Labour market reform and firm-level employment adjustment: Evidence from the hukou reform in China

This paper empirically investigates whether the nature of firm-level employment adjustment is affected by the flexibility of the labour market. Specifically, we take advantage of differences in local labour market conditions created by the non-uniform implementation of the hukou reform in China. Variations in the implementation across cities and time allow us to identify the employment effects of the reform by comparing firms in regions with hukou reform to those in regions without. Combining firm-level data and city-level hukou reform data from 1998 to 2007, we adopt a difference-in-differences approach to address this question. The empirical results show that firms exposed to the hukou reform have higher employment adjustment rates on average than similar firms without reform, indicating that an increase in labour market flexibility allowed more employment adjustment. We also find evidence that tariff reductions are associated with greater employment adjustment in reform than non-reform cities.