Labour market rigidities are often considered to be responsible for high unemployment in Europe. This paper outlines a theory explaining why they may be supported by the political system, and where their support comes from.
Labour market rigidities are likely to arise as the outcome of microeconomic imperfections which allow incumbent employees to reap rents, and as a device to
alleviate redistributive conflicts among groups of workers. Their support depends on the employed’s exposure to unemployment, the degree of underlying inequality in skills, and the responsiveness of employment to labour costs. It is shown that different labour market institutions, such as employment protection, wage rigidities, and unemployment benefits, may mutually reinforce each other, so that we expect to observe them together. Also discussed are implications for the timing and design of reform.