Job security rules, minimum wages, and other regulations cannot be applied in any relevant way (Betcherman 2021). Similarly, the standard labor regulations assume far less labor mobility across geography and between sectors, as well as much longer employee-employer relationships than the norm in most LICs and MICs and even in the advanced OECD-member economies. This misalignment persists even within formal, private sectors of these economies. Another key consideration is the limited monitoring and enforcement capacity of LIC and MIC governments. Even in the more structured, formal parts of developing country labor markets, compliance remains a formidable challenge. Employers seeking to avoid the costs of complying with labor regulations and employees aiming to maximize their take-home pay can more easily operate ‘off the books’ (Betcherman 2021). When governments are unable to enforce regulations uniformly and consistently, 9LMR depends also on historic legacy (inherited labor codes from Napoleonic vs. common law regimes) and path-dependency thereafter (cite La Porta 2004 or followers). This means there were limited considerations to the needs of the emerging market economies when these were introduced, and some developing countries may have been less lucky than others. 26 these can become a ‘tax’ on growing enterprises keen to achieve more productive scale and reach broader markets. Box 3: Regulation of digital platform work Digital work platforms—including location-based platforms, such as Uber and Lyft, and remote-work platforms, such as Amazon Mechanical Turk and Upwork—are a growing part of the global labor market, accounting for 4.4 to 12.5 percent of the global labor force (World Bank 2023a). As the services sector continues to play an increasingly important role in LMIC economies’ structural transformation process, and as digitization continues to take hold, the role of online platform work in LMICs will also grow in importance. Estimates suggest LMICs account for 40 percent of traffic to online platforms, and demand for online platform workers has risen faster in LMICs than in HICs (World Bank 2023a). The growing availability of online platform work in LMICs could bring about promising benefits. In theory, digital platforms might eradicate search frictions and bring about efficiencies in labor and product markets. There is also evidence to suggest that online platform work can provide opportunities for youth, women, relatively low-skilled workers, and people in areas with insufficient local jobs, while also widening the talent pool for firms and employers (World Bank 2023a). In LMICs, online platforms could also be a channel through which governments can identify and expand social protection coverage to workers who might otherwise work in the informal sector. Yet the rise of platform work also exposes workers to significant vulnerabilities, underlining the need for protective measures. Employers in these platforms tend to have a high degree of monopsony power, causing workers to be paid less than they should be paid based on their productivity (Dube et al. 2020). Workers might also be exposed to mistreatment or lack of pay by digital firms and clients: almost nine out of ten workers in an ILO survey have had work rejected or have had payment refused (Berg et al. 2018). In part, this reflects a broader asymmetry of information between workers and platform employers. Workers may not always be able to avoid ‘bad’ online jobs or firms as they often do not have good information about the quality of tasks and the employers who assign them, even though employers are often able to pick and choose workers based on public reviews and ratings (Kingsley et al. 2015; Holtz et al. 2022). Adding on to these vulnerabilities is a lack of social protection coverage for online workers, mirroring the conditions in informal labor markets: survey data shows about half of platform workers do not subscribe to a pension or retirement scheme, with this proportion reaching numbers as high as 73 percent in República Bolivariana de Venezuela and 75 percent in Nigeria (World Bank 2023a). Should regulation play a role in protecting online platform workers? If so, to what extent and through which kinds of regulation? While the above facts suggest that a minimum level of regulatory protections might be warranted, crafting regulations for digital platforms comes with its own set of challenges. ‘Traditional’ labor regulation might not translate well, given the lack of traditional employee-employer relationships and ambiguous borders between firms and entire markets in the online space. The regulatory approach might need to differ for location-based versus global online platforms, as workers in the latter are spread across multiple different labor markets in different countries. The empirical evidence on these questions remains thin, particularly so for LMIC contexts. Yet the evidence that does exist appears to suggest that carrying over ‘traditional’ regulations, such as minimum wages, to the online platform space requires careful thought of the trade-offs involved. For example, evidence on introducing minimum earnings schemes in both location-based and non-location-based platforms suggests that wage floors might increase earnings for some workers at the expense of pushing other workers off the platform or reducing their earnings. Some workers lose because wage floors might lead to reductions in hiring or reductions in customer demand that result in an oversupply of workers (Jardim et al. 2022; Horton 2018; Asadpour et al. 2022). 27 Overall, the design of new regulations for online work should consider not only the features that are unique to online platforms but should also expand beyond a confined focus on LMR and consider complementarities with PMR and social insurance measures, particularly given the challenges of monopsonistic power and low social insurance in digital work. When administrative capacity is low, labor regulations can become tools of punishment or of patronage in countries where governance and recourse structures are weak or missing. Rather than ‘top-down’ regulation, policy may be better deployed to ensure access to collective bargaining as well as representative, transparent structures for ‘social dialogue’. Looking ahead, other pressures on the demand for and supply of labor and skills are making themselves felt. For example, the evolution of supply chains, advancing and increasing adoption of digital technologies, and demographic imbalances (economies experiencing rapid population aging bordered by countries with growing youth bulges) are reshaping the market for labor and skills. Although this is mostly observable in HICs and MICs, these pressures are being felt in LICs as well. The first two have led to a dramatic reorganization of manufacturing and unprecedented expansion of domestic and international markets for goods and services, while pushing down transaction costs past the point at which it is economic to organize production in hierarchical firms (that is, a direct challenge to Coase’s 1937 transactions costs theory of the firm). These trends have enabled a plethora of non-standard production arrangements, including non-standard employment and intermediation of demand and supply on digital platforms (Box 3). The third, demographic trend, presents a formidable economic and fiscal challenge to the social constructs of ‘working age’ and ‘retirement’, presenting strong incentives for people to spend more time in formal education/skills building, as well as the imperative that they remain economically active for a longer portion of their lives. 28 VII. The case for an alternative approach Cross-country differences and dynamics over levels of development suggest the need for an alternative approach to regulation. Market power, information asymmetries, missing risk markets, and other market failures are not homogenous across countries or static over time. These market failures are likely to vary across economies and in the same countries over time, most critically as they move through the structural transformation. To counter and correct these failures, the regulatory interventions that are appropriate and most effective will also vary. Evidence gathered for this paper suggests the LMR plateau metaphor can be expanded and enriched for the benefit of good policy making. As presented in WDR 2013: Jobs, the LMR plateau, as evoked in Figure 1, tells us that labor market outcomes are a function of regulation: a given ‘value’ of regulations results in a given ‘value’ of labor market outcomes. Although these are not numeric in reality, high ‘values’ of regulation can represent a stringent level of regulation, while high ‘values’ of labor market outcomes are more desirable than lower ones. The flat shape at the top of the plateau indicates there is a broad range of values that regulation can take that would lead to the highest possible (or optimal) value for a labor market outcome. This metaphor can be further enriched by adding a second dimension—PMR. By incorporating PMR into the plateau metaphor, we see that the relationship between LMR and labor market outcomes might vary based on the level of PMR. As a result, the shape of the plateau also varies along this new dimension: the highest possible points on this enhanced plateau—the optimal outcomes—are different based on the values of both PMR and LMR. As alluded in the introduction and explained in later sections, PMR directly affects employer power, as well as the quality of risk-sharing options outside of the employment contract, narrowing the ‘plateau’ and shifting the ‘cliffs’, or the location of the optimal points (see Figure 7). Figure 7. The labor and product market regulation “saddle” Source: Authors’ updated interpretation of the LMR ‘plateau’. 29 One could imagine further extending this metaphor to add yet another dimension—the social protection dimension. With PMR and social protection dimensions factored in, policy makers will be less indifferent to LMR values that fall within the original plateau’s optimal range. Some of those values will be distortionary. The optimal level of LMR will depend on the levels of other PMR and social protection parameters. Thus, setting LMR at a given level is neither inherently good or bad; its appropriateness has to be evaluated at the level of other contextual parameters such as market concentration and social protection safety nets that offer supplementary income to workers, and so on. For this same reason, policy makers cannot simply copy other countries’ regulations. While a core LMR standard is still feasible—which in the mapping of Figure 7 would be the level at which you cut the graph’s surface, the multidimensional surface above can be optimized further by calibrating PMR and social protection more precisely. Take the example of firm market power. In contexts where capital is scarce relative to labor, market employment often concentrates in a few firms. If in addition to scarce capital, geographic barriers and missing or incomplete connecting infrastructure add to people’s ‘search frictions’, it comes as little surprise that at the earliest stages of the structural transformation process, labor markets are mostly monopsonistic. Textbook examples suggest that labor regulation set at ‘plateau’ levels improves the efficiency and employment outcomes of monopsonistic markets: firms with market power depress wages below workers’ marginal labor product and even below people’s reservation wages, which discourages entry into the labor market and even household investment in human capital. If in addition to these initial conditions, a government pursues an expansive PMR policy such as import-substituting industrialization, a monopsonists market power can be augmented. Alternatively, if the government pursues a policy of investing in connective infrastructure and encouraging product market competition that encourages more capital investment, the monopsonists’ power is constrained and even reduced by new entrants competing for labor to put their capital to work. Furthermore, governments’ commitment to building a strong, efficient, inclusive, and responsive social protection system, could create space for greater regulatory flexibility. All countries have a social contract and almost all such contracts have equity, risk sharing, and economic inclusion clauses. These of course vary widely in their relative weights and stipulations. Policy makers in many LICs and MICs pursue equity, risk sharing, and inclusion objectives through regulatory mandates, for lack of progressive taxation and social protection systems. This reliance on mandates has two adverse consequences: first, large gaps in effective, essential coverage emerge when firms can evade or simply do not have the capacity to provide mandated protections; second, collateral damage in the form of curtailed demand for labor and even job destruction where mandates are deployed too broadly or intensively. The World Bank’s recent risk- sharing white paper (Packard et al. 2019) argues that there is a natural hierarchy of specific equity, risk- sharing, and inclusion objectives, based on simple insurance and public goods criteria. This hierarchy determines what governments should consider ‘core’ or of such high priority that they cannot afford to leave to firms' voluntary compliance. 30 Figure 8. Categories of labor policies Source: Packard et al. (2019). If the optimal labor (and product) market regulatory framework is in fact dynamic and its parameters are ideally managed much as an economy’s reference interest rate, it then follows that the vital institutional investment for governments to make is not in establishing an inflexible regulatory code for the ages (in many cases, one that has been imported, negotiated, and formulated in a different economy, at a different time). Rather, governments need to invest in their capacity to observe and monitor how market failures change (that is, to identify the observable indicators of these changes) and to design and adapt regulations accordingly. For labor markets, this monitoring could take the form of labor market pbservatories (LMOs) embedded within or reporting to government bodies (that is, Ministry of Labor, Ministry of Education, or Public Employment Service) and staffed and equipped to provide “relevant and timely information on labor market trends” (Rutkowski and de Paz 2018). This type of monitoring would need to be expanded and strengthened to also cover product market side and to go beyond tracking broader labor market trends but also pinpoint market failures specifically. Governments that followed this proposed dynamic, adaptive approach might have avoided putting in place regulations that have delayed or otherwise hindered essential structural transformations. Similarly, they might have taken regulatory action sooner, avoiding a buildup of sociopolitical pressures that can result in mass movements that push regulations ‘off the plateau’. Some of the forces reshaping markets and market failures are also likely to impact governments’ administrative capacity to monitor, adapt, and enforce regulations. Given these shifts in economies and how people engage in markets to make a living, the challenge for policy makers may go beyond simply setting existing regulatory instruments appropriately but rather in designing and deploying new interventions. A contributing factor to stakeholders and governments 31 clinging on to anachronistic regulations is the lack of adequate social protection (risk-sharing and risk management) instruments that are sufficiently resilient and responsive to structural changes. What might a new package of interventions look like? A greater emphasis on rent-sharing structures in worker remuneration that align employer and worker interests in raising firms’ productivity; innovative risk-sharing plans to better protect risk-averse people from cyclical downturns; coverage of large, catastrophic losses—and of losses with substantial negative externalities if left uncovered—that is available regardless of where and how people work; a far greater public investment in delivering tailored job-search support services and subsidies than is currently made in any LIC or MIC; and probably most importantly, greater reliance on the adaptiveness and agility of discussions between stakeholders across more inclusive, representative collective bargaining institutions than on rigid legislation to regulate the labor market. These interventions could promote adaptable, equitable labor markets, whether or not structural transformation is the central focus, well-suited to each economy’s labor market and institutional context. For instance, Japan’s Shunto wage negotiation model aligns wages with productivity through annual negotiations based on economic conditions. Germany’s Kurzarbeit program subsidizes reduced hours during economic downturns, helping both employees and firms weather temporary shocks. Denmark’s flexicurity model combines flexible employment practices with comprehensive social insurance, providing coverage across employment types and smoothing labor transitions. Singapore’s Adapt and Grow initiative aids job transitions with job matching, training grants, and wage subsidies for displaced workers. Finally, Sweden’s collective bargaining approach enables sector-specific agreements, setting adaptable standards for wages and working conditions. These examples illustrate how, with careful context- matching, the proposed measures can strengthen labor markets across varying stages of transformation. 32 VIII. Market governance and the political economy of regulation The political economy of market regulation and market governance structures can challenge the proposed dynamic approach. Regulatory instruments, once deployed, are often difficult to withdraw or replace, even when they become ineffective or misaligned with structural transformation objectives. This rigidity can lead to a proliferation of instruments with the same or similar original justifications and objectives, resulting in unintended distortions. A prime example of this ‘over-coverage’ is the parallel existence in many countries of severance and unemployment insurance. The consequence is an ever-growing de jure package of protections that is difficult for any business—even SOEs—to sustainably offer to workers. This challenge does not argue against a dynamic approach; it highlights the importance of introducing regulatory instruments selectively and with consideration for the specific context. This approach helps ensure that regulations remain relevant and manageable, facilitating timely adaptations. Box 4: ‘Over-coverage’ of formal employment protection in Ecuador Formally hired workers in Ecuador are some of the most protected by labor market regulations in the entire Latin America and Caribbean region, that is, at least on paper. The cost of hiring a formal worker in Ecuador is 1.3 times higher than the average in Latin America (World Bank 2023b). This includes both wage costs— based on a minimum wage that has been increasing steadily and at a faster rate than regional peers since 2005—as well as non-wage costs, such as mandatory contributions, bonus and profit-sharing payments, annual leave, severance payments, and dismissal notices (World Bank 2023b). The latter category of costs represents 2.3 percent of GDP per worker, which is 0.6 percent above the average in Latin America. In addition to being eligible for many different types of wage and non-wage benefits, formally hired workers in Ecuador are often entitled to benefits with duplicative or redundant purposes. Perhaps the most poignant example is the case of consumption smoothing and income security in the wake of job loss. There are four different, overlapping benefit instruments with this objective: (a) severance in the event of an involuntary dismissal; (b) severance when a worker resigns (called desahucio in Spanish); (c) a one-time access to a payment from an individual savings-for-unemployment account with mandatory contributions for formal workers; and (d) access to regular payments disbursed over a maximum period of five months from the same account (World Bank 2023b). 10 There is evidence to suggest that the over-coverage of formal employment protection is inhibiting firms from offering formal employment, thus hampering the development of good, formal jobs across the economy. Facing such steep formal labor costs, firms are responding by adopting labor-saving technologies and increasing their reliance on informal labor or by informalizing entirely. Estimates suggest that around 50 percent of the population is working informally, with informality in rural areas as high as 70 percent (World Bank 2023b). Given the duplicity of regulatory protections and their adverse effects, why do they persist? Three characteristics of the political economy of labor market regulations in Ecuador provide some insight: 10 The cost of severance is high and commonly incurred: severance for a worker with five years of tenure is two times higher than the Latin American average, and workers are entitled to receive severance only 90 days after firms hire them (World Bank 2023b). Unemployment insurance payments also create costs as they are covered by contributions from firms (equal to 1 percent of wages) and workers (2 percent of wages) (World Bank 2023b). However, only about half of all workers end up receiving the two types of benefits coming from the unemployment insurance account, as they must meet certain tenure and contribution requirements. 33 1. Many labor protection measures are explicitly mandated in the Constitution. One example is the constitutional prohibition of outsourcing and hourly work contracts. Reforms to these protections would require a politically difficult and unlikely constitutional assembly. They would also require an extended time horizon, which has been rare for cabinets in the country over the past decades. In addition, the Constitution safeguards the concept of ‘acquired labor rights’, meaning that once a labor benefit or protection has already been granted to a worker, it cannot be taken away. 2. The executive branch faces a tight and difficult bargaining environment. Even if the executive branch wishes to modify labor regulations not enshrined in the Constitution, any successful reform must surpass a set of deals and consensus-building involving civil society and Congress (Echeverry and Santamaria 2004). However, the Ecuadorian government cannot easily identify the precise winners and losers from some of these policies and therefore cannot easily negotiate with them. Because workers move back and forth between formal and informal employment, it is difficult to know which workers would be eligible to claim formal benefits, such as unemployment insurance, at any specific point in time. Modifications to these benefits are therefore likely to meet diffuse but widespread backlash from workers who might perceive themselves to be potentially eligible for the benefit at some point, even if they are not necessarily eligible in the present. In addition, the executive branch is limited in the policy alternatives that it can bring to the table when negotiating, precisely because the menu of regulatory options is constrained in the Constitution and legal code. 3. Where room for negotiation does exist, it tends to be exclusionary, leading to outcomes that do not benefit marginalized firms and workers. One example is the setting of the private sector minimum wage, which includes a national minimum wage and minimum wages by sector and occupation. These second category of wage floors are decided through a yearly bargaining process between workers, employers, and government representatives in Sectoral Wage Councils in charge of fixing more than 2,000 minimum wages (World Bank 2023b). Despite aiming to decentralize the process of wage setting, these Councils often exclude voices from small, medium, and microenterprises. They also exclude most workers, especially those from vulnerable groups: seats for workers in the Councils are filled by unions that only represent 5 percent of formal workers and that tend to over-represent public sector workers and workers from state-owned enterprises. Separating the process into multiple different councils also dilutes the probability of accomplishing across-the-board reforms. Similarly, efforts by the executive branch to introduce more flexibility in labor contracts have been limited to workers in specific sectors (for example, flowers, bananas, tourism, agriculture, and livestock), reflecting a bargaining process that is more bilateral and private in nature than the broad consensus-building approach needed for deeper reform. Another governance failure evident in many countries is LMR and PMR working at cross purposes: the former, is explicitly designed to strengthen the bargaining position of workers; the latter, whether intended or not, has often led to a strengthened position of employers, particularly large, often SOEs. Depending on market conditions before regulatory intervention, a ‘first move’ by a policy maker can have an impact that provokes a response. This dynamic can result in market regulation being used principally as a political instrument rather than a technocratic one. Interest groups and policy may further complicate this dynamic by opting for the political path of ‘least resistance’, often supporting regulations that protect elite market power. Such regulations can limit creative destruction, stifling productivity, growth, and job creation. In an apparent distortion of the structural transformation process, the market power of firms is growing in many parts of the world (Diez et al. 2018), fueled by (ostensibly) well-intended but poorly crafted PMR, the advantages of network effects conferred on certain providers of services, as well as weak or often negligent competition authorities. For instance, Fernandes and Silva (2021) show that in Latin America and the Caribbean, 34 product market concentration affects the magnitude and distribution of crises’ effects on workers. Shocks cause greater losses in employment and wages in sectors with low market concentration (many players). In contrast, in sectors where a few players hold a large share of the market (high market concentration), shocks actually increase employment and wages do not adjust—the reverse of what normal economic mechanisms would bring about. Whether certain LMRs help or hinder employment outcomes is also influenced by the extent of product and service market concentration and how this sets the bargaining power of employers relative to that of workers. In light of these findings Silva et al. (2021) posit that in many Latin American countries market concentration reflects close familial and social ties between the political and entrepreneurial elite, resulting in protectionism and favoritism in domestic markets, favoring incumbents and strangling new entrants (citing Clarke, Evenett, and Lucenti 2005; De Leon 2001; OECD 2015). Ensuring competitive and contestable markets has long been a challenge in LMICs, where governance institutions are weak and can be especially vulnerable to oligopolistic pressures and collusion problems. These are dangers at every stage of the structural transformation process and will continue to be as economies shift into digitally delivered services (Alzate and Morgandi, forthcoming). To the extent that a few, large, elite-owned enterprises (or even SOEs) concentrate the minority of formal (that is, regulated, taxed, and protected) employment, they can afford to pay a relatively generous share of oligopolistic rents to their workers. In most LMICs, these employers and their workers are the most likely to organize and occupy seats at collective bargaining tables. At these tables—which rarely include representation of small and medium businesses, people who are self-employed, and those who are in irregular or informal jobs— incentives are strong to agree on overly restrictive regulations that sustain the status quo. The necessary mitigating or remedial policies are clear: to support more representative and transparent market governance institutions that reflect and represent the interests of all firms and working people, as well as to build stronger agencies to monitor and enforce the contestability of markets. 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Washington, DC: The World Bank. 41 Social Protection & Jobs Discussion Paper Series Titles 2025 No. Title 2501 São Tomé and Príncipe Unpacking Migration Dynamics: Critical Issues and Policy Recommendations 2502: Regulating Markets So More People Find Better Jobs To view Social Protection & Jobs Discussion Papers published prior to 2021, please visit www.worldbank.org/sp. ABSTRACT This paper proposes a dynamic regulatory framework that adapts to the evolving structural transformation of economies across sectoral, spatial, occupational, and organizational dimensions. It highlights how well-designed and appropriately enforced labor and product market regulations (LMR and PMR) can enhance labor market outcomes, support job creation, and improve employment quality. A dynamic approach involves tailoring regulations to economic shifts, market failures, and administrative capacities, fostering structural transformation while addressing emerging challenges associated with service-led growth and digitalization. The paper advocates for a much greater investment in labor market observatories (LMOs) as tools to guide data-driven, agile regulatory responses akin to monetary policy adjustments. By integrating LMR and PMR, it outlines a path toward sustainable economic transformation, while discussing political economy challenges inherent in implementing dynamic regulatory frameworks. JEL CODES J20, J30, J8, K2, L5 KEYWORDS Labor market regulation, product market policy, employment, wage, productivity, worker protection, firm competition, public policy. ABOUT THIS SERIES Social Protection & Jobs Discussion Papers are published to communicate the results of The World Bank’s work to the development community with the least possible delay. This paper therefore has not been prepared in accordance with the procedures appropriate for formally edited texts. For more information, please visit us online at www.worldbank.org/socialprotection