Wage Structure in the Transition of the Czech Economy

From the perspective of market economies, central planning produced distinct distortions in the wage structures of socialist countries. This paper examines the extent to which wage structures have adjusted to remove such distortions during the economic transition using micro-data from the Czech Republic. There is strong evidence that Czech wage structures are moving toward patterns in market economies, and the change is led by developments in the private sector and retarded by the sluggish response in state enterprises. At the same time, the establishment of collective bargaining does not appear to be introducing countervailing distortions into Czech wage structures.

Abstract

From the perspective of market economies, central planning produced distinct distortions in the wage structures of socialist countries. This paper examines the extent to which wage structures have adjusted to remove such distortions during the economic transition using micro-data from the Czech Republic. There is strong evidence that Czech wage structures are moving toward patterns in market economies, and the change is led by developments in the private sector and retarded by the sluggish response in state enterprises. At the same time, the establishment of collective bargaining does not appear to be introducing countervailing distortions into Czech wage structures.

I. Introduction

In the early postwar period, the central planning systems of eastern and central Europe pursued higher growth by raising labor force participation and increasing capital investment. Over time, however, this contribution to growth was countered by systemic failures to allocate workers to the sectors in which their potential productivity was highest and to elicit high levels of worker performance within organizations. The resulting decline in total factor productivity growth, which figured prominently in the collapse of central planning systems, rested importantly on the failure of the system to devise adequate incentives to solve the labor allocation and performance problems.

There is a strong presumption among economists that transition from central planning to more market-oriented economies should eliminate the inefficiencies associated with central planning. Given the initial pattern of distortions, this process should produce radical changes in relative wages and an increase in overall wage inequality. Nevertheless, there is no clear understanding of how or how rapidly the required wage structures and enterprise wages policies will emerge.

Nor has the possibility that the transition process might produce countervailing distortions--common in market economies but absent under central planning--received much attention. Foremost among the potential sources of wage structure distortions accompanying the economic transitions is the reconstitution of labor unions into genuine collective bargaining organizations. However, the adjustment of wage structures in transition economies may also be thwarted by the wage rules applied via incomes policies--a clear case of short-run stabilization policies conflicting with the fundamental objectives of the transitions. The consequence of reduced relative wage flexibility from any source is an increased reliance on quantity adjustments, notably unemployment and labor force withdrawal, in transition economies.

This paper examines the extent to which wage distortions under central planning have been reversed during the transition and the extent to which countervailing distortions have been introduced, using micro-data from the Czech Republic. The data are from employment and labor force surveys conducted between June 1988 and November 1993. In addition to providing information on wage, schooling, and demographic characteristics of respondents, the most recent survey includes information on union status, presence of foreign investment, and other institutional features of labor markets in the Czech Republic. Section II proceeds from a review of the labor market setting under central planning, which provided the point of departure for the transition, to an analysis of the recent evolution of the wage structure in the Czech Republic. A defining feature of a transition is the growth of a private sector, and Section III explores how this development contributes to the observed changes in wage structures. Among the questions considered are: Does the private sector play a leading role in the evolution of the wage structures? How does the state sector respond to developments in private sector wage structures? The data permit an assessment of developments in the two major components of the private sector--former state enterprises that have been privatized and new private firms.

Section IV addresses differences in wage policies between the state and private sectors and between two components of the private sector--privatized state firms and newly created private firms. Section V of the paper examines the pattern of union representation and the extent to which the development of collective bargaining has influenced wage structures. The final section discusses the policy implications of the findings.

II. Evolution of the Wage Structure

This section examines the evolution of wage structures in the Czech Republic between 1988, a pretransition year in which virtually all activity was in the state sector, and late 1993, when the rapidly emerging private sector and privatized state enterprises accounted for about half of employment. The point of departure is the distinctive wage structure achieved under central planning. Central planners wished to encourage the development of goods-producing sectors of the economy (particularly heavy industry) and discourage production in services and most intellectual activities outside the hard sciences. In establishing a national wage structure--the so-called “tariff” wage scale for each job category--in the early postwar period, central planners gave some weight to education, the unpleasantness of the job, and other factors familiar to Adam Smith, but also altered relative wages to reallocate labor in accord with their objectives for industrial development. By the mid-1950s east European economies experienced large relative wage increases in industry and construction and relative wage decreases in trade and services (Adam (1984)).

The devaluation of “mental” work relative to “physical” work by central planners also influenced the schooling and training of the labor force. Vocational training was emphasized over advanced educational attainment and the limited university slots were often allocated on the basis of political affiliation and activity. From the perspective of market economies, east European economies entered their economic transitions with overinvestments in vocational-apprenticeship training and underinvestments in university education. As a result, the average returns to schooling in east Europe under central planning were lower than returns to schooling in most market economies (Flanagan (1994b)).

The official tariff wage structures with the preferences that they incorporated were abandoned with the demise of central planning, leaving relative wages free to adjust subject to new institutional constraints. The rest of the paper examines the nature of these adjustments using data for June 1988 (18 months before the revolution) and November 1993 (about four years into the transition). The analysis for 1988 uses over 16,700 observations from the Microcensus conducted by the Czech Federal Statistical Office. The data for 1993 are from the Survey of Expectations and Attitudes conducted in November by the Institute of Sociology at the Czech Academy of Sciences. The survey covers adults 18 to 60 years of age and uses two-step quota sampling, with the first step defining the region size of locality, and the second defining gender, age, and education. The survey responses provide basic economic and personal data as well as the attitude of respondents to economic and political aspects of the transition. Moreover, the survey procedures guarantee respondents from both state and private enterprises. The November 1993 survey includes questions on several aspects of human resource management as well as respondents’ knowledge of and support of unions. This survey included 1113 respondents from the Czech Republic. Data for the 754 employed respondents are analyzed in this paper.

To examine the post-transition evolution of the wage structure, these data are analyzed with a human capital earnings function, in which the natural logarithm of the monthly full-time wage (net of social benefits) is regressed on years of schooling and potential experience (age minus school years minus six) variables. The regressions also include a dummy variable for gender. The average rate of return to another year of school (the coefficient on the school years variable) moved from 4.3 percent in 1988 to 4.9 percent in 1993.2 Given the distortions in educational choices discussed above, however, it is of particular interest to examine changing returns to specific levels of educational attainment.

The regression results in Table 1 report the wage premia relative to primary school completion associated with completion of vocational (VOCAT), high school (HS), or university (UNIV) degrees. Potential experience is entered as a quadratic (EXP and EXPSQ).3 Regressions 1 and 2 report the economywide evolution of returns to different levels of school completion between 1988 and 1993. Aggregate regressions may obscure key aspects of the transition process, however, since new private firms are unlikely to adopt the wage structures and practices developed in state enterprises under central planning. Moreover, the private sector itself is not monolithic. Pay structures and policies in privatized state enterprises are likely to be subject to organizational inertia not encountered by new private firms. Therefore, regressions 3 through 5 report 1993 returns by three major sectors--traditional state enterprises (State), recently privatized state enterprises (StPriv), and new private firms created during the transition (Private).

Table 1.

Evolution of Returns to Schooling The Czech Republic, 1988 and 1993

(t Statistics in Parentheses)

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Dependent variable is the natural logarithm of the full-time monthly wage.VOCAT = vocational degree is highest completed schooling.HS = high school degree is highest completed schooling.UNIV = university degree is highest completed schooling.EXP = potential experience (age minus school years minus 6).EXPSQ = square of potential experience.PRWORK = employee in private sector.PROWN = employer in private sector.FEMALE = 1.0 if female worker.Sources: Czechoslovak Income Survey (Microcensus) for 1988; Survey of Economic Expectations and Attitudes, November 1993 for 1993.

Between mid-1988 and late 1993, the wage advantage of vocational education over a primary school degree became much less certain in Czech labor markets (regressions 1 and 2). None of the three major sectors reports a statistically significant effect of vocational education on wages in 1993 (regressions 3 through 5). Returns to high school have risen since 1988, although mainly in current and former state enterprises. Returns to a university education increased most rapidly in the private sector, where by 1993 the wage premium associated with a university degree was about 30 percent greater than in the state sector.

Under central planning, returns to (potential) experience were also lower than in market economies. During the transition, these returns became even lower--economywide earnings-experience profiles flattened further since 1988. By 1993, ten years of labor force experience produced half the wage effect it would have produced five years earlier. This is consistent with the hypothesis that recent labor market experience is more valuable than experience acquired under central planning. The finding that returns to experience in the new private sector (regression 5) exceed returns in the state sector (regression 3) is supportive.4

To summarize, since 1988 average returns to schooling increased, and the changing pattern of returns to schooling reflects a reversal of the major distortion created by central planning. Moreover, the empirical analysis indicates that new private firms play a leading role in reversing the wage structure distortions that developed under central planning. Returns to university education have increased, and the gains have been particularly notable in the private sector. At the same time, a vocational degree no longer brings reliably higher wages than a primary school degree. Although there have been some changes in wage structures in the state sector that may reflect labor market competition with the private sector (e.g., some increase in the returns to high school and university degrees), state enterprises mostly appear to retain old relative wage patterns. In terms of their wage structures, privatized state firms looked more like state enterprises than private firms in late 1993, but most had been privatized for less than a year at that time.

There is increasing evidence that both the relative wage adjustments and the leading role of the private sector reported above are not unique to the Czech Republic. Wage inequality and returns to schooling have increased in Poland, led by sharply increasing relative wages for white-collar workers with a university education (Rutkowski (1994)). Returns to schooling in Hungary have also increased (Commander et al. (1993)). Unlike the Czech Republic, both of these countries had significant sectors of private activity operating well before the economic transitions. In contrast, in Romania, where there has been little development of a private sector, there was little change in returns to schooling in the early transition years, and a university degree only provided a 30 percent wage premium relative to high school completion in 1992 (Earle and Oprescu (1994)). Moreover, vocational trained workers have experienced both a falling relative wage and relatively high unemployment rates in several transition economies. Given the leading role of the private sector, a closer examination of private-sector wage policies is in order.

III. The Role of the Private Sector

The Czech Republic entered the transition process with less private sector activity than the other major east European countries, Hungary and Poland. But by early 1993, almost 30 percent of the employed respondents to the Survey of Economic Expectations and Attitudes worked in private employment. The privatization of large state enterprises followed over the next few months, and by the November 1993 survey only about half of employment remained in traditional state enterprises (Table 2). Another 22 percent was in privatized state enterprises, most of which appear to have been state enterprises ten months earlier. Broadly construed, the private sector (including these enterprises) provided about half the nation’s employment in late 1993.

Table 2.

Means and Standard Deviations, Employed Workers in the Czech Republic, November 1993

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Note: See notes to Table 1 and text for definitions. Standard deviations are in parentheses.

Table 2 also provides a snapshot of human resources in the three major sectors in November 1993. Average educational attainment (EDYEARS) is actually lower in new private firms than in the state or privatized state sectors. Moreover, the data imply a distinct disequilibrium in the distribution of educational attainment. New private firms, which provide the highest returns to a university degree but the least reliable returns to vocational education, have the lowest share of workers with university degrees and the highest share of workers with a vocational degree. The tendency for the new private sector to draw workers primarily from the middle of the schooling distribution was first noted in 1991 data (Flanagan (1994b)), and the persistence of this phenomenon two and one-half years later may be indicative of persisting mobility barriers. Employees in the private sector also have less experience than in the state sector, although the returns appear to be greater.

Despite their lower level of human capital investment, full-time employees in the private sector earned considerably more than their counterparts in the state sector in the Czech Republic. (In Table 2, EARN is the monthly wage of full-time workers in Czech crowns and LEARN is the natural logarithm of the monthly wage.) The November 1993 Survey of Economic Expectations and Attitudes identifies both owners and workers in new private enterprises, as well as workers in privatized state enterprises. After controlling for schooling and potential experience, workers (owners) in new private firms earn 18 (43) percent more than respondents in current or former state enterprises (Table 1, regression 6).5 (No significant wage differential had yet emerged between workers in current and former state enterprises, however.) These are large differentials for workers of equivalent human capital, raising the question of how and why they emerge.

One hypothesis is that the differential is necessary to attract labor resources into the emerging private sector. Research in western labor markets has found that labor mobility responds to both relative wage and job vacancy mechanisms. In labor markets with considerable unemployment, the existence of job vacancies may be enough to attract workers from unemployment. With unemployment low, as it has been during the transition in the Czech Republic, wage differentials may also be necessary to attract workers. Moreover, wage differentials are likely to be necessary when private firms hire directly from state firms rather than from the pool of unemployed, as appears to be the case in the Czech Republic and other transition economies (Flanagan (1994a)).6

A second possibility is that the private sector must also offer wages that compensate for differences in nonwage benefits and/or job security between the state and private sectors. Unfortunately, the data in the Survey of Economic Expectations and Attitudes do not include sufficient information to permit direct assessment of this hypothesis. By 1993, it was by no means clear which direction a compensating wage differential should go. The job security advantage of the state sector had clearly declined. Moreover, a 1992 survey of private manufacturing firms in the Czech and Slovak Republics reported that while workers received “few fringe benefits beyond the minimum mandated by labor laws…[f]ringe benefits were about three times higher in new start-ups than in privatized state enterprises” (Webster and Swanson (1993)). Further progress on this issue awaits detailed data on the composition of total compensation packages in each sector.

As a matter of accounting, the gross wage differential between private and state firms must reflect sectoral differences in human capital endowments and/or differences in human capital returns. As noted above, the Czech Republic presents an unusual situation in which workers in the high-wage (private) sector on average have less human capital than workers in the low-wage (state) sector. Thus, the private-state wage differential must reflect different evaluations of human capital by the private and state sectors during the transition. A standard decomposition analysis confirms this and indicates that the much higher return to experience in the private sector is a major source of the private-sector wage advantage.7

IV. Wage Policies During the Transition

The foregoing discussion focused on the evolution of a relative wage structure that would raise productivity through improved allocation of labor. In a world of long job tenures and “career” employment relationships, productivity also depends on incentives established in the internal labor markets of enterprises. As yet, there is little systematic institutional information about the human resource management policies adopted during the transition, and most information must be inferred from wage structure developments in the various sectors. The Survey of Economic Expectations and Attitudes enables consideration of three potential sources of differences between the sectors: (1) the nature of career wage profiles; (2) the role of foreign investment on wage policies; and (3) the use of screening and signalling devices. As before, it will be instructive to decompose the private sector into new private firms and privatized state enterprises.

1. Career wage profiles

Several economic theories stress the desirable incentive effects associated with steep career earnings profiles. The oldest is the notion that steeper career earnings profiles are associated with longer periods of human capital investment, since with a shorter career span, earnings must increase more rapidly to provide a sufficient return to encourage the investment. In addition, the principal-agent literature has stressed the performance incentives provided by relatively steep earnings profiles when work cannot be monitored continuously. Workers who are paid less than they are worth early in their career have an incentive to work sufficiently hard to receive more than they are worth later in life. Flatter profiles produce more equity between younger and older workers, which may encourage more on-the-job cooperation, but otherwise offer weaker incentives. The regression results reported in Table 1 clearly indicate that career wage profiles are most flat in state enterprises and most steep in private firms, a pattern that is consistent with the greater use of wage incentives to foster career attachments in the private sector.

2. Wage policies of foreign investors

The process by which new employers in a transition economy come to adopt wage structures and policies that differ from their prior experience with state enterprises is not well understood. In the markets for goods and services, world prices often provide an immediate benchmark for a transition economy, but channels of information on wages are less obvious. One potential source of transmission of market-oriented policies is foreign investors. Investors may encourage or import from operations in other countries market-oriented wage structures and/or apply wage policies intended to encourage greater effort. In the latter case, there have been anecdotal reports that foreign firms tend to adopt efficiency wage policies in transition economies in an effort to attract and motivate high-quality workers. If this is a general phenomenon, high foreign investment should be statistically associated with high-wage policies.

The November 1993 Survey of Economic Expectations and Attitudes includes questions about the importance of foreign capital. Twelve percent of the respondents indicated that a major part of the financial capital of their organization came from abroad (HIFORKAP); another two percent indicated that foreign capital played a small role (Table 3, top panel). Unsurprisingly, relatively few employees of state enterprises (6 percent) report a major foreign financial influence. There are notable differences in foreign financial presence within the private sector, however. Twenty-five percent of employees in privatized state enterprises report such influence, in comparison to 10 percent of employees in other private firms. In part, this reflects the tendency of foreign capital to flow to the larger enterprises. Foreign capital also tends to be found in relatively high-wage industries.

Table 3.

Foreign Investment and Wages by Sectors, November 1993

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Source: Summary of Economic Expectations and Attitudes, November 1993.

The sample of employees working for firms with HIFORKAP is too small to analyze the effect of foreign investment on the overall wage structure. Nevertheless, it is possible to test for evidence that efficiency wage policies are more likely with substantial foreign investment. To examine whether Czech firms with substantial foreign investment pay relatively high wages for given human capital attributes, human capital earnings functions with a dummy variable for HIFORKAP were estimated for the total sample and each of the three sectors. Only the results for the HIFORKAP variable are reported in Table 3 (bottom panel). We see that economywide, workers in firms with substantial foreign investment appear to earn a wage premium of about 11 percent relative to similarly qualified workers in other firms. This result reflects the tendency of foreign investment to flow toward high-wage industries in the Czech Republic, however, and the finding disappears with the addition of industry dummy variables (second row, bottom panel of Table 3). No significant relationship between wages and HIFORKAP is found for any of the individual sectors with or without controls for industry. It appears that there is no general tendency for firms with substantial foreign investment to follow efficiency wage policies.

Consistent with these wage patterns, firms with HIFORKAP do not appear to attract employees with particularly high investments in human capital. HIFORKAP is most likely to be found in relatively large firms employing comparatively few workers with university education and offering comparatively little training. It is also notable that wage structures in privatized state enterprises, the sector with the largest presence of foreign capital, more closely resemble old pay structures in state firms than new pay structures in new private firms (Table 1).

3. Use of screening and signalling devices

In virtually all hiring decisions, employers are unable to observe all aspects of an applicant’s productive potential, and the applicant is incompletely informed about the prospects of the firm as a place of work. Both parties have an interest in relying on observable characteristics to reduce uncertainty. For example, profit-maximizing employers who view prior unemployment experience as signalling unobservable quality deficiencies will offer workers with such experience lower wages or lower-wage positions. There is already evidence from transition economies that private-sector employers prefer to hire new workers directly from state enterprises rather than from the pool of unemployed (Flanagan (1994a)). Additional evidence may be obtained by testing for wage differences associated with prior unemployment experience. The Survey of Economic Expectations and Attitudes elicits information on unemployment experience in the past two years. When a dummy variable for such experience is added to the basic human capital wage specification, prior unemployment experience does tend to depress wages by about 10 percent in the private sector. Elsewhere, prior joblessness has no significant influence on wages.

V. Unions and Collective Bargaining During the Transition

In Czechoslovakia, as in other former Soviet bloc countries, labor unions had a distinctly circumscribed role under central planning. As workplace organs of the Communist Party, the unions’ major role was to assist in the production process, and representational functions were limited to a kind of grievance handling in rare dismissal cases. Collective bargaining over the terms and conditions of work, as it is understood in the west, did not exist. As in the rest of the region, Czech unions rapidly transformed following the velvet revolution. There was a further alteration in the institutional arrangements following the division of the country into the Czech and Slovak Republics in early 1993.

This institutional development contains the potential for introducing distortions into transition wage structures that were not present under central planning. In market economies, unions have had two types of effects. First, they tend to raise the wage of union workers relative to nonunion workers. In economies in which both a union and nonunion sector can be observed statistically, union wage levels exceed nonunion wage levels for a given quality of worker. The union wage premium averaged 15 percent in the United States between the mid-1950s and late 1970s, but declined somewhat in the 1980s (Lewis (1986)). The union-nonunion wage differential is somewhat lower in the United Kingdom (Addison and Siebert (1992)). Second, unions tend to narrow pay distributions in ways that reduce returns to schooling. Looking across countries, this effect appears strongest in economies with centralized bargaining, where unions can coordinate nationwide “solidaristic” wage policies. But even in countries with decentralized collective bargaining (e.g., the United States), returns to schooling tend to be relatively low among unionized workers. In principle, then, collective bargaining might inhibit the transformation of wage structures inherited from central planning. This section examines the extent to which unions have had such an effect.

Until recently, assessments of union strength in the area came mainly from the membership claims of trade unions. Evidence from surveys of privatized firms in the region indicated that the union representation was largely limited to the state sector. The November 1993 Survey of Economic Expectations and Attitudes now permits a more precise assessment of the pattern of unionization and of the relationship between union representation and wages in the Czech Republic.

Two measures of union presence typically emerge from western labor market surveys in which respondents are asked directly whether they are a union member (the “membership” concept) and/or whether they are covered by a collective bargaining contract (the “coverage” concept).8 The November 1993 Survey of Economic Expectations and Attitudes does not include direct inquiries about membership and coverage, but does ask “Do you support the activities of your trade union?” and offers two levels of yes answers and two levels of no answers. The survey results also indicate a common fifth response, which is that there is no union present. In the following analysis, respondents indicating that they support union activities are counted as union members. These respondents plus those who indicate that they do not support the union but work in an establishment where a union is present are included in the broader measure of union coverage. That is, the computations assume that if a union is present in an establishment, the wages and working conditions of all employees in the establishment are determined by collective bargaining.

1. Patterns of union representation

By these measures, about 37 percent of workers in the Czech Republic are union members, and over 70 percent are covered by collective bargaining (Table 4). The membership estimate is in the upper end of union density rates in west European countries. Coverage rates of 90 percent and above are common in most continental European market economies, but the estimate for the Czech Republic approximates the rates observed in the Netherlands, Norway, and Spain. Both membership and coverage rates exceed those found in North America (OECD 1994, Chapter 5). At first glance, the extent of union representation indicated by these estimates signals the potential for substantial union influence on wage structures during the transition. We now examine the data for clues as to whether the potential is likely to be realized.

Table 4.

Union Membership and Coverage Rates, Czech Republic November 1993

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Includes employees in recently privatized state firms.

Source: Survey of Economic Expectations and Attitudes, November 1993.

The estimates of average union membership and coverage mask a huge difference in the presence of unions in the state and private sectors. Unions have significant representation in state enterprises but barely have a toehold in the new private enterprises that have emerged during the transition. At eight percent, the membership rate in the private sector falls below the lowest density figures for the private sector in market economies. Moreover, the assumption that a union will determine the working conditions of employees who do not support it is particularly dubious in the private sector, and effective coverage is likely to be much lower than 28 percent.

Industry variations in coverage are driven to a large extent by the division of activity between state and private firms (bottom panel of Table 4).9 At the time of the survey, most private employees were in the business and manufacturing sectors. Efforts to determine a more extensive set of determinants of union presence using profit analysis were unsuccessful. Broad sector of employment (state vs. private) remained the dominant influence, even in the face of efforts to examine the potential role of education experience and other individual characteristics.

In short, new union organizations supplanted the old in state enterprises where they had a traditional presence, leaving union coverage highest in the (declining) state sector. Former state enterprises that have been recently privatized also have high coverage rates. Unions have not achieved much representation in new private firms formed during the transition, however. The future of union representation in the Czech Republic may depend on the ultimate balance between newly created private firms and privatized state enterprises. The relationship between union representation and union influence on wages is discussed below.

2. Union wage effects

If the assumption of normal collective bargaining activities by unions during the economic transitions has retarded the emergence of competitive wage structures, there should be measurable union wage effects. Table 5 reports on efforts to measure such effects among employed workers in the Czech Republic in November 1993. The measures of union membership and union coverage (MEM and COV) discussed above have been added to a standard human capital earnings function to test for a union wage impact.

Table 5.

Union Wage Effects, The Czech Republic, November 1993

(Absolute values of t statistics in parentheses)

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Note: See notes to Table 1 and Table 4 for definitions.Source: Survey of Economic Expectations and Attitudes, November 1993.

In western market economies union wage effects tend to be on the order of 10-15 percent, with considerable variation by sector, reflecting variations in bargaining power. From this perspective, the remarkable finding in regressions 1 and 2 in Table 5 is that for a given level of education and experience in the Czech Republic, union members appear to earn 9 percent less than nonmembers, and workers in establishments with unions present earn 14 percent less than workers in nonunion establishments. Negative union-nonunion wage differentials are essentially unheard of in research on western market economies!

Averages can be deceptive, however. In particular, we have already reviewed evidence indicating that (a) private-sector workers earn more than public-sector workers, and (b) union coverage is larger in state enterprises. The regressions clearly rule out the possibility that relatively high wages in the private sector can be attributed to the presence of unions. But they do not rule out the possibility that negative union wage differential is an artifact of the sectoral distribution of union members and thus must be explained by whatever factors explain the difference in state-private wages. In fact, this appears to be the case. With the addition of a dummy variable (PRIVATE) for private sector employment (regressions 3 and 4), the sign on the union representation variables becomes insignificant. Sector-specific regressions find no significant union wage effect in either the state or private sectors (regressions 5 through 8).

In the early years of the transition, there is no indication of a union wage effect. One explanation is that unions in this transition economy have little power since neither subjective measures of worker support nor objective measures of impact provide evidence of union power. A second interpretation is that incomes policies have prevented the exercise of union economic power. Since incomes policies were applied only to the state sector of the Czech Republic prior to summer 1993, this might also contribute to an explanation of the wage differences between the state and private sectors. Unfortunately, there are insufficient degrees of freedom to disentangle these interpretations, although, the absence of a union wage impact in the private sector, where incomes policies were not applied until five months prior to the survey, provides some support for the low-union-power hypothesis.

VI. Conclusions

Four years into the economic transition, there is strong evidence that wage structures in the Czech Republic are moving away from the patterns produced by central planners’ preferences toward patterns observed in market economies. The change is led by developments in new private firms and retarded by the sluggish response in state enterprises and in former state enterprises that have been privatized. There are also signs that new private firms pioneer with more advanced incentive policies, although firm-level data would permit a much richer analysis of the extent of such changes.

A key question for future labor market adjustment during the transition is why wage structures in state enterprises, which account for about half of employment in the Czech Republic, have been slow to adjust. In the face of competition from new private firms for highly educated personnel, neither current nor former (recently privatized) state enterprises have in general adjusted wage structures sufficiently to match outside private offers. To what extent may market forces be muted by institutional developments?

A possibility suggested by experience in market economies is that collective bargaining, which mainly occurs in state enterprises, retards the adjustment of wage structures in the state sector. As of late 1993, however, there is no indication of countervailing wage distortions from the establishment of genuine collective representation at the workplace. Indeed, unions appear to have no impact on wages in either the state or private sectors. (Unions may, of course, negotiate direct quantitative restrictions on labor reallocation via dismissal regulations, etc., but the surveys provide no information on this issue.)

A second possibility is that incomes policies, which also usually apply only to the state sector, have retarded the adjustment of wage structures. The application of incomes policies in transition economies is somewhat paradoxical. The case for the policies rests on the argument that state managers facing soft budget constraints and an uncertain future have little incentive to resist union wage demands. Yet, the tax-based incomes policies that are typically applied in the region are designed to encourage managers facing hard budget constraints to bargain harder!10 In any event, we have seen that the case for incomes policy seems particularly weak in the Czech Republic, where there is no evidence of union wage effects in either the state sector, where the policies apply, or the private sector, where they did not, until mid-1993. This does not quite prove that incomes policy did not restrain union wages in the state sector, but layoffs and diminishing job security were an important counterweight to weak management.

To the extent that incomes policies are successful, their potential for retarding labor market adjustment is great. Contrary to transition objectives, the particular wage rules adopted tend to encourage wage freezes or further compression of internal wage structures in enterprises. Ultimately this has perverse macroeconomic consequences, as it forces more of the burden of market adjustment into quantity responses, such as unemployment and labor force withdrawal, rather than wage adjustment.