Entrepreneurship and labor market institutions

The paper introduces a model of enterprise formation in a unionized economy with labor protection and wage bargaining. Enterprise formation is subject to market risk and is shaped by the unemployment compensation and redundancy pay to labor in the post-entry stage with firing. Private contracts cannot undo the policy-determined labor market regulation as the insurance elements created by those regulations raise the union bargaining power. This reduces entrepreneurship ex ante. The predictions of the model are tested in cross-section OECD data on 19 economies over 1978-1998. Empirical support is found for the view that enterprise formation is affected by economic risks, unemployment compensation, union power, and labor protection variables. (c) 2005 Elsevier B.V All rights reserved.