The Zapatero government´s long awaited labor market reform is a step in the right direction. Unfortunately, the time for yet another partial reform is long past.

It´s no secret that the Spanish labor market is dysfunctional. The combination of overly rigid dismissal regulations, overly generous and laxly administered unemployment benefits and overly politicized and unrealistic collective bargaining are a recipe for disaster, as Spain has demonstrated once a decade since the current labor legislation was passed in 1980. The cycle has repeated itself again: Europe´s fastest job creator in good years becomes its biggest job destroyer in bad years. Anyone who believes that the current institutions are workable is simply in denial.

The question is, at a time of deep crisis, high unemployment and contagion in debt markets, what is the right response? To me, it seems clear: the only right reform is one that infuses markets with confidence and a conviction that this time, Spain is really going to be different. To do that, the right reform will 1) sweep away the old rather than adding subsidies and conditions to an old, unworkable law; 2) make the needed changes in all labor-market institutions, not just severance pay; 3) be agreed on by a broad coalition, at least in Parliament, and 4) be as simple as possible, so that businesses need few or no lawyers to figure out what to do.

Zapatero´s reform does not fulfill these conditions. It adds a welcome change, which is an Austrian-style severance payment system which allows workers to “carry” their dismissal pay with them from job to job and even collect it as retirement. That is a positive development that could add mobility, which is good.  (On the downside, it adds more fiscal cost to dismissals.) It gives some severance pay to temporary workers (while taking some flexibility away from companies), which was needed. It makes it easier for companies to opt out of overly generous collective bargaining agreements. And it makes it possible for firms to pay the “low” 20-day severance payment if they are losing money for six months (but they still need a lawyer to prove it). All of these changes are welcome.
But they are not enough. Rather than more patches on an old coat, Spain needs a brand-new coat, a clear, simple and rational law that will give companies the confidence to create jobs, while giving workers the level of security that society demands. A single type of contract that accumulates some severance pay each year would be nice. A better administered unemployment benefits system, tied to “activation” measures to get the jobless trained, prepared and back on the market, is desperately needed. More and better training courses, preferably administered by firms and not unions, are essential. And a complete redrawing of the union role in collective bargaining and even in politics could inject new life into the Spanish economy and political life.

The underlying problem is simple: the link between pay, security and productivity is broken in Spain, thanks to existing institutions. Until it is restored, Spain will continue to be a low-productivity economy, with chronic competitiveness problems that only devaluations can solve. We´ve spent 30 years applying band-aids to institutions that have never worked. It´s time to throw them out and start over.