By IMF European Department
COVID-19 caused the most severe shock to the European economy for at least 75 years, with significant disruptions to the labor market. Nonetheless, a powerful policy response cushioned the pandemic’s impact and prevented unemployment from spiking as sharply as was initially feared.
With the region now facing a second shock from spillovers caused by Russia’s invasion of Ukraine, authorities should proceed cautiously as they continue to scale back policy responses, so as not to undo their success in protecting jobs from the pandemic.
What lessons can we draw from policymaker’s response during COVID-19? A new paper by IMF Staff concludes that the widespread use of job retention schemes meant that the euro area’s unemployment rate was 2.5 percentage points lower than it would have been without any intervention. This kept around 4 million workers in their jobs.
The labor market recovery has also been much more rapid than in previous recessions. Unemployment in the EU declined to a record low of 6.2 percent in January 2022, and the labor force participation rate has reached an all-time high, supported by a sharp rise in vacancies. But the recovery has been uneven across the region, reflecting different initial conditions, policy support, and underlying growth, among other factors. And now the effects from Russia’s invasion of Ukraine could potentially complicate and hobble the recovery, for reasons including lower growth and significant migration flows for some countries.
The varying speed of the recovery to date is evident across countries, industries, and population groups. For example, the unemployment rate in France and Spain is now below pre-crisis levels, while the recovery in some other countries such as Estonia and Latvia has been more gradual. Employment in contact-intensive sectors is recovering more slowly than in other parts of the economy. Workers in these industries, who tend to be young, low-skilled and on temporary employment arrangements, have found it hardest to get back into work or are still working fewer hours than in the pre-crisis period—potentially exacerbating underlying trends in inequality.
Although governments are rapidly scaling back job retention schemes, they remain in place in most countries and aggregate total hours worked are still below levels seen at the end of 2019. This suggests that unemployment could rise slightly as governments continue to remove policy support and more people start to look for work, adding to still-high underemployment, especially in some Southern European countries. The war could add to these pressures.
At the same time, the recent unwinding of job retention schemes in some countries such as the United Kingdom has so far not led to higher rates of unemployment. This is likely because of strong labor demand, early retirement by older workers, and potentially reporting lags as workers serve out their notice periods.
The pandemic has also accelerated structural transformations, including from digitalization, automation, and increased climate action. These transformations will likely involve significant reallocation of workers across sectors and occupations over the longer term.
Pre-pandemic estimates suggested that about five million jobs would be created over the next ten years in the four largest countries of the euro area. The pandemic has cut that projection by up to 1.5 million, with those losing out mostly in low-skilled sectors. And it remains to be seen how the latest crisis will affect this outlook.
Going forward, there are three policy priorities:
- Adjust job retention schemes so that they do not hamper the necessary reallocation. Scaling them back to pre-crisis levels should be done gradually, for example by increasingly targeting support to sectors that remain most affected by health-related restrictions.
- Help workers move directly between jobs to prevent unemployment and inactivity. This could be achieved by enhancing policies that facilitate job search, incentivize hiring and geographical mobility, and promote training and reskilling—including to narrow the digital skills gap. A high degree of flexibility in labor and product markets will also play a key role in easing labor market transitions.
- Minimize the scarring from the pandemic by reinforcing active labor market policies to support participation in the labor force and rethinking safety nets and social protection systems more broadly to ensure that nobody is left behind.