Labor reallocation effects of furlough schemes: Evidence from two recessions in Spain

Abstract

We examine the impact of furlough schemes in scenarios where aggregate risk has a large sector-specific component and workers accumulate sector-specific human capital. In particular, we investigate the different dynamic responses of the Spanish labor market during the Great Recession and the Great Contagion as both downturns were triggered by such shocks. A big difference between these recessions is that job losses were much lower during the pandemic crisis, possibly due to firms’ widespread use of furlough schemes (ERTEs), which had been seldom activated during the Great Recession. In line with the consensus view, we find that this policy helps stabilize the unemployment rate by keeping matches alive in those industries hardest hit by a crisis. However, under their current design, we argue both empirically and theoretically that ERTEs: (i) crowd out labor hoarding by employers in the absence of those schemes, (ii) increase the volatility of effective working rates and output, and (iii) hinder worker reallocation, especially in short recessions.