Labor Courts, Job Search and Employment: Evidence from a Labor Reform in Brazil

Abstract

This paper studies the role of labor courts in determining labor market outcomes in the Brazilian economy. First, by exploring the fact that judges are assigned randomly to cases and using the universe of labor lawsuits filed in the country's largest labor courthouse from 2008 to 2013, we show that small firms that draw a more pro-worker judge hire less, experience greater financial distress and exhibit lower survival rates. Second, we develop and calibrate a search-matching model in which laid-off workers decide whether to take firms to court or not. The model is then used to conduct counterfactual exercises simulating the changes brought by a large labor reform in 2017 that transferred part of the legal costs from firms to workers if plaintiff's case is dismissed. Our model replicates well a set of features of the Brazilian labor market. The counterfactual analysis suggests that this cost-shifting policy implied significant positive e ects on employment and aggregate output.

Keywords: employment protection, labor costs, firm survival, search frictions

JEL Classification: J3, J63, J64, J65, J83, K31