Towards Economic Inclusion in the Western Balkans (New Perspectives on South-East Europe) 303106111X, 9783031061110

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NEW PERSPECTIVES ON SOUTH-EAST EUROPE

Towards Economic Inclusion in the Western Balkans Edited by William Bartlett · Milica Uvalić

New Perspectives on South-East Europe Series Editors

Kevin Featherstone London School of Economics and Political Science London, UK Spyros Economides London School of Economics and Political Science London, UK Vassilis Monastiriotis London School of Economics and Political Science London, UK

South-East Europe presents a compelling agenda: a region that has challenged European identities, values and interests like no other at formative periods of modern history, and is now undergoing a set a complex transitions. It is a region made up of new and old European Union member states, as well as aspiring ones; early ‘democratising’ states and new post-­ communist regimes; states undergoing liberalising economic reforms, partially inspired by external forces, whilst coping with their own embedded nationalisms; and states obliged to respond to new and recurring issues of security, identity, well-being, social integration, faith and secularisation. This series examines issues of inheritance and adaptation. The disciplinary reach incorporates politics and international relations, modern history, economics and political economy and sociology. It links the study of South East-Europe across a number of social sciences to European issues of democratisation and economic reform in the post-transition age. It addresses ideas as well as institutions; policies as well as processes. It will include studies of the domestic and foreign policies of single states, relations between states and peoples in the region, and between the region and beyond. The EU is an obvious reference point for current research on South-East Europe, but this series also highlights the importance of South-East Europe in its eastern context; the Caucuses; the Black Sea and the Middle East.

William Bartlett  •  Milica Uvalić Editors

Towards Economic Inclusion in the Western Balkans

Editors William Bartlett European Institute London School of Economics & Political Science London, UK

Milica Uvalić Department of Political Science University of Perugia Perugia, Italy

ISSN 2662-5857     ISSN 2662-5865 (electronic) New Perspectives on South-East Europe ISBN 978-3-031-06111-0    ISBN 978-3-031-06112-7 (eBook) https://doi.org/10.1007/978-3-031-06112-7 © The Editor(s) (if applicable) and The Author(s), under exclusive licence to Springer Nature Switzerland AG 2022, corrected publication 2022 This work is subject to copyright. All rights are solely and exclusively licensed by the Publisher, whether the whole or part of the material is concerned, specifically the rights of translation, reprinting, reuse of illustrations, recitation, broadcasting, reproduction on microfilms or in any other physical way, and transmission or information storage and retrieval, electronic adaptation, computer software, or by similar or dissimilar methodology now known or hereafter developed. The use of general descriptive names, registered names, trademarks, service marks, etc. in this publication does not imply, even in the absence of a specific statement, that such names are exempt from the relevant protective laws and regulations and therefore free for general use. The publisher, the authors, and the editors are safe to assume that the advice and information in this book are believed to be true and accurate at the date of publication. Neither the publisher nor the authors or the editors give a warranty, expressed or implied, with respect to the material contained herein or for any errors or omissions that may have been made. The publisher remains neutral with regard to jurisdictional claims in published maps and institutional affiliations. Cover illustration: Posnov / Getty Images This Palgrave Macmillan imprint is published by the registered company Springer Nature Switzerland AG. The registered company address is: Gewerbestrasse 11, 6330 Cham, Switzerland

Foreword

The Western Balkan region lies at the cross-roads of Europe, with a rich history of people moving in, passing through or moving out. Whilst this difficult geographic location creates many challenges, it also offers huge potential. This is a region that is very close to my heart, having spent my early— and formative—professional career in Bosnia and Herzegovina, supporting refugee return programmes during the aftermath of the 1990s war. Today we see some parts of the region still emerging from the conflicts of more than two decades ago, but also being affected by wider global trends and shocks, including the impact of digitalisation and shifting regional and global value chains on regional labour markets, the impact of climate change triggering a transition away from fossil fuel intense industries, and of course the Covid-19 crisis. Today, the Western Balkans is a region that struggles to offer opportunities, in particular to young people, and where inclusion gaps and inequalities are rising. Indeed, the EBRD’s Transition Report found that up to 40 percent of income inequality in the region is due to factors outside of people’s control, such as place of birth, parental education, and gender. In many parts of the Western Balkans, the size of the labour force is effectively shrinking, due to high levels of outward migration, informality and youth unemployment, coupled with above average rates of inactivity of older workers, and low female workforce participation. This creates a perfect storm, which is further compounded by structural shifts in labour markets. v

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However, the Western Balkans is also a region that continues to hold huge potential, that brims with entrepreneurial spirit, whose infrastructure is increasingly well integrated into the wider European networks, and where financial institutions are getting much more adept at supporting an emerging SME sector. And it is the private sector that has an important role to play in creating more and better opportunities for the people in the region, and thereby helping close the inequality gaps. In particular, SMEs have the potential to become the economic engine across the region. For example, by investing in targeted credit lines and advisory services for women or young entrepreneurs, the EBRD helps to open up opportunities for innovation and inclusive growth. Investments can also help foster partnerships between employers and education institutions—to shape curricula that reflect the needs of employers, offer high quality work-based learning opportunities, and provide career progression routes. Enhanced regional infrastructure, including ICT connectivity, can facilitate regional integration and open up access to new markets. At a policy level, the private sector can play an important role in shaping labour market and skills standards, for example through the establishment of Sector Skills Councils (SSCs). These sectoral industry bodies shape human capital policies in key sectors such as tourism or agribusiness. EBRD supports the development of the SSCs in Serbia and Albania in sectors including hospitality and tourism, in order for these to inform the development of sectoral skills strategies standards as well as dual learning programmes. In the infrastructure sector, inclusive public procurement policies can open up access to skills and jobs for populations in underdeveloped regions. The transition towards a green and digital economy creates challenges but also offers new opportunities for people and regions, to pivot towards emerging sectors and green and digital jobs. This ranges from renewables and green infrastructure solutions all the way to agritech or digital platforms that open up access to broader regional and indeed global markets. Gaps in gender equality in the region remain significant; enhancing the opportunities for women to fully participate in social and economic life requires a broad and holistic policy approach, from shaping education decisions of girls and women, especially towards STEM fields, to enhancing the share of women in non-traditional sectors, management positions and as part of political decision-making processes. Gender considerations need to be fully embedded into policy design across all areas, for example

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to ensure that investment climate reforms create enhanced environments for economic prosperity and growth for everyone. The EBRD is supporting the first of such programmes in Montenegro. Finally, tackling gender-­ based violence and harassment in all its forms has to underpin all policies and activities. This book is an important contribution towards creating a better understanding of the opportunities and challenges to create more inclusive societies and economies across the Western Balkans. It offers not only analyses of the issues, but also sets out evidence-based policy solutions. These range from policies to tackle informality and the low wage—high tax trap, to closing the persistent skills mismatch, creating a more effective school to work transition for young people, promoting entrepreneurship opportunities for women, to tackling the brain drain and the depopulation of rural parts of the region, as well as the integration of returning migrants. London, UK 

Barbara Rambousek

Preface

This book is a product of the activity of the LSEE Research Network on Social Cohesion set up in 2011 with the aim to promote independent research into issues of socio-economic development in the SEE region. A large focus of the work of the research network has been on the economic and social problems of the “Western Balkans”, a group of European countries that have been seeking to join the EU over several decades with as yet little success except Croatia which became an EU member state in 2013. The Western Balkans countries—Albania, Bosnia and Herzegovina, Kosovo, Montenegro, North Macedonia and Serbia—are in various stages of EU integration. All experience economic and social problems ranging from high level of unemployment, much informal economic activity, weak social protection systems and high levels of poverty and inequality, to a far greater extent than most other parts of Europe. The region has also been hit by the heavy impact of the COVID-19 pandemic with ‘excess deaths’ from the pandemic amongst the highest in the world.1 Five of these countries were component parts of the former Yugoslavia and as such have much in common. A major thrust of economic policy in recent years has been to promote regional cooperation and several international initiatives have been devoted to this purpose including the work of the Regional Cooperation Council, based in Sarajevo, and the CEFTA regional trade 1  Excess deaths are defined as the difference between the actual number of deaths in a given period (month, year) less the expected number based on comparable previous periods. See: Economist Intelligence Unit: https://www.economist.com/graphic-detail/coronavirusexcess-deaths-tracker.

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agreement which also includes Moldova. The promotion of regional cooperation in research activity and the investigation of the benefits of regional cooperation in policy proposals is a key motivation of the LSEE Research Network. The Research Network covers policy themes such as employment and job creation, skill mismatches, education and vocational training, health reforms, pension reforms, poverty and social protection, social entrepreneurship, ethnic minorities and Roma inclusion, decentralisation and regional development, all with a focus on providing original and relevant research evidence to support effective policy responses to the difficult social situation in the region. The network has held four conferences between 2011 and 2017 and several focused workshops, leading to the production of a number of books, papers and reports.2 This book results from a selection of papers presented at the 5th Conference of the LSEE Research Network on Social Cohesion in South East Europe, held at the University of Belgrade in November 2019 with the support of the European Bank for Reconstruction and Development (EBRD). The conference covered the theme of economic inclusion, addressing the ways in which economic development can be designed to contribute to the creation of quality jobs, improved vocational training, support for female entrepreneurship and the integration of migrants. We are deeply grateful to the European Bank for Reconstruction and Development (EBRD), the Embassy of Japan in Serbia, and the Faculty of Economics at the University of Belgrade, who were co-organisers of the conference along with the Research Unit on South Eastern Europe at the London School of Economics and Political Science (LSEE) and without whose support the conference could not have taken place. In particular, we thank Barbara Rambousek, Biljana Ker-Lindsay, Dragan Marjanovic from EBRD; Vassilis Monastiriotis and Areti Chatzistergou from LSEE; and the administrative and catering services at the Belgrade Faculty of Economics for their hands-on involvement in the organisation of the event. The conference was opened by Borislav Boričić, Dean of the Faculty of Economics; Maruyama Junichi, Ambassador, Embassy of Japan in Republic of Serbia; Mattia Romani, Managing Director for Economics, Policy and Governance, EBRD; and Vassilis Monastiriotis, Director of LSEE.  We are also grateful to Ivana Prica, Saša Randjelović, Mihail 2  For more details see: https://www.lse.ac.uk/LSEE-Research-on-South-Eastern-­­Europe/ Research/Research-Network/Research-Network-on-SEE.

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Arandarenko, Jelena Žarković Rakić, Irena Janković, Mladen Stamenković, and Dejan Molnar from the Faculty of Economics who chaired individual sessions. A policy round table benefitted from the wide experience of Biljana Ker-Lindsay (EBRD), Cristina Mereuta from the European Training Foundation (ETF), Cristian Raileanu from the Employment Policies Unit, Ministry of Labour and Social Justice, Romania, and Slobodan Anić from Dunkermotoren Serbia. Most of all, we are grateful to all the participants at the conference who presented papers and contributed to a lively discussion of the issues. London, UK Perugia,  Italy

William Bartlett Milica Uvalić

Contents

1 Introduction:  Key Challenges for Economic Inclusion in the Western Balkans  1 William Bartlett and Milica Uvalić Part I Labour Market Inclusion  17 2 A  Low-Wage, High-Tax Trap in the Western Balkans 19 Dragan Aleksić and Mihail Arandarenko 3 Envelope  Wages in Bosnia and Herzegovina: Incidence and Distributional Implications 49 Amela Kurta, Nermin Oruč, and Dželila Kramer 4 Horizontal  Job-Education Mismatch in Kosovo: Is There a Gender Gap? 69 Besnik A. Krasniqi, Genc Zhushi, Mehmet Bağış, Liridon Kryeziu, and Agon Dula 5 Cross-national  Comparison of Job Types: Analysis Using the EU LFS and Albanian LFS 89 Elvisa Drishti and Fiona Carmichael

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CONTENTS

Part II Vocational Training and Skills 123 6 The  Professional Training Programme in Montenegro: An Active Labour Market Policy or a Way to Fill the Structural Gap?125 Maja Marković 7 The  Quality of Vocational Training and the Position of the Individual in the Labour market in Serbia151 Vesna Fabian and Maja Jandrić 8 The  Apprenticeship System in Bosnia and Herzegovina: Myth or Reality?173 Nina Branković Part III Female Entrepreneurship 207 9 Case  Study on Female Entrepreneurship in Bosnia and Herzegovina209 Azra Branković and Azra Bičo 10 Female  Entrepreneurship in Albania: Financial Incentives and Disincentives229 Ermira Kalaj 11 Economic  Inclusion of Women Entrepreneurs During Covid-19 in Serbia, Montenegro and Bosnia and Herzegovina249 Sanja Popović-Pantić, Dušica Semenčenko, and Nikola Vasilič Part IV Integrating Returning Migrants 279 12 The  Relationship between Migration and Pensions Policy: The Case of Albania281 Merita Xhumari and Megi Xhumari

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13 The  Role of Voluntary Return Migration in Supporting Economic Development in Albania303 Bresena Kopliku and Erka Çaro 14 Immigrant  Entrepreneurship and Resilience during the COVID-19 Pandemic: The Case of Croatia321 Ružica Šimić Banović, Vlatka Škokić, Valentina Vučković, and Martina Basarac Sertić Part V Conclusions 345 15 Towards  an Inclusive Model of Development in the Western Balkans347 Milica Uvalić and William Bartlett  Correction to: Towards an Inclusive Model of Development in the Western BalkansC1 Milica Uvalić and William Bartlett Index371

Notes on Contributors

Dragan Aleksic´  is an Assistant Professor at the Faculty of Economics at the University of Belgrade. His primary fields of interests are employment policy, labour market policy, minimum wage and vulnerable groups in the labour market. He has written numerous papers and been involved in many projects related to this area. Mihail Arandarenko  is a professor of labour economics at the Faculty of Economics of the University of Belgrade, Serbia. He was a visiting scholar at the City University of New York, at the London School of Economics and Political Science (LSE) and at Collegium Budapest, Institute for Advanced Study. He has published on issues of labour markets, employment programmes, political economy and social policy, especially in the context of difficult socio-economic transformation in South Eastern Europe. Mehmet  Bag˘ıs¸ received his PhD from Sakarya University Business Institute in 2018. Since 2020 he has been Assistant Professor at Sakarya University of Applied Sciences, Faculty of Applied Sciences, Department of International Trade and Finance. His professional interests include strategic management, entrepreneurship, resource-based view, dynamic capabilities, behavioural strategy, and competitive strategy. Ruzˇica  Sˇimic´  Banovic´  is an Associate Professor in the Department of Economics, Faculty of Law, University of Zagreb. She holds a PhD degree from the School of Economics and Business, University of Ljubljana. As a Chevening scholar she received her MA in Public Policy from King’s College London, University of London. She has completed a fellowship in xvii

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the Department of Economics at The George Washington University as a part of the Junior Faculty Development Program funded by the U.S. Department of State. Before joining the academic community, Ružica was an advisor in the Croatian National Competitiveness Council and had worked in the private sector as well. Her research interests include institutional interaction in the post socialist business environment (with an emphasis on the reform implementation and ‘economy of favours’), immigrant entrepreneurship and recent migration trends in Eastern Europe. William Bartlett  is Deputy Director of the Research Unit on Southeastern Europe (LSEE) at the European Institute, London School of Economics and Political Science (LSE). He is also Editor-in-Chief of the peer reviewed journal Economic Annals, published by the Faculty of Economics at the University of Belgrade. His research has focused on the socio-economic development of the successor states of former Yugoslavia through the perspective of political economy, publishing papers analysing economic assistance to the Western Balkans, the digital economy and skill gaps, education systems and youth labour markets, regional and local economic development, international trade in the Western Balkans, and barriers to private sector development in the region. He has acted as a consultant for the European Commission, European Training Foundation, the Regional Cooperation Council, UNDP, UNICEF, and various bilateral donor organisations. Azra Bicˇo  is a Senior Assistant and PhD Candidate at the Department of Economics and Management at the International University of Sarajevo. She has authored/co-authored several journal articles, book chapters and conference papers. She lectures and assists on courses in Macroeconomics, Microeconomics, Labour Economics, International Economics, and Growth and Development. Her research interests include Labour Economics, Macroeconomics, Gender studies related to Labour Economics, and Entrepreneurship. Nina Brankovic´  is a PhD candidate, University of Paris-Saclay, Doctoral school of Law, Economics, Management, France. She holds an MSc in Public Policy from Kings College London, UK. She has a long experience in research and evaluation in the Western Balkan region. She is author of Development of Entrepreneurial Universities in a Post Communist Country, (World Scientific Reference in Entrepreneurship, 2017), and “From VET

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school to the labour market in Bosnia and Herzegovina: expected versus actual wages” (European Journal of Education, 2016) Azra Brankovic´  is Assistant Professor at the International University of Sarajevo at the Department of International Business and Finance. She teaches Business Communication, International Marketing, International Business, Business Ethics, Entrepreneurship and Small Business Development, and Human Resource Management. She has worked at the Athens University of Economics and Business, Athens; the University Bocconi, Milan; the Academy of Economics, Krakow. She has worked with the Parliamentary Assembly of Bosnia and Herzegovina as Head of the Research Section and for the Council of Ministers as Expert Advisor for public administration reforms. Fiona Carmichael  is a Professor of Labour Economics in the Department of Management, University of Birmingham. Her research centres on the employment of marginalised workers with particular emphasis on inequalities and vulnerabilities including those relating to gender, caregiving, ageing, disability and poverty. This research has included investigations of trade-offs between paid work and unpaid caregiving, barriers to work faced by women and older workers, retirement decisions, disability and work, work and wellbeing of young people in low and middle-­income countries. Erka Çaro  is a Researcher and Lecturer at the Department of Geography, University of Tirana. She holds a PhD in Population Studies from the University of Groningen in the Netherlands. She is a member of the executive board of the Western Balkans Migration Network. She has been a lead coordinator and researcher in several international projects. She has published articles in the Journal of Ethnic and Migration Studies among others. She has been awarded research grants by the Regional Research Promotion Programme (RRPP), the Regional Research Association (RSA), and the Scientific Academia of Finland. Her research interests include migration, labour mobility, trade union relationships with migrants, gender studies, and the Western Balkans. Elvisa Drishti  is a full-time lecturer and researcher at the Department of Business Administration, University of Shkodra. She was awarded her PhD from the Birmingham Business School in July 2019 under the supervision of Professor Fiona Carmichael. She is also CERGE-EI ­ Graduate Teaching Fellow. Her research area is largely concerned with

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labour economics/employment studies and focuses on the prevalence and consequences of insecure employment in Albania and other countries in Europe. Agon  Dula holds an MSc in Economics for Business Analysis at Staffordshire University, UK. He is currently pursuing a PhD in Business Administration at the South-East European University in North Macedonia. He has worked in the private, government and NGO sectors as a business development specialist. As Strategic Advisor to the Minister of Economic Development he was involved in projects in the energy sector and on the Digital Agenda for the Western Balkans. He is currently involved in an EU-funded project focusing on aligning education and training with labour market needs. Vesna Fabian  is a Senior Advisor in the Ministry of Education, Science and Technological Development of the Republic of Serbia. Previously she worked in National Employment Service Head Office as Head of the Centre for Further Education and Training and Director of the Sector for Job Placement and Career Planning Services. She holds a PhD from the Faculty of Philosophy, Department of Andragogy, at the University of Belgrade 2019 with the thesis “Vocational training and the position of the individual in the labour market”. Maja Jandric´  is Associate Professor at the University of Belgrade, Faculty of Economics. Her research covers economic policy and labour market analysis, with focus on flexibility and security in the labour market. She has published in international academic journals including Applied Economics Letters and the European Journal of Operational Research. Ermira  Kalaj  is a Professor of Public Economics at the University of Shkodra. She received her Ph.D. degree in “Economics and Management” from the University of Trento, Italy and her M.A in “Management of Development” from the University of Turin. She is a holder of CERGE-EI Foundation Teaching Fellows Career Integration Fellowship, (2017–2020, 2020–2023). Ermira joined the University of Shkodra in 2015. She previously held faculty positions at the University of Durrёs, where she was Chair of the Economics Department from 2009 to 2015. Her current research interests include public sector economics; the effects of immigration; income distribution; and econometric methods for program and policy evaluation.

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Bresena  Kopliku  is a Researcher and Lecturer at the Department of Geography University of Shkodra, Albania where she is currently the Head of Department. She holds a doctoral degree in Human Geography from the Department of Geography, University of Tirana. She has been a visiting scholar at St Hilda’s College, Oxford University. She has also collaborated as external expert of migration issues and local consultant with international organizations in Albania such as GIZ and USAID.  Her research interests relate to migration and its diverse typologies, return migration, transnationalism, and diaspora. Dzˇelila Kramer  is an independent fiscal policy consultant working with the World Bank, GIZ, USAID, Center of Excellence in Finance (CEF) and the Centre for Development and Social Science Research, Sarajevo. Her expertise relates to reforms and microsimulation modelling in the areas of taxes, social security contributions and social benefits, as well as financial impact assessment in general. Her research interests include microsimulation modelling, revenue forecasting, budget analysis and tax reforms. Besnik  Krasniqi,  a Fulbright Scholar, holds an MA and a PhD in Economics from Staffordshire University, UK.  He is Professor of Small Business and Entrepreneurship at the University of Prishtina. His career spans teaching and research in entrepreneurship at Maastricht School of Management, Indiana University, University of Michigan, Tuck Business School at Dartmouth, Vytautas Magnus University, and Université Nice Sophia Antipolis. His research has appeared in international journals such as Entrepreneurship Theory and Practice, Small Business Economics, International Entrepreneurship and Management Journal, and Economic Systems among others. He is founding director of the Business Support Centre in Kosovo. Liridon Kryeziu  obtained a PhD in Business Administration at Sakarya University, Turkey. He currently teaches, and holds a position as research coordinator, at Heimerer College. His research interests are family firms, institutions, firm internationalization, social networks, SMEs, behavioral strategy, and strategic management. Amela Kurta  is a Senior Research Analyst at the Centre for Development Evaluation and Social Science Research, Sarajevo. She is Head of BiH Data Archive for Social Sciences and a member of the national tax-benefit microsimulation model (BiHMOD) team. Her research interests are in

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social policy and microsimulation models. Amela co-authored several publications related to the tax-benefit system in Bosnia and Herzegovina. Maja Markovic´  is Director of the Research and Advocacy Programme at NGO Juventas in Montenegro and a current Hubert Humphrey Fellow at the University of Minnesota, where she is specialising in the field of public policies focusing on social policies and human services design. She holds a Master’s degree in Public Administration obtained from the University of Birmingham. She has more than ten years of experience in implementing projects and programmes related to policy research and analysis, as well as advocacy in the areas of human rights and civil society development. She is the author of several reports and research publications in areas of civil society development, human rights and good governance. Nermin  Orucˇ  is Director of Research at the Centre for Development Evaluation and Social Science Research, Sarajevo. He is Leader of the national team for development of BiHMOD. His research interests include migration, labour market analysis, poverty and inequality. He published several books and journal articles in the areas of labour market analysis, migration and social policy. Nermin was a Teaching Fellow at CERGE-EI and Atlantic Visiting Fellow at the International Inequalities Institute, LSE. Sanja Popovic´-Pantic´  is a Senior Research Associate at the Science and Technology Policy Research Centre in the “Mihajlo Pupin” Institute in Belgrade, Serbia. She obtained a PhD in female entrepreneurship in 2013 at the Faculty of Economics, University of Belgrade. She has chaired the Women’s Entrepreneurship Sector Group of the Enterprise Europe Network (EEN) and is a leader of the Association of Business Women in Serbia. She has been engaged in many international projects on female entrepreneurship and has published research papers in international journals mostly related to different gender aspects of entrepreneurship. Dusˇica  Semencˇenko,  is a Senior Scientific Associate in the “Mihajlo Pupin” Institute in Belgrade, Serbia, and a Lecturer at the postgraduate doctoral studies at the Rectorate of the University of Belgrade teaching a course in Technology and Transition; she holds a PhD. Her research has covered the National Innovation System of Serbia with particular emphasis on the historical and cultural conditions of technological development and the role of government in the design of science-technology-­innovation policies. She has published more than 100 scientific and professional papers and four books.

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Martina  Basarac  Sertic´  is a senior research associate at the Economic Research Division of the Croatian Academy of Sciences and Arts, where she became an associate member in 2020. She is Assistant Professor teaching courses Croatian Economy, Economic Policy, Economics of Education, and Statistics at the Faculty of Economic & Business, University of Zagreb. She also teaches a course on Sustainable Development and Natural Resources. She has published about 50 scientific and professional articles. Her research focuses on macroeconomics, sectoral competitiveness, and sustainable development. Vlatka Sˇkokic´  is an Associate Professor of Entrepreneurship at University of Split, Faculty of Economics, Business and Tourism, Croatia. She was previously a Lecturer at the University of Surrey, School of Hospitality and Tourism Management, UK.  Vlatka holds a PhD from the University of Strathclyde, Scotland. Her research is focused on entrepreneurship, innovation and networks. Vlatka’s research is published in the leading management and social science journals including Annals of Tourism Research and European Management Journal. Vlatka is experienced at teaching a range of subjects including entrepreneurship, family business and research methods (qualitative) at postgraduate and doctoral level. She is a Fellow of the Higher Education Academy (HEA). Milica  Uvalic´ is Professor in Economics at the Political Science Department of the University of Perugia (Italy), where she has worked since 1992 teaching courses on Macroeconomics, International Economics, European Economic Integration, Transition Economics, Economic Development and Global Governance. She was member of the UN Committee for Development Policy (2008–2012) and Assistant Minister in the first post-Milošević government in FR Yugoslavia (2001). She is an expert on the Western Balkans and wider East European region and has published extensively on Western Balkan economic development, regional cooperation, privatization, trade, foreign direct investment, higher education, labour markets and EU enlargement. She has been consultant to the Bertelsmann Foundation, Friedrich Ebert Foundation, the European Commission, the European Investment Bank, OECD, Regional Cooperation Council, ILO, UNDP and UNESCO. Nikola Vasilic´  is a Junior Researcher at the “Mihajlo Pupin” Institute in Belgrade, Serbia, within the Science and Technology Policy Research Centre. He is a PhD candidate at the Faculty of Economics, University of

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Kragujevac. His research covers science, technology and innovation development, applied econometrics, female entrepreneurship, and SMEs. He is currently involved in the Enterprise Europe Network project financed by the European Commission, which helps SMEs to innovate and grow on an international scale. Valentina  Vucˇkovic´ is an Assistant Professor at the Department of Economic Theory, Faculty of Economics & Business, Zagreb. She obtained her PhD in 2014 with thesis “Political economy aspects of business environment reforms as competitiveness factor”. From 2008 to 2014 she worked as a Research Assistant at the Institute for Development and International Relations (IRMO), Zagreb, at the Department for International Economic and Political Relations. She has authored or coauthored around 40 scientific and professional papers and participated in 11 research projects. Her research interests include the political economy of reforms, competitiveness analysis, entrepreneurship, and innovation. Merita  Xhumari  (University of Tirana, Albania) is Professor of Social and Public Policy, with 35 years’ experience at the University of Tirana. She has 25 years’ experience as a researcher in various national/international projects in Albania and Western Balkans. She is the author of the university textbook Process and Institutions of Social Policy (in Albanian), of the monograph Pension Trajectories in Western Balkans 1990–2010, and co-author of many published studies. Megi  Xhumari  (University of Tirana, Albania) is a part-time assistant lecturer at the Department of Social Work and Social Policy, and a psychosocial programme coordinator at Bethany Social Services, a civil society organization in Albania. She has 10 years’ experience as a researcher, social worker, and psychotherapist in various national/international organizations in Albania, Western Balkans and USA. She is the co-author of some published studies. Genc  Zhushi has a Master’s degree from the University of Pristina, Faculty of Economics, where he continues his doctoral studies, and at University Cote D’Azur for one semester, specialising in econometric models. He is Assistant Professor at the University of Pristina and has worked at BKT Bank as a profitability specialist and at KEDS as a statistical reporting specialist.

Abbreviations

AQF Albanian Qualification Framework BiH Bosnia and Herzegovina CEO Chief Executive Officer CME Coordinated market economy EBRD European Bank for Reconstruction and Development EC European Commission ECB European Central Bank EIB The European Investment Bank EQF European Qualification Framework ES Enterprise Surveys EU European Union FBiH Federation of Bosnia and Herzegovina GEM Global Entrepreneurship monitor HBS Household Budget Survey INSTAT Institute of Statistic in Albania IPA Instrument for Pre-Accession Assistance LMEs Liberal market economies LMR Labour market regulation MSMEs Micro, small and medium sized firms NEET Neither in employment, education or training NESA National Employment and Skills Agency in Albania NGO Non-governmental Organisations OJT On the job training PAYG Pay-As-You-Go RS Republic of Srpska SAFE Survey on the Access to Finance of Enterprises SBA Small Business Act xxv

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ABBREVIATIONS

SILC SME SSC STVT TWS USA USAID VET VoC WB WBG WBT WiiW

Survey on Income and Living Conditions Small and Medium Enterprise Social security contributions Short-term vocational training Typologies of welfare states United States of America The United States Agency for International Development Vocational education and training Varieties of capitalism Western Balkans World Bank Group Western Balkans and Turkey Vienna Institute for International Economic Studies

List of Figures

Fig. 2.1 Fig. 2.2

Fig. 2.3 Fig. 2.4 Fig. 2.5

Fig. 2.6 Fig. 2.7

Fig. 2.8

Fig. 2.9

The share of vulnerable employment in 2019. (Source: ILO) Net wage distribution in % of the average wage in selected Western Balkan countries (2019). (Source: TRUD for North Macedonia, RAD and Tax data for Serbia and LFS for Kosovo (only male wages)) Low wage earners in 2018. (Source: Eurostat, SES. Note: * 2014 for Montenegro) Low wage earners by sex in 2018. (Source: Eurostat, SES. Note: * 2014 for Montenegro) Labour tax wedges in Western Balkans for a single worker at 67%, 100%, and 167% of average wage, in a comparative perspective. (Source: Authors’ calculations for Western Balkan countries; OECD for others) Tax wedge across the wage distribution in Serbia, 2020. (Source: Authors’ calculations) Tax wedge components as a percentage of labour costs, single workers without dependents, on the average wage. (Source: Authors’ calculations for Western Balkan countries; OECD for others) Comparison of tax wedge for a single worker (100%) and one-earner couple with two children (100+0%). (Source: Authors’ calculations for Western Balkan countries; OECD for others) Decomposition of the implicit tax rate on labour. (Source: Labour Cost Survey for Serbia, Eurostat for others)

23

25 26 28

38 39

40

41 42

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List of Figures

Fig. 5.1

Fig. 5.2

Fig. 6.1 Fig. 6.2 Fig. 6.3 Fig. 6.4 Fig. 6.5 Fig. 7.1 Fig. 7.2 Fig. 8.1 Fig. 8.2 Fig. 8.3 Fig. 8.4

Incidence of standard and non-standard types of employment and unemployment by country cluster (%). (Notes: Key: (1) Unemployment; (2) Involuntary NSFE; (3) Voluntary NSFE; (4) SFE.; Striped: % of men in each category. Dotted area: % of women in each category. a West-EU: Austria, Belgium, Switzerland, Germany, Denmark, Spain, Finland, France, Greece, Ireland, Italy, Netherlands, Norway, Portugal, Sweden, and United Kingdom; b East-EU: Bulgaria, Czech Republic, Estonia, Croatia, Hungary, Latvia, Lithuania, Poland, Romania, and Slovakia) 103 Relation of LMR Fraser index and unemployment rate, by country. (Notes: Key: Black square markers are East-EU countries: Bulgaria, Czech Republic, Estonia, Croatia, Hungary, Latvia, Lithuania, Poland, Romania, and Slovakia; Red triangle marker is Albania; Grey rectangle markers are West-EU countries: Austria, Belgium, Switzerland, Germany, Denmark, Spain, Finland, France, Greece, Ireland, Italy, Netherlands, Norway, Portugal, Sweden, and United Kingdom) 103 Did graduates stay with the same employer after the end of the Programme and for how long? Source: On-line survey. Note: Based on 464 respondents134 For how long did graduates that have not stayed with the same employer looked for a job after the Programme ended? Source: On-line survey135 Sectors where graduates did their training programmes. Source: On-line survey138 Where did graduates do their PPT? 141 Where did graduates do their PPT (with the exclusion of respondents from Podgorica)? Source: On-line survey142 Four stages of Kolb’s experiential learning cycle. Source: Chiang et al. (2011), p. 508 154 The DAPPER model. Source: Rothwell and Kazanas (2004), p. xvii 156 Overview of initiatives for the introduction of work-based education in the FBIH cantons. Source: Author’s elaboration 181 Do you have a signed contract with the employer? Source: Students’ responses, VET schools 185 Where are practical classes organised in your school? Source: Student responses 190 What is secured for VET students at apprenticeship places? Source: Student responses 191

  List of Figures 

Fig. 8.5 Fig. 9.1 Fig. 10.1 Fig. 10.2 Fig. 10.3 Fig. 10.4 Fig. 10.5 Fig. 10.6 Fig. 11.1 Fig. 12.1 Fig. 12.2 Fig. 12.3 Fig. 12.4 Fig. 15.1 Fig. 15.2

Who makes the decision on the selection of the company for apprenticeship? Source: Students’ responses Flow of research conduct. Source: Author’s compilation Share of female employed by enterprises. Source: INSTAT, 2019 Percentage of female-owned enterprises by region. Source: INSTAT, 2020 Percentage of female-owned enterprises by sectors. Source: INSTAT, 2020 Percentage of female-owned enterprises by size. Source: INSTAT, 2020 Percentage of female-owned enterprises by legal status. Source: INSTAT, 2020 Percentage of firms identifying access to finance as a major constraint. Source: INSTAT, 2019 General effects of the pandemic on the firm’s situation. (Note: N = 136. Source: Authors) The number of contributors to public voluntary social insurance, 1995–2002. (Source: Albanian Social Insurance Institute: www.issh.gov.al) Trend of domestic and emigrants insured in the voluntary social insurance, 2003–2020. (Source: Social Insurance Institute of Albania) Trend of contributors to the voluntary social insurance by age group, 2006–2020. (Source: Social Insurance Institute of Albania, www.issh.gov.al) Dynamics of contributors to the voluntary social insurance regarding sex, 2006–2020. (Source: Social Insurance Institute of Albania, www.issh.gov.al) Inclusive quality of a market economy, 2021. (Source: EBRD on-line transition quality indicators) Economic inclusion in the Western Balkans. (Source: EBRD on-line transition quality indicators)

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198 212 234 237 238 238 239 240 267 287 289 294 294 353 353

List of Tables

Table 3.1 Table 3.2 Table 3.3 Table 3.4 Table 3.5 Table 4.1 Table 4.2 Table 5.1 Table 5.2 Table 5.3

Table 5.4 Table 5.5 Table 6.1 Table 6.2 Table 6.3 Table 6.4

Comparison of datasets structure used in the estimation of underreporting by region (% of wage earners) 58 Comparison of datasets structure used in the estimation of underreporting by gender and age group (% of wage earners) 59 Rate of underreporting of income (%) by region, age group and gender 62 Results of BiHMOD simulation—Distributional effects 63 Estimated monthly budgetary effects of envelope wages 64 Labour Market Indicators based on age, gender 74 Regression results: Probit model for horizontal mismatch 79 Welfare regimes 95 Outline of the multi-level model 102 Ordered logit: the probability of being employed in a higher employment category (dependent variable takes values 1–4 with 1 = unemployment, 2 = Involuntary NSFE, 3 = Voluntary NSFE and 4 = SFE), for the pooled sample and separately for groups of West EU, East EU and non-EU (WB6) countries represented by Albania 106 Variable definition 114 Adapted labour market regulation Fraser index 115 Overview of the Programme of Professional Training, 2012–2020130 Financial Framework for the Work Programme of the Employment Agency of Montenegro for 2020 132 Migration balance on municipal level 139 Participation in the PPT at municipal level 143

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Table 6.5 Table 7.1 Table 7.2 Table 7.3 Table 7.4 Table 7.5 Table 7.6 Table 7.7 Table 8.1 Table 9.1 Table 10.1 Table 10.2 Table 10.3 Table 11.1 Table 11.2 Table 11.3 Table 11.4 Table 11.5 Table 11.6 Table 11.7 Table 11.8 Table 11.9 Table 12.1 Table 12.2 Table 12.3 Table 13.1 Table 14.1

Overview of answers on residence and town of PPT at local level144 Summary of key features of training as an active labour market programme 152 Steps and actions for planned on the job training 155 Quality of short-term vocational training 158 Work experience on the jobs that are related to training/ Length of unemployment and quality of STVT (Pearson correlation coefficient) 164 Motives for attending the training programme and the quality of STVT 166 Quality of STVT and employment 167 Quality of STVT and employment in new jobs 168 In-service learning schemes in VET in different EU countries 177 Structure of female employees, by employment status 210 Indicators and their structure of enterprises, 2019 235 Responses of firms relating to access to finance 241 Ordered Probit and Probit estimations for all enterprises 242 Scores for SBA policy indicators on women’s entrepreneurship260 Characteristics of the sampled firms from the three Western Balkan countries 266 The most exposed sectors 267 Actions taken and new opportunities 268 Firm’s activity depending on the applied strategy (May 2021 compared to February 2020) 269 Use of government support measures by women entrepreneurs270 Firm’s activity in May 2021 compared to February 2020 (users and non-users of government aid) 270 Expected time to recover starting from May 2021 (users and non-­users of government aid) 271 Firm’s plans in the next 6 months starting from May 2021 (users and non-users of government aid) 272 Albanian diaspora, January 1, 2020 282 Indicators of social insurance contributors, 1990–1999 (in thousands) 286 Number of foreign workers in Albania, 2018–2021 290 Return migrants’ motivations for going back to Albania 310 The overview of the respondents: Immigrant entrepreneurs in Croatia originating from EU and non-EU countries 328

CHAPTER 1

Introduction: Key Challenges for Economic Inclusion in the Western Balkans William Bartlett and Milica Uvalić

The countries in the Western Balkans have been severely affected by the wars and conflicts that accompanied the breakup of former Yugoslavia, by political instability and the effort of creating new states, resulting in weak economies and high levels of unemployment, poverty, social exclusion and inequality. As revealed by recent surveys, such as EBRD’s Life in Transition Survey and Eurofound’s European Quality of Life Survey, life satisfaction in the region is far below that elsewhere in Europe. This is not just a social issue but has implications for the prospects for inclusive economic growth in the future. In this respect, the issue of job creation, labour market integration and skill formation are paramount, as exclusion from good quality

W. Bartlett (*) European Institute, London School of Economics & Political Science, London, UK e-mail: [email protected] M. Uvalić Department of Political Science, University of Perugia, Perugia, Italy e-mail: [email protected] © The Author(s), under exclusive license to Springer Nature Switzerland AG 2022 W. Bartlett, M. Uvalic (eds.), Towards Economic Inclusion in the Western Balkans, New Perspectives on South-East Europe, https://doi.org/10.1007/978-3-031-06112-7_1

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jobs and educational opportunities holds back the development of human capital and creates barriers to economic growth. In recent years, the economies of the region were only just beginning to recover from the aftermath of the global economic crisis of the late 2000s and had achieved a strong impetus of economic growth with falling rates of unemployment and increasing optimism for the future. However, the COVID-19 pandemic of 2020 brought about a sudden reversal of these trends and a renewed deterioration in the economic outlook and an increase in social hardships that heralds a repeat of past failures in economic inclusion policies. This book identifies the key challenges to wider economic inclusion in the region and considers the opportunities for solutions to “build back better” during the recovery from the crisis. The final chapter of the book offers some reflections on the above issues and some proposals for more acceptable, equitable and effective economic inclusion policies. This introductory chapter sets out the key contemporary issues related to labour market policies, vocational skills, female entrepreneurship, and migration in the Western Balkans. It identifies the linkages and interrelations between these four broad themes, situating them within a review of the current literature, thus presenting the state of the art in this field of study. It then provides an overview of the four sections of the book. The chapter identifies key challenges for labour market and skills policies in a variety of dimensions, including the effect of income taxes on access to formal labour markets and the effects of tax evasion and non-standard forms of work. It investigates the policy challenges to improving vocational training and the barriers facing women-owned and managed businesses. The last issue addressed is the economic and social integration of migrants and retuning migrants. The book argues that low wages, extensive labour market mismatch and weak social protection policies are strong motivators of migration, and that active labour market policies have failed to reintegrate migrants when they return from abroad, threatening a renewed burst of migration. A key theme of the introduction, and the book as a whole, is the polarisation of the labour markets in the Western Balkans, leading to problems of social exclusion and persistent pockets of poverty. This leads to policy prescriptions focusing on improving economic inclusion in order to ensure shared prosperity of all sections of society in the future. Part I addresses key issues of economic inclusion in the labour market. High levels of unemployment (especially youth unemployment), low levels of labour force participation and widespread informal labour markets,

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have characterised the economies of the Western Balkans for many years (Bardak, Fetsi, & Badescu, 2021; Bardak, Fetsi, & Rosso, 2021). Partly, these effects are driven by the design of tax and benefit systems. As is well known, the taxation of labour income has both an income effect, which increases labour supply as people need to work longer hours to achieve the same income as they would have had to do without the taxation; and a substitution effect, which causes individuals to work less hours since the value of work is reduced by taxation and the attractiveness of other ways of spending one’s time increases e.g. leisure or home production (see for example Atkinson & Stiglitz, 1987). The balance of these two effects is also influenced by the design of the welfare benefits system, which is paid for through social contributions on hours worked—in effect a parallel form of income tax on employees. The targeting of benefit payments to the poorest (means-testing) introduces further disincentives to work if the benefits are withdrawn when a person earns an income from labour, which may give rise to a poverty trap for low-income earners. In Chap. 2 Dragan Aleksić and Mihail Arandarenko identify and document the existence of such a low-wage, high-tax poverty trap in Bosnia and Herzegovina, Montenegro, Serbia and to some degree  in North Macedonia. They argue that the taxation of labour in the region is skewed towards high social security contribution rates (combined with much lower and relatively flat personal income tax rates), which results in a high labour tax burden for low-wage earners. With the exception of Albania, they find that the tax wedge increases only slightly with earnings. This low-wage, high-tax trap translates into comparatively fewer incentives to work for low-skill workers, and, on the side of employers, into fewer incentives to hire low-wage workers and to invest in labor-intensive low-wage sectors. And this, in turn, contributes to lower overall employment and activity rates, higher share of informal work (Williams & Bezeredi, 2018), deepening of regional disparities and worsening of relative position of youth, women and vulnerable groups in general (Oruč & Bartlett, 2018), resulting in higher inequality in disposable wages and income (Žarković Rakić et al., 2019). In order to cope with these high levels of work disincentives employers and employees in the region have devised ingenious schemes to avoid the high marginal tax rates which are imposed on low-paid workers, including both the development of a shadow economy of unregistered business and unregistered labour, and also the under-reporting of wages by formal businesses through the institution of the “envelope wage” (i.e. an

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unreported wage supplement). In Chap. 3 Amela Kurta, Nermin Oruč and Dželila Kramer explore attempts to evade the poverty trap through the payment of envelope wages. They examine data from Household Budget Survey and administrative tax records to estimate the extent and distributional implications of envelope wages in Bosnia and Herzegovina. They estimate the extent of underreporting of income and calculate its fiscal and distributional implications. The introduction of in-work benefits may go some way to alleviate this situation (Randjelović et al., 2019), as would a low-earnings tax allowance to exempt the lowest earners up to some threshold from the obligation to pay income tax. In Chap. 4 Besnik Krasniqi and his colleagues address the challenge of skills and gender gaps in Kosovo and ask whether teaching practices in vocational and university education meet the needs of private sector. This chapter focuses on skill mismatch in Kosovo where the education sector has expanded rapidly but the increase in the number of graduates has not matched the increase in demand for skilled labour. The chapter draws on a  survey with 300 companies used to identify the labour market skills needs based on qualifications and occupations. The employment rate among males (who are more often employed in construction and manufacturing) is far higher than among females (who are more often employed in education and health care) suggesting a need for a gender-based analysis of skills gap in Kosovo. The chapter raises questions about the importance of aligning education and training with the needs of the private sector which often uses training to compensate for the  low quality of the education system. It argues that policy should focus more on supporting engineering schools at secondary and tertiary levels of education. It also highlights the importance of gender differences in designing future policy measures. Another consequence of the low-wage high-tax trap is the growth of non-standard forms of employment. Among those who do have an incentive to take a job and pay their income taxes and social contributions, many are working in non-standard, precarious jobs that are part-time or temporary, or working as self-employed own-account workers in the “gig economy”. This phenomenon of precarious work particularly affects young people and gives rise to a highly unstable labour market experience and to the phenomenon of underemployment (Petreski et al., 2020). In Chap. 5, Elvisa Drishti and Fiona Carmichael examine cross-national variations in non-standard jobs in Albania and ask whether these are related to

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differences in national institutional regimes and labour market regulations. On the basis of an empirical cross-country analysis, they show that differences in the institutional set-up of welfare state regimes in different countries leads to variations in the quality of the jobs provided. They argue that the promotion of institutional deregulation, when implemented along with strong employment protection legislation, has resulted in higher levels of labour market polarisation and inefficiency, and ultimately in higher unemployment and lower job quality. Part II examines vocational training and skills issues in the Western Balkans. Key challenges concern the design and reform of vocational training for the teaching of new skills in a changing world of work, the use of work-based learning and apprenticeship, and the design of training programmes so that they meet the needs of the private sector. Global trends are changing the world of work and new skills are needed to meet the challenges of developments in automation, digitalisation and robotics.1 Several key trends can be identified. In the first place, many medium-­ skilled routine white-collar jobs are likely to be destroyed by automation (Susskind, 2020). In North Macedonia for example, it is estimated that about 20% of urban jobs are at a high risk of disappearing due to automation (Khan & Raja, 2021). Secondly, the content and skill content of existing jobs are likely to change due to the adoption of new technologies (Bardak, Fetsi & Rosso, 2021). This will require upgrading of the skills base of existing employees, which will require additional capacities to deliver lifelong vocational training. Thirdly, new high skilled jobs will be created that are complementary to the new technologies, increasing the demand for highly skilled workers (Brynjolfsson & McAfee, 2014). However, the destruction of middle-skilled jobs and the creation of new high skilled jobs will likely lead to a strong polarisation of the labour markets and further increases in income inequality (Autor et al., 2020). Both the private and public sectors will need to be involved in the expansion and upgrading of the capacity of vocational education providers. In the Western Balkans, graduates from compulsory lower secondary education tend to be mainly influenced by their parents and peers in making choices about their further education, rather than by information from the 1  The adoption of industrial robots is progressing rapidly even in the Western Balkans. In Serbia, the stock of production robots increased by 42% per annum between 2014 and 2019 (from 42 to 246) and in Bosnia and Herzegovina by 34% per annum (from 7 to 30 over the same time period) (Bardak, Fetsi & Badescu, 2021).

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labour market, reducing their opportunities to find a well-matched job or pursue appropriate education pathways (Branković & Oruč, 2016). There is therefore a need for much improved career guidance capacities within lower secondary education, and also at higher levels of education. Despite the poor outcomes from formal VET schooling, active labour market programmes provide limited opportunities for unemployed young people to pursue further non-formal education  and training. Participation in such non-formal education through internship programmes has been shown to be a significant predictor of youth employment status (Pilav-­ Velić et al., 2019). Furthermore, VET capacity is very limited in the Western Balkans secondary education. The education systems are highly selective with an elite of students after the end compulsory primary education progressing to upper secondary education in grammar schools (gymnasia) and the majority progressing to underfunded vocational secondary schools. The situation is different in Albania where most students go to comprehensive schools and only a minority to specialised vocational schools. Forecasts of occupational and sectoral skills demands corroborate the prognosis of a polarising labour market due to automation in the Western Balkan countries, which are likely to experience a shift towards jobs with a higher skill content in the future (Petreski & Petreski, 2021). To address this and minimise the damaging effects of labour market polarisation, a step-change will be needed in the delivery of vocational education and an upgrading of its quality will be needed both within the secondary education system and in the formal and non-formal lifelong learning beyond compulsory education. A similar shift will be needed in the university sector (Bartlett, 2021). The country studies in this section highlight the difficulties in introducing effective vocational education and training programmes and in revitalising the linkages between education systems and the business sector and in introducing work-based learning programmes in the region. In Chap. 6, Maja Markovic considers the effects of the professional training programme in Montenegro. The programme is designed to reduce graduate unemployment and provide a short-term solution for the transition between university studies and employment. She finds little evidence that the programme contributes to solving these problems and argues that paradoxically it contributes to their persistence. In Chap. 7 Vesna Fabian and Maja Jandrić examine the quality of vocational training for the labour market in Serbia. They focus on short-term vocational training and labour

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mobility and analyse trainees’ expectations of the quality of trainings. They find a low quality in the training process, in equipment, and in developing professional competences. Work practice is insufficiently used as a teaching method, and the length of training is insufficient to ensure high quality professional competences. They conclude that the quality of vocational training is an important factor for improving trainees’ position on the labour market. In Chap. 8, Nina Branković examines the apprenticeship system in Bosnia and Herzegovina. She points out that most young people enrolled in secondary education attend vocational schools. She provides an overview of recent changes in the policy framework and shows that apprenticeship remains one of the key challenges for the VET system. A dual education system has recently been adopted to improve the efficiency of apprenticeship training. Branković analyses the challenges facing the introduction of the apprenticeship system and provides some examples of the successful introduction of apprenticeship models. The chapter concludes with some policy recommendations for improving the apprenticeship system in Bosnia and Herzegovina. Part III examines the challenges to female entrepreneurship in the Western Balkans. A longstanding literature on the phenomenon of female entrepreneurship suggests that it is often a response to the discrimination that women face in the labour market, with running one’s own business presenting a viable alternative way to earn an income. In support of this hypothesis, research on OECD countries finds that female entrepreneurship is inversely related to gender gaps in employment rates and wages (Ribes-Giner et al., 2018). The EBRD’s Life in Transition survey found that gender equality is not yet reflected in labour market outcomes and consequently there is still much untapped economic potential in many transition countries (EBRD, 2016). While the motive to establish a female-­led business may be strong, the ability of female entrepreneurs to grow and develop their businesses is constrained by a lack of prior experience in the industry in which they wish to start up their business or in which they operate (Fischer et al., 1993). In transition economies, women have lacked access to business finance, not only due to discrimination by financial institutions on the grounds of women’s restricted access to property capital, but also due to their lesser insertion into informal networks of economic and financial influence (Aidis et al., 2007). Relatively little research has been carried out on female entrepreneurship in the complex environment of the Western Balkans. According to the World Bank Ease of Doing Business survey for 2019, Albania and

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Bosnia and Herzegovina are ranked in 21st and 22nd place out of 24 countries in Europe and Central Asia, while Kosovo is ranked 16th.2 However, regarding the sub-indicator of starting a business, Bosnia and Herzegovina is in 24th place. In such an environment it is perhaps not surprising that female entrepreneurs face many barriers to business start-­ ups and further growth. In Kosovo, as elsewhere, the lack of affordable public child-care facilities has a negative effect on women’s labour force participation (Gashi et al., 2019). In response, women engage in entrepreneurship but mostly operate micro-businesses; they tend to be well educated and are good at financial management, but they face obstacles in obtaining finance, which hinders the growth of their businesses (Ramadani et al., 2015). In Serbia, compared to male entrepreneurs, graduate female entrepreneurs are more likely to be educated in social science, business and law, yet fewer female entrepreneurs had any management experience before starting their own business (Štošić Panić, 2017). They are also more risk averse than men, and prefer slow but stable growth to rapid but unstable growth (Štošić Panić, 2019). For Bosnia and Herzegovina, Kadić Abaz and Hadžić (2020) provide empirical evidence of women’s marginalisation and discrimination on the labour market and show that traditional views on their role in society tend to restrict female labour market activity. Also, in Bosnia and Herzegovina, Palalic et al. (2017) found that female entrepreneurs score better in various entrepreneurial dimensions than men, specifically in relation to innovativeness, proactiveness and risk-­ taking. In Albania, there is some evidence that women have a greater propensity to establish their own businesses after returning from migration abroad than do men (Zulfiu Alili & Adnett, 2021). However, female entrepreneurs in Albania face numerous barriers related to access to business finance, difficulties in establishing a balance between work and family life and lack time to participate in training activities (Ramadani, 2015). The chapters in this section take research on female entrepreneurship forward by examining the factors which lead women to take up entrepreneurship in Albania, Bosnia and Herzegovina and Kosovo, and the institutional support available for women wishing to set up or expand their own businesses. In Chap. 9, Azra Branković and Azra Bičo present a case study on female entrepreneurship in Bosnia and Herzegovina, one of the poorest countries in Europe with a high unemployment rate. Although small businesses might provide employment and income, entrepreneurship is 2

 See: https://www.doingbusiness.org/en/rankings?region=europe-and-central-asia.

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not developed in Bosnia and Herzegovina, especially female entrepreneurship. Available statistical data show that women prefer employment to self-employment, and there are almost three times more self-employed men than women. The chapter asks why women in Bosnia and Herzegovina choose entrepreneurship and what problems they encounter at the startup phase as well as later on, during the life span of their small business. It also discusses the advantages and disadvantages of being a female entrepreneur in Bosnia and Herzegovina. In Chap. 10, Ermina Kalaj examines the incentives and disincentives to female entrepreneurship in Albania. The gap between female and male entrepreneurs is a central point of the literature on female entrepreneurship. Obstacles to female entrepreneurship can arise from the cultural and institutional framework, both formal and informal. The author analyses female entrepreneurs’ access to formal financing in the form of loans from financial institutions. She argues that the main factors which influence these outcomes are the extent of female ownership, the size, age, location of the company, along with the inflation rate and the level of GDP per capita. She also shows that firms with female ownership participation have greater difficulty than male-­owned firms in accessing external finance. In Chap. 11, Sanja Popović-­Pantić, Dušica Semenčenko and Nikola Vasilić analyse the difficulties facing female entrepreneurs during the period of the COVID-19 pandemic in Serbia, Montenegro and Bosnia and Herzegovina. The chapter discusses the effects of the pandemic on women-led businesses, and of the measures implemented to help female entrepreneurs to cope with the crisis. They find that almost three quarters of female entrepreneurs were adversely affected by the COVID-19 crisis and that government support schemes did not make much difference. However, they also find that that the institutional support to female entrepreneurs was crucial for their sustainability and economic inclusion during this time. In Part IV authors discuss migration challenges in the Western Balkans, a phenomenon with a multifaceted nature encompassing temporary and permanent migration, migration of highly skilled people (‘brain drain’), the forced migration of refugees, and transit migration (King & Oruc, 2019). Before the break-up of Yugoslavia, there was substantial outflow of “temporary” migrants who worked as “Gastarbeiters” in the Federal Republic of Germany and other European countries, a large numbers of whom became permanent migrants. During the years of war and conflict in the 1990s, there was an outflow of refugees, only a part of whom returned to their home country. The outflow of migrants from Albania

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was especially large in the 1990s due to the opening of hitherto closed borders, unlike in former Yugoslavia which had the most open borders in Eastern Europe. More recently, since the global financial crisis in 2008–2009, there has been an outflow of economic migrants, especially from Albania and Kosovo (but also from the other countries), pushed by poor economic and employment opportunities in their home countries, as well as pulled by the large wage differentials between the EU countries and the Western Balkans. Many of these latter migrants claimed asylum (since there was no “free movement” from the Western Balkans under EU regulations). Of these, many applications were unsuccessful and there was a reverse wave of migration which required re-integration into the home economies, on the subject of which much has been written (Germenji & Milo, 2009; Kerpaci & Kuka, 2019; Shehaj & Hackaj, 2020; Zulfiu Alili et al., 2019). The frequent waves of migration have created a large diaspora in the more developed countries, which has enabled an enormous reverse flow of remittance incomes to the region, an important source of income, poverty relief, and economic development (Topxhiu & Krasniqi, 2017). Some analysts are more sceptical about the role of remittances, arguing that the main effect of remittances is to boost the consumption of the already most wealthy sections of the populations with little impact on growth or inequality (Jushi et al., 2021; Ujkan, 2021). Along with all these issues, there has been a continuing wave of internal rural-urban migration, often to the capital cities. Many rural areas have become depopulated as the same set of push and pull factors has attracted migration to the capital cities and other large urban centres, continuing a decades-long process of rural-urban migration (Bartlett, 1984; Labrianidis & Kazazi, 2006; Šantić et al., 2017). Finally, the recent wave of “transit migration” passed through the Western Balkans in 2015–2016  in the aftermath of the Syrian crisis, leaving behind some involuntary migrants within the region (Milan, 2019). The chapters in this section discuss some of these migration phenomena, focusing on the role of the poor design of social protection systems in failing to stem labour migration from Albania and the challenges of integrating returned migrants to that country and contrast this with the successes in integrating immigrant entrepreneurs in Croatia. In Chap. 12, Merita and Megi Xhumari considers the relationship between migration and pensions policy in Albania during a thirty-year period (1990–2019). They ask how adequately social policies guarantee the social rights of migrants, especially the right to old age pensions. They

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show that older workers are marginalised in the EU host countries due to the lack of bilateral agreements between Albania and countries such as Italy and Greece. They argue that the sustainable reintegration of Albanian emigrants requires improved social policy coordination at national and international levels. In Chap. 13, Bresena Kopliku and Erka Caro discuss the challenges of integrating returned migrants in the Albanian labour market. As a result of the financial crisis that affected the main destination countries for Albanian migrants there was an increase in return migration rates after 2008. Most returnees from this period had lost their jobs in the host country or had decided to invest in their home country, while involuntary returns mostly occurred due to the refusal of their asylum application or due to their irregular residence in EU countries. Kopliku  and Caro  analyse the policies adopted for the reintegration of returned migrants. In doing this they contrasts two different approaches: the policymakers’ approach and the return migrants’ approach, showing that the social protection and employment services provided by the government are weak and unable to help returning migrants reintegrate into the highly informal job market. The sustainability of the reintegration of returned migrants therefore remains in doubt, especially since re-migration remains open as a feasible option for the migrants. In Chap. 14, Ružica Šimić Banović and her colleagues investigate the integration of migrants in Croatia. They identify the formal and informal barriers facing immigrant entrepreneurs in Croatia, and the sources of their resilience. They find that most immigrant entrepreneurs have been driven by opportunity rather than necessity and that they are highly resilient to both business barriers and external shocks. Their resilience is associated both with their own hardiness, resourcefulness, and optimism but is also reinforced by support provided by their family, friends, and acquaintances. In Part V, the concluding Chap. 15 by the editors of this volume presents some reflections on how to move towards an economically more inclusive model of development in the Western Balkans in the face of all the challenges identified in the various chapters of the book. They put forward their conclusions regarding ways to achieve this.  They set out some broad conclusions, drawing on the chapter contents and situating the analysis in a wider literature of economically inclusive models of development. They argue that the Western Balkan countries could feasibly adopt a more socially inclusive path, that would secure faster economic growth and facilitate EU integration. The primary focus of government

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policies applied over the past two decades has been on accelerating economic growth through economic and institutional reforms applied elsewhere in Central and Eastern Europe—including rapid market and trade liberalisation, economy-wide privatisation, fiscal consolidation, measures to attract FDI—with the expectation that fast growth will also bring new employment opportunities and economically inclusive development. This has not happened in most cases. Unemployment rates have risen to remarkably high levels, while employment rates have been far below those in the EU (Bartlett, Oruč & Kurta, 2021). Youth unemployment, female unemployment and long-term unemployment have also been remarkably high  (Bartlett, Guxholli, et  al., 2021). Many of the young people who have a job have only been able to find temporary jobs, or jobs in the informal economy. The situation facing young people is dire, with many neither in employment nor in education and training (NEET). In addition, wages have been low and stagnant, and the level of inequality in some of the Western Balkan countries has been among  the highest in Europe (Žarković Rakić et al., 2019). As discussed in Part I of the book, the institutional arrangements of the tax and benefit system have led to a situation in which low-paid formal work is discouraged; workers who might take up low-paid jobs find it unattractive to do so due to the institutionalised poverty trap, leading to low rates of economic activity. Instead, they seek jobs in the informal sector or take envelope wages to avoid a heavy tax imposition. The Western Balkans face many challenges in promoting a more inclusive model of development. They have inherited complex social problems from the early years of transition, deriving from slow labour market adjustments to fast structural changes, lack of fundamental reforms in key social policy areas and neglect of key elements of the social agenda. The editors argue that a fundamental precondition for implementing a more inclusive model of development is to raise awareness about the importance of developing human capital and designing and implementing related policy instruments. As discussed above, the changing nature of technology and the rapidly evolving labour market will require much greater investment in education, training and retraining than currently takes place. Vocational schools are in desperate need of upgrading and improvement. Lifelong education and training opportunities will have to be rapidly expanded and fully funded. A more balanced mix of policies that would take into account the key priorities for economic inclusion could promote a more comprehensive model of development that would also be more socially

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acceptable. As argued in the book, the prime emphasis of such an inclusive model of development would be an expansion of support for productive entrepreneurship and new start-ups to challenge and disrupt the incumbent institutions of monopolistic economic power, along with a greater encouragement of female entrepreneurship to ensure the greatest mobilisation of entrepreneurial talent. As demonstrated in the book, a greater effort to integrate returning emigrants would also be an important driver of inclusive economic development, as would an equalisation of the spatial imbalances which have seen rural areas depopulated and deindustrialised due to high levels of rural-urban migration and low levels of investment outside capital cities. The urban bias of most economic policies should be acknowledged and reversed to reduce the allocative inefficiency linked to the over-­centralisation of fiscal and financial resources, and to ensure that the benefits of growth can be better distributed across all regions and localities (Uvalić & Bartlett, 2021). Such an economically inclusive model could additionally promote greater political stability and contribute to reduced outward migration of young people and qualified professionals. Drawing on the findings of the chapters on deficiencies in labour markets, education and training systems, and difficulties facing female entrepreneurs and migrants in the Western Balkans, the concluding chapter identifies the key ingredients of a socially acceptable model of development based upon economic inclusion priorities and sketches out a wide-ranging agenda for inclusive economic development that could bring substantial advantages to the people and the countries of the region.

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Bardak, U., Fetsi, A., & Rosso, F. (2021). Global trends shaping labour markets and the demand for labour in the world: An overview. In A. Fetsi, U. Bardak, & F. Rosso (Eds.), Changing skills for a changing world: Understanding skills demand in eu neighbouring countries (pp.  3–22). European Training Foundation. Bartlett, W. (1984). Unemployment, migration and industrialization in Yugoslavia, 1958–1982. EUI Working Paper, n. 90. European University Institute. Bartlett, W. (2021). Emerging digital skill shortages and skill mismatches in the Western Balkans: Can universities provide the high-quality education needed for the future? In A. Fetsi, U. Bardak, & F. Rosso (Eds.), Changing skills for a changing world: Understanding skills demand in EU neighbouring countries (pp. 246–260). European Training Foundation. Bartlett, W., Guxholli, S., Zaçellari, M., Beshaj, L., Peštek, A., Jahić, H., Sejdiu, S., Stojanović, R., Jovanovski, P., Bjelica, D., & Kurta, A. (2021). Study on youth employment in the Western Balkans. Regional Cooperation Council. Bartlett, W., Oruc, N., & Kurta, A. (2021). Labour markets in the Western Balkans 2019 and 2020. Regional Cooperation Council. Branković, N., & Oruč, N. (2016). From VET school to the labour market in Bosnia and Herzegovina: Expected versus actual wages. European Journal of Education, 51(3), 360–373. Brynjolfsson, E., & McAfee, A. (2014). The second machine age: Work, progress, and prosperity in a time of brilliant technologies (p.  2014). W.W.  Norton & Company. EBRD. (2016). Life in transition III. European Bank for Reconstruction and Development. Fischer, E. M., Reuber, A. R., & Dyke, L. S. (1993). A theoretical overview and extension of research on sex, gender, and entrepreneurship. Journal of Business Venturing, 8(2), 151–168. Gashi, A., Rizvanolli, A., & Adnett, N. (2019). Bucking the trend: Female labor market participation in Kosovo. Croatian Economic Survey, 21(2), 85–116. Germenji, E., & Milo, L. (2009). Return and labour status at home: Evidence from returnees in Albania. Southeast European and Black Sea Studies, 9(4), 497–517. Jushi, E., Hysa, E., Cela, A., Panait, M., & Voica, M. C. (2021). Financing growth through remittances and foreign direct investment: Evidence from Balkan countries. Journal of Risk and Financial Management, 14(3), 117. Kadić Abaz, A., & Hadžić, A. (2020). Economic activity of women and young women in Bosnia and Herzegovina under the umbrella of traditional views of women’s role in society. Economic Research-Ekonomska Istraživanja, 33(1), 2591–2605. Kerpaci, K., & Kuka, M. (2019). The Greek debt crisis and Albanian return migration. Journal of Balkan and near Eastern Studies, 21(1), 104–119.

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Khan, B. M., & Raja, S. (2021). Risk of automation to jobs in the urban areas of Amenia, Georgia, Moldova and North Macedonia. In A. Fetsi, U. Bardak, & F.  Rosso (Eds.), Changing skills for a changing world: Understanding skills demand in EU neighbouring countries (pp.  65–82). European Training foundation. King, R., & Oruc, N. (2019). Editorial introduction: Migration in the Western Balkans – Trends and challenges. Journal of Balkan and Near Eastern Studies, 21(1), 1–10. https://doi.org/10.1080/19448953.2018.1532682 Labrianidis, L., & Kazazi, B. (2006). Albanian return-migrants from Greece and Italy – Their impact upon spatial disparities within Albania. European Urban and Regional Studies, 13(1), 59–74. https://doi.org/10.1177/0969776406060828 Milan, C. (2019). Refugees at the gates of the EU: Civic initiatives and grassroots responses to the refugee crisis along the Western Balkans Route. Journal of Balkan and Near Eastern Studies, 21(1), 43–60. https://doi.org/10.108 0/19448953.2018.1532686 Oruč, N., & Bartlett, W. (2018). Labour markets in the Western Balkans: Performance, Causes and Policy Options. Regional Cooperation Council. Palalic, R., Ramadani, V., & Dana, L. P. (2017). Entrepreneurship in Bosnia and Herzegovina: Focus on gender. European Business Review, 29(4), 476–496. Petreski, B., Dávalos, J., & Tumanoska, D. (2020). Youth underemployment in the Western Balkans: A multidimensional approach. Eastern European Economics, 59(1), 25–50. Petreski, M., & Petreski, B. (2021). The Macedonian labour market in stalemate: Forecasting occupational and sectoral labour demand. In A. Fetsi, U. Bardak, & F. Rosso (Eds.), Changing skills for a changing world: Understanding skills demand in EU neighbouring countries (pp.  83–97). European Training foundation. Pilav-Velić, A., Jahić, H., Okičić, J., & Kokorović-Jukan, M. (2019). The impact of formal and non-formal education on youth employability in Bosnia and Herzegovina. Croatian Review of Economic, Business and Social Statistics, 5(1), 55–66. Ramadani, V. (2015). The woman entrepreneur in Albania: An exploratory study on motivation, problems and success factors. Journal of Balkan and Near Eastern Studies, 17(2), 204–221. Ramadani, V., Rexhepi, G., Abazi-Alili, H., Beqiri, B., & Thaci, A. (2015). A look at female entrepreneurship in Kosovo: An exploratory study. Journal of Enterprising Communities-People and Places in the Global Economy, 9(3), 277–294. Randjelović, S., Žarković Rakić, J., Vladisavljević, M., & Vujić, S. (2019). Labour supply and inequality effects of in-work benefits: Evidence from Serbia. Naše Gospodarstvo / Our Economy, 65(3), 1–22.

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Ribes-Giner, G., Moya-Clemente, I., Cervello-Royo, R., & Perello-Marin, M. R. (2018). Domestic economic and social conditions empowering female entrepreneurship. Journal of Business Research, 89, 182–189. Šantić, D., Antić, M., Ratkaj, I., & Budović, A. (2017). Migration and demographic shrinkage in rural areas in Serbia. Regions Magazine, 305(1), 9–11. Shehaj, E., & Hackaj, A. (2020). Back to basics: The determinants of Albanian migration to Germany in 2014–2015. In W.  Bartlett, V.  Monastiriotis, & P.  Koutroumpis (Eds.), Social exclusion and labour market challenges in the Western Balkans (pp. 41–60). Cambridge Scholars Publishing. Štošić Panic, D. (2017). Differences in the human capital of female and male entrepreneurs – Evidence from the Republic of Serbia. Journal of East European Management Studies, 22(4), 511–539. Štošić Panić, D. (2019). The strategic choices of Serbian entrepreneurs: Are they entrepreneurially oriented and do they differ by gender? Economic Annals, 64(222), 147–172. Susskind, D. (2020). A world without work: Technology, automation, and how we should respond. Metropolitan Books. Topxhiu, R. M., & Krasniqi, F. X. (2017). The relevance of remittances in fostering economic growth in the West Balkan Countries. Ekonomika, 96(2), 28–42. Ujkan, Q. B. (2021). The interactive effects of remittances on economic growth and inequality in Western Balkan countries. Journal of Business Economics and Management, 22(3), 757–775. Uvalić, M., & Bartlett, W. (2021). Regional disparities and regional development policies in Serbia. In Working Paper in Economy and Finance. Friedrich Ebert Stiftung. Williams, C. C., & Bezeredi, S. (2018). Explaining and tackling under-declared employment in FYR Macedonia: The employers’ perspective. South East European Journal of Economics and Business, 13(2), 19–31. Žarković Rakić, J., Krstić, G., Oruč, N., & Bartlett, W. (2019). Income inequality in transition economies: A comparative analysis of Croatia, Serbia and Slovenia. Economic Annals, LXIV(223), 39–60. Zulfiu Alili, M., & Adnett, N. (2021). Return migrants in Albania: The determinants of “entrepreneurial gain”. Review of Development Economics. https:// doi.org/10.1111/rode.12767 Zulfiu Alili, M., Adnett, N., & Veseli-Kurtishi, T. (2019). The determinants of the employment status of return migrants in Albania. Migration Letters, 16(4), 625–636.

PART I

Labour Market Inclusion

CHAPTER 2

A Low-Wage, High-Tax Trap in the Western Balkans Dragan Aleksić and Mihail Arandarenko

1   Introduction In only two decades since the beginning of XXI century, labour evolved from an abundant to a relatively scarce resource in the Western Balkans. This development, driven by demographic trends and most directly manifested by the decline in the working age population in all economies except

Parts of this chapter are based on authors’ contribution to a publication of the World Bank and The Vienna Institute for International Economic Studies (WIIW) “Western Balkans Labour Market Trends 2019—Special topic: Labour costs, labour taxes and low-wage earners in the Western Balkans”. We acknowledge the financial assistance of the World Bank and are grateful to Stefanie Brodmann who led the project for her consent to publish some of our results in this chapter. Responsibility for the contents and information in the chapter rests solely with the authors.

D. Aleksić (*) • M. Arandarenko Faculty of Economics and Business, University of Belgrade, Belgrade, Serbia e-mail: [email protected] © The Author(s), under exclusive license to Springer Nature Switzerland AG 2022 W. Bartlett, M. Uvalic (eds.), Towards Economic Inclusion in the Western Balkans, New Perspectives on South-East Europe, https://doi.org/10.1007/978-3-031-06112-7_2

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Kosovo (which probably also experienced a net decline if emigration were fully taken into account), was predictable a long time ago. Nevertheless, economic policy only recently and in most cases very belatedly changed the perception, formed at the start of transition, of unlimited supply of labour that could be put to work only by creating sufficient flexibility in the labour market, suppressing trade unions and appeasing the employers. Such an approach possibly helped reduce the unemployment rate but was decisively unhelpful in creating good jobs and getting closer to escaping the middle income trap. This contribution focuses on analysing institutional features that have been identified as the most likely direct causes for the poor performance of Western Balkan labour markets. The analysis is motivated by the need to reassess the structure of labour costs and the level and structure of labour taxes—understood broadly as the non-wage portion of total employee compensation—which was last studied comprehensively in a regional report over 10 years ago (Arandarenko & Vukojević, 2008). Section 2 analyses low wages and low-wage jobs, defined relatively as those that pay less than two-thirds of the national median or mean of gross hourly wages, in the Western Balkans. Two different sources of information are used. The first is the Structure of Earnings Survey (SES). However, since SES covers only a portion of the formal labour force, it tends to exclude large swathes of low-wage earners (as defined by its own threshold). Furthermore, there is some evidence that low-wage earners, especially those below the age of 30, tend to get stuck in a low-wage situation for prolonged periods of time (Aleksić, 2020). Sections 3 and 4 explore the features of the labour taxation systems in the region, applying the standard OECD methodology. This analysis identifies three countries in the region with a high effective labour tax burden, affecting not just employers but also low-wage workers. The analysis also shows that all countries rely predominantly on social security contributions (SSCs) as the main source of revenue from labour taxes. Section 5 looks at policy options and obstacles to implementation of a thorough reform of the labour taxation system. Such reform is particularly necessary to counter the double disadvantage of low wages and low employment in high tax-wedge countries of the region. An alternative avenue—a gradual but persistent reduction in labour supply due to emigration and intensified natural population shrinking—is far less attractive.

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2   Labour Market Performance and Low Wages in the Western Balkans The shrinking of the working age population has been a distinctive feature of the region in the past decade. According to the Labour Force Survey data (LFS), between 2010 and 2019 working age population decreased by more than 1.1 million people or about 9%.1 Kosovo was the only polity within the region that managed to increase population between 15 and 64  years by about 5%.2 This is not a coincidence, since Kosovo has the highest birth rate and youngest population in the region. The magnitude of the reduction in other countries varied considerably, from a negligible 0.5% in North Macedonia to an astonishing 22% in Bosnia and Herzegovina. This trend can be explained mostly by the ageing of the population and strong emigration, the latter even not being fully accounted for (Arandarenko & Aleksić, 2020). Moderate GDP growth in combination with the shrinking of the working age population contributed to the increase in activity rates. Although the activity rates (15–64) have increased since 2013 the region was still far behind the EU average in 2019 (61% vs 73.5%). The closest to the EU average are Albania with 69.6% and Serbia with 68.1%, while the gap is quite significant in Bosnia and Herzegovina (55.5%) and Kosovo (40.5%). However, the wide gap between Albania and Kosovo is partially due to variations in their Labour Force Surveys, with Albania applying somewhat more relaxed classification criteria for activity and employment. The low participation of women is one of the key factors behind the activity gap between the Western Balkans and the EU. Actually, the activity rates of women in the Western Balkans are among the lowest in Europe. While the gender activity gap in the EU in 2019 was 10.8 p.p., women in Western Balkans on average had almost 20 p.p. lower activity rates than men. It is indicative that the gender activity gap was highest in Kosovo (59.7% vs 21.1%) and Bosnia and Herzegovina (66.4% vs 41.8%), which are two countries that are also lagging the most behind the EU in the overall activity rate.3 Relatively low participation of young people (15–24) also contributes to lower activity rates in the Western Balkans. More importantly, a large  LFS data, National statistical offices.  From 2012 instead of 2010. 3  Eurostat. 1 2

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portion of inactive young people not in employment, education or training (NEET) indicates a difficult transition from school to work. In 2019 the NEET rate among young people in the Western Balkans was over 20%, more than twice the EU average.4 After a sharp decline during the Great Recession, employment has risen since 2013. Up until 2019 about 700,000 jobs were created in the region. However, the employment rate of people between 20 and 64 years in the Western Balkans in 2020 (55%) remains far behind the EU (72.5%). More importantly, there are large variations in the employment rate across the region—from around 29% in Kosovo to 66% in Albania and Serbia. On the other hand, the unemployment rate decreased during the last decade, but in 2019 for the region as a whole it was still twice the EU average. In addition, the unemployment rates for women and young people in the Western Balkans are disproportionately higher than in the EU.5 Another feature of the region is the relatively low quality of employment. Informality is widespread across the Western Balkans. According to the World Bank (World Bank, 2021), the contribution of the informal sector to GDP was between 25% and 35% in the region, while in the EU informality averages 15–20% of GDP. Data on informal employment are directly available from LFS only for 3 Western Balkan countries—Albania, North Macedonia and Serbia. In 2019 the share of informal workers was highest in Albania (about 37%), while North Macedonia and Serbia had a similar share of around 16%.6 The World Bank estimates suggest that the informal employment rate in 3 countries for which data are not available is closer to the level in Albania than in North Macedonia and Serbia. Besides informal employment, the region is also characterised by vulnerable employment. Vulnerable employment is defined as a sum of self-­ employed and unpaid family members. In contrast to paid employment consisting of wage employees, vulnerable employment is usually associated with less job security and worse working conditions. The share of vulnerable employment in the region is higher than the EU average, but, as can be seen from Fig. 2.1, it varies within the region. Moreover, the share of the most vulnerable group—unpaid family members—is far above the EU average. While there are not many countries in the EU where the share of

 Ibid.  https://www.esap.online/social_scoreboard/?action=social_scoreboard. 6  LFS data, National statistical offices. 4 5

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60 50 40 30 20 10 0

Albania

Serbia

Bosnia and Herzegovina

North Macedonia

Montenegro

Fig. 2.1  The share of vulnerable employment in 2019. (Source: ILO)

unpaid family members exceeds 1%, the share is almost double digit in some Western Balkan countries. In contrast to the improvement of key labour market indicators over the past decade, the increase in wages is far less impressive. As a matter of fact, real wages were mostly stagnant. In every country but Kosovo and Bosnia and Herzegovina annual real wages decreased at least in three years since 2012. However, between 2017 and 2019, real wages increased in every country but Montenegro. Recent real wage growth across the region can be explained by the combination of hikes in the minimum wage and the strong increase of wages in the public sector. Speaking in absolute terms, the gross average wage in the Western Balkans in 2019 was about EUR 650, with significant differences among countries. The lowest gross average wage was recorded in Albania (about EUR 440), while Montenegro had the highest gross average wage (about EUR 780).7 It should be borne in mind that the methodology for calculating the average wage varies between countries which leads to comparability issues (Arandarenko & Aleksić, 2018). Compared with to the EU, the average EUR wages in the 7   SEE Jobs Gateway Database available at: https://data.wiiw.ac.at/seejobsgatewayq-­24700d30d110ea20eff4481b0.html.

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Western Balkans countries are 3 to 6 times lower. Of course, the difference is significantly smaller when wages are expressed in PPP dollars, because in the Western Balkans the costs of living are significantly lower than the EU average. Since the Western Balkans is a region far less developed than the EU, the differences in average wages are not surprising and can mostly be explained by the differences in GDP per capita and the overall level of economic development. However, this explanation is largely irrelevant when it comes to the high prevalence of low-wage jobs, since they are defined in relation to national benchmarks. The Western Balkan countries have a very pronounced right-skewed wage distribution, or the so-called positive-skew wage distribution. It is characterised by a long right tail and a mean far greater than median. The best way to get a hint of how the low wage jobs are spread in the Western Balkans would be to take a look at the complete wage distributions. Unfortunately, comparable wage distribution data are not publicly available. Still, wage distribution data are obtainable for three countries—North Macedonia, Kosovo and Serbia. The distribution of net wages in 2019 for these countries is shown in Fig.  2.2. It should be emphasized that the distributions are not completely comparable for several reasons. First, predetermined wage intervals vary by country, which is why the values on the horizontal axis differ. Second, while wages in Kosovo were obtained from the LFS, where respondents self-report their wages, wages in North Macedonia were obtained from the Establishment Survey (called TRUD) and in Serbia from the combination of the establishment survey (RAD) and tax administration data, where the data are taken from firms’ or tax administration records. Despite all shortcomings, it can be concluded that all three countries have significant shares of low wage workers. More than half of workers in North Macedonia earned less than three quarters of the average wage, while the shares for Serbia and Kosovo were 57% and 59%, respectively. In the rest of this section, our estimates of the share of low-wage earners are given, based on the Structure of Earnings Survey (SES) which is conducted every four years in the EU Member States and in some candidate countries. It is a high-quality employer-based individual wage dataset. The SES uses the standard definition of low wage earners developed by the OECD. It is a relative concept, where every worker who receives less than two thirds of the national median wage is considered as a low wage earner. This means that our analysis will focus not on the whole

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Kosovo 35 30 25 20 15 10 5 0

12%

29%

41%

52%

64%

76%

105%

128%

163%

200%+

North Macedonia 30 25 20 15 10 5

8% 0% + 20

17

9%

9%

14

5%

12

11

%

7%

10

%

%

99

91

%

83

%

75

%

67

%

59

%

52

%

44

34

38

%

0

Serbia 35 30 25 20 15 10 5 0

56%

70%

98%

126%

154%

196%

261%+

Fig. 2.2  Net wage distribution in % of the average wage in selected Western Balkan countries (2019). (Source: TRUD for North Macedonia, RAD and Tax data for Serbia and LFS for Kosovo (only male wages))

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30 25

%

20 15 10 5

EU Montenegro* Albania Serbia North Macedonia

Latvia Lithuania Estonia Poland Bulgaria Germany Romania Ireland Greece Cyprus Croatia Netherlands Slovenia Slovakia Malta Czechia Austria Spain Belgium Hungary Luxembourg Iceland Switzerland Norway Denmark France Italy Finland Portugal Sweden

0

Fig. 2.3  Low wage earners in 2018. (Source: Eurostat, SES. Note: * 2014 for Montenegro)

distribution, but at the point estimate—the percentage of low wage earners. The results are thus broadly comparable between the countries and over time. North Macedonia was the first country in the region to conduct a SES in 2010. Montenegro and Serbia joined in the following wave, while the SES in Albania was for the first time implemented in 2018. The latest available data on low wage earners are presented in Fig. 2.3. With a share of above 21% in 2018, the Western Balkans had a higher prevalence of low wage earners than the EU-28 and any neighbouring country except Bulgaria. However, the share of low wage earners significantly differs within the region. Closest to the EU average was North Macedonia with a share of 16.1%, while over 27% of workers earned low wages in Montenegro. Having in mind the overall trend, the share in Montenegro was probably somewhat lower in 2018, but data are not yet available. North Macedonia and Serbia were the two most successful countries when it comes to reducing the share of low wage earners from 2014 to 2018, by 9 p.p and 5 p.p, respectively. These results were achieved to a large degree due to significant increases in the minimum wage. A major minimum wage reform in North Macedonia in 2017 and significant increases of the minimum wage in Serbia in 2017 and 2018, after it was held frozen for 3 years, were the main factors behind the reduction in the share of low wage earners.

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It should be noted, however, that SES is less representative of the overall population of waged employees in the Western Balkans than in the EU countries. This is because the sub-population of wage earners not covered by the SES—that is, formal employees in micro firms and unincorporated businesses, as well as waged employees in informal businesses regardless of business size—makes up a larger share of the total wage-earner population in the Western Balkans than in most, if not all, EU countries. Still, it is unclear whether the share of low-wage earners in the Western Balkans would rise further above the EU average if all waged employees were taken into account. This is because the inclusion of a large section of mostly low-wage workers outside the SES universe reduces both the median and the mean wage in uncertain—but possibly similar—proportions. However, if the threshold is kept at the level defined by the SES wage distribution, that share would clearly be much higher. The probability of receiving low wages largely depends on the demographic characteristics of workers and the characteristics of jobs. Some groups that are traditionally considered as vulnerable in the labour market tend to have a higher share of low wage earners among them. However, this may not be true for every vulnerable group and every individual country. Interestingly, following the general pattern of gender inequalities in the Western Balkans, with the above-average employment gap and below-­ average pay gap, the gender gap for the low wage earners is lower compared with the EU average. With the exception of North Macedonia, it could be said that this gap barely exists. In contrast to the EU where the share of low wage workers among females was about 6 p.p. higher than among males, the corresponding gender gaps in Albania, Serbia and Montenegro were under 1 p.p. This is mostly due to the low labour force participation of women with low level of education. In a way, there is a trade-off between the large employment gender gap and low wage gender gap in the region (Avlijaš et al., 2012) (Fig. 2.4). Similar to the vulnerability pattern for women, the second broad vulnerable group—young people (defined here as persons below the age of 30)—were not particularly exposed to low wages either. The share of young low wage earners in Albania in 2018 was similar to the one in the EU (about 26%), while Serbia and North Macedonia had noticeably lower shares (22.1% and 19.5%). The only outlier was Montenegro where the share of low wage earners among the young was highest in Europe with the value of 43.3%. Unlike in the EU, where the share of low wage earners related to age had a “U” shape—with young and old having the highest

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30 25

%

20 15 10 5 0

EU

Montenegro* Males

Albania

Serbia

North Macedonia

Females

Fig. 2.4  Low wage earners by sex in 2018. (Source: Eurostat, SES.  Note: * 2014 for Montenegro)

share, the age-related share of low wage earners in the Western Balkans was monotonous—it decreased with age. This pattern can be partly explained by the existence of a mandatory wage premium on either total years of work experience or at least on tenure with the current employer. As in the EU, higher education provides a strong shelter from low wages also in the Western Balkans. On the other hand, the low educated persons are disproportionately vulnerable in the Western Balkans. While the share of low wage earners among those with primary education in the EU amounted to 27% in 2018, the Western Balkans average was as high as 43%. Especially exposed were the low educated people in Montenegro (62%) and in Albania (46%). This is also due to the composition effect, with on average a higher share of low-skilled among the wage earners in the Western Balkans. When it comes to the distribution of low wage earners across sectors of economic activity, the one in the Western Balkans largely overlaps with the EU. The highest probability of being a low wage earner was reserved for employees that worked in the Accommodation and food service activities and Administrative and support service activities, while the lowest share was observed for employees that worked in the Electricity, gas, steam and air conditioning supply.

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3   Labour Taxation For well over a decade, the taxation of labour has been singled out as one of the most problematic institutional features of labour markets in the Western Balkans. Initially, emphasis was put on the presumed negative effects of high labour tax wedges on job creation and investment, especially in labour-intensive low-wage industries, and on disincentives for the formalisation of informal employment (Arandarenko & Vukojević, 2008). Koettl and Weber (2012) and Koettl (2012) emphasised the interaction between labour taxation and the social benefit system, and found a very high effective marginal tax rate at the point of formalisation—typically around the minimum wage—in the region. Furthermore, Koettl (2012) singled out the rules regarding the minimum social contribution base as an impediment to the growth of formal part-time jobs and to improvements in the work-life balance, especially in view of the high gender employment gap. Labour taxation was highlighted as one of the main factors affecting job growth in the analysis conducted by Kovtun et  al. (2014). More recently, the high inequality of disposable income in the region has been explained partly as a consequence of an apparent failure by labour taxation systems to reduce market income inequality (Arandarenko et al., 2017; Jusić, 2018). However, frequent changes in labour taxation rules within countries and the substantial differences found in those rules among the six Western Balkan economies call for a careful country-by-country analysis. While earlier analyses reported comparatively high tax wedges, more recently the variability in taxation rules and tax wedges across the region has increased. Still, two important and long-standing features appear to be common or dominant (though not universal) across the region. The first is the reliance on social security contributions as the main component of labour taxes; they comprise the bulk of total revenue from labour taxation, while the personal income tax component remains marginal or modest, at best. The second, stemming to a significant degree from the first feature, is the low progressivity of labour taxation, as measured by the tax wedge differentials at various points of the wage distribution. The system of individual income taxation (where the unit of taxation is an individual rather than married couple) is applied in all countries of the Western Balkans. Almost every country in the region has a personal allowance which ensures some indirect progressivity of income tax schedules. The single exception is Montenegro in which, starting from the first

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earned euro, tax amounts to 9% of gross salary. The only country that has a family allowance is Bosnia and Herzegovina. The tax allowance for dependent spouse and/or children exists in both entities—Federation of Bosnia and Herzegovina and Republika Srpska. The only two countries in the region that have at least two different marginal tax rates are Albania and Kosovo.8 An increase of marginal tax rates with the increase of income provides direct progressivity to the labour taxation system. Besides the 0% tax rate, Albania has two and Kosovo has three marginal tax rates. However, the highest marginal tax rate in Kosovo is just 10%, which is the lowest maximal marginal tax rate among European countries that have progressive labour taxation. A somewhat higher maximal tax rate of 23% is observed in Albania. Still, compared with top marginal tax rates of other EU countries, it is well below average. Since the tax progressivity in only two countries that have a directly progressive labour taxation is moderate at best, adding up other countries that have only indirectly progressive labour taxation will only reduce the already low region’s average level of taxation progressivity. Some type of pseudo-progressivity in Serbia is ensured by the existence of annual income tax consisting of two marginal tax rates. The annual income is not limited to labour income only, but also includes the income of other factors of production. However, it affects under 1% of all personal income taxpayers, so the contribution of annual income tax to overall progressivity is marginal. Furthermore, for labour income the total tax wedge becomes regressive once the annual income tax kicks in, because at that income level (effectively around five times the average salary) social contributions are no longer paid. According to the tax base for the personal income tax, Western Balkan countries can be placed in two groups. The first consists of those countries in which personal income tax is levied on the gross wage after the deduction of the personal allowance. Albania, Kosovo, Serbia and Montenegro are following this approach, though in Montenegro the personal 8  Montenegro also has at least two marginal tax rates. Workers that have wages over 750 EUR are obliged to pay relatively more (11% vs 9%). However, a higher marginal tax rate was introduced as a crisis measure so it can be considered temporary (and it was indeed withdrawn in 2020). Another distinctive feature of labour taxation in Montenegro is the existence of surtax. The taxable base for surtax is personal income tax, while the surtax rate varies from 10 to 15%, depending on the region, and is specifically earmarked to provide revenue for local governments (i.e. surtax rate in Budva is 10%, 15% in Podgorica and Cetinje and 13% in other regions).

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allowance does not exist so the base is the gross (market) wage. In the second group, the tax base for personal income tax is somewhat lower. The personal income tax is levied on the gross wage reduced not only by the personal allowance, but also by social security contributions. This type of calculation is practised in North Macedonia and Bosnia and Herzegovina. The tax base in Bosnia and Herzegovina is even smaller since the gross wage is also reduced by the family allowance. Social security contributions make the bulk of labour taxes in all Western Balkan countries. Another thing that is common for all countries in the region is the main components of social security contributions (SSCs). They are pensions, health and unemployment, listed by importance. However, there are some exemptions. For example, besides the standard contributions, Republika Srpska has an additional type of insurance—child care insurance. On the other hand, Kosovo does not have either unemployment insurance or health insurance. Actually, health contributions were introduced in 2017, but have not been implemented yet. Although the main components of SSCs are more or less the same in all Western Balkan countries, there are significant variations across countries regarding the distribution of the SSCs burden on employers and employees. In one corner is Albania, where employers pay a higher portion of SSCs than employees. The opposite is observed in North Macedonia and Republika Srpska, where SSCs are entirely paid by employees. In the middle is Kosovo, where SSCs are split equally between employers and employees. Finally, Federation of Bosnia and Herzegovina, Montenegro and Serbia lean towards North Macedonia and Republika Srpska, since the larger part of SSCs is paid by employees. In general, the rates, as well as the minimum and maximum base, of SSC that are in place for wage employees also apply to self-employed. However, Western Balkan countries do not have significant tax incentives for self-employed. As a result, the practice of false self-employment is not widespread in low-wage sectors, such as construction and manufacturing. Instead, false self-employment is more frequently encountered in high-­ wage sectors such as Information and Technology, Business and consulting etc. Since the regulations allow certain categories of self-employed to pay lump-sum taxes and contributions up to very high income thresholds, it can be observed that taxation of self-employment is even less progressive (and quite often outright regressive) than wage employment. A brief discussion about the taxation rules for self-employed persons in the selected Western Balkan countries is presented in the box below.

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On the other hand, labour taxes for service contractors and workers on temporary employment contracts typically are equivalent to the ones for workers with standard employment contracts. Due to mandatory minimum bases for SSC, part-time workers may face higher tax wedges than their full-time peers. In Serbia, for example, casual student work faces a not-insignificant tax wedge of 29%, inclusive of a mandatory fixed service fee rate set by a cartel of service providers (so called student co-­operatives), and both personal income tax and VAT. Students, on the other hand, do not have pension insurance and hardly any health benefits. Overall, the increased share of temporary workers cannot be ascribed to a lighter taxation of atypical work. In some cases, this reflects the importance of seasonal work (e.g. in Montenegro), while it more generally represents a secular trend related to create a more flexible labour market institutions and waning trade union power. Simply, firms opt to employ workers on flexible contracts because they can pay them less and make them work harder. Taxation of Income from Self-Employment ALBANIA—Small businesses that generate annual turnover of up to ALL 2 million are subject to a fixed tax obligation that varies according to the type of business activity and the location of the business. Self-employed that generate more than ALL 2 million are subject to tax at a rate of 10%. The tax base equals the difference between total gross income and total deductible expenses. The self-employed are liable to pay for themselves a mandatory SSC, made up of a social insurance contribution of no less than 23% of the monthly minimum salary and health insurance contribution of 3.4% on no less than the double minimum salary. As can be seen, health SSC for employees and self-employed persons is the same (3.4%), but pension and unemployment contributions are 1.5% p.p. lower for self-­ employed persons. Furthermore, SSCs minimum is the same, while maximum SSCs is also lower for self-employed. KOSOVO—Self-employed with an annual gross income of EUR 50,000 or less are taxed at 3% (for activities such as trade, transport, agriculture and similar commercial activities) or 9% (for services, professional activities, entertainment, etc.). Self-employed with an annual gross income of up to 50,000 EUR and those who have voluntarily chosen to be taxed on real income, are taxed at the same progressive personal income tax rates as employees, only defined on an annual basis.

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MONTENEGRO—According to the type of activity, self-employed are divided into four groups. Every group have a different predetermined lump sum deduction, ranging from 35% to 75%. Taxpayers in each of the four groups are further classified according to the amount of annual turnover, ultimately giving the total amount of fiscal liabilities. NORTH MACEDONIA—The base for Personal Income Tax calculation for the income out of an independent activity is the net income (the difference between total income and total expenditures of the taxpayer) assessed in the Annual Tax Balance. The SSCs basis for self-employed cannot be lower than the average salary per employee in North Macedonia, while in case of employees the minimum is 50% of the national average salary. There are differences in the maximum base of SSCs also. In case of self-employed persons, the maximum is 1200% of the average salary, while in case of employees it is 1600% of the average salary. SERBIA—Self-employed can choose one of three options. The first option—lump-sum taxation—implies a fixed monthly amount that is predetermined and unrelated to the actual income. It only depends on pre-­ assessed income, which is based on a variety of criteria like the sector of activity, location, etc. The threshold annual income for this option is some EUR 50,000. The tax rates are the same as for employees, except if a self-­ employed also holds a waged job, in which case he does not need to pay the health and unemployment insurance. The second option is self-­ taxation. In this case the self-employed pays the full amount of SSCs and personal income tax on actual income and thus needs to prepare balance sheets. The third option gives the self-employed the possibility of paying their personal earnings. Standard rates of SSCs and personal income tax are applied on those earnings, like for regular employees. However, self-­ employed that choose this option also need to pay 10% on income from self-employment (difference between actual income and actual costs). In the past decade, numerous reforms of elements of labour taxes can be observed in almost all tax jurisdictions in the region; but hardly any of them could be said to have brought about a profound change, even if they have formally involved a shift from flat to progressive taxation (or vice versa). The most important changes are presented below, country by country. A more detailed discussion of the motivation for and limitations of these reforms, as well as of the underlying policy strategies regarding the tax-benefit systems in the region, will be presented in Sect. 5.

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3.1  Albania In 2014, the taxation of employment income changed from a flat-rate tax regime of 10% to a progressive tax scale. Monthly employment income of up to 30,000 Albanian lek (ALL) is exempt from taxation; income of between ALL 30,000 and ALL 130,000 (approx. EUR 215 and EUR 930) is taxed at 13%; and any income above ALL 130,000 is taxed at 23%. The first ALL 30,000 of employment income is thus income tax exempt. It is interesting to note that under the previous tax regime, the tax-exempt amount was the same; however, employees earning more than ALL 30,000 per month were taxed at 10% on their entire wage, resulting in a marginal effective tax rate of well over 100% immediately above that threshold point. In 2019, the lower threshold for the highest tax rate was increased from ALL 130,000 to ALL 150,000. Finally, in January 2021, the minimum and maximum salary for social and health contributions purposes increased. The new minimum salary is ALL 30,000, whereas the new maximum salary is ALL 132,312. 3.2   Bosnia and Herzegovina In the past 10  years, there have been several labour taxation changes in Republika Srpska, while the labour taxation regime has remained practically unchanged in the Federation of Bosnia and Herzegovina. In 2011, Republika Srpska increased its headline personal income tax rate from 8% to 10% and its SSC rates from 30.6% to 33%. In 2012, a minor tax-wedge and revenue-neutral correction of SSC rates was introduced, with the pension contribution rate rising from 18% to 18.5%, and a corresponding decrease in the health insurance contribution from 12.5 to 12%. Between 2014 and 2016, there was a “solidarity contribution” of 0.4% on wages and pensions above 500 convertible marks (BAM), to help alleviate the consequences of the 2014 floods. In September 2018, the personal tax-­free allowance was increased by 150%, from BAM 200 to BAM 500, resulting in an increase in nominal wages. In 2021, the personal tax-free allowance was further increased to BAM 700. At the same time, the family allowance for every dependent family member was increased from BAM 75 to BAM 150. Unlike in the Republika Srpska, the personal tax-free allowance in the Federation of Bosnia and Herzegovina has not changed for years. Finally, the 0.2 p.p. of unemployment insurance in Republika Srpska were reallocated to contributions for child protection (increased from 1.5% to 1.7%). Unemployment insurance was further reduced to 0.6% in 2020.

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3.3  Kosovo In 2009, personal income tax rates within the then moderately progressive tax system were slashed: wage income of up to EUR 80 per month is not taxed; for income between EUR 80 and EUR 250 the tax rate was reduced from 5% to 4%; for income of between EUR 250 and EUR 450, it was reduced from 10% to 8%; and for income of above EUR 450, it was cut from 20% to 10%. As of July 2017, health contribution rates have been introduced, with a combined employer–employee rate of 7% of the gross wage (though this has not yet been implemented). Pension contribution rates have remained unchanged, with a mandatory contribution rate of 10% (5% each for employee and employer) and with the possibility of contributing up to 30% of the gross wage on a voluntary basis. 3.4  Montenegro Montenegro introduced a flat tax reform in 2007, with a headline rate of 15% and the aim of gradually reducing it to 9%. By 2010, that goal had been achieved. However, in early 2013 fiscal hurdles brought about the introduction of a so-called “crisis” tax, when a higher personal income tax rate of 15% was introduced on net monthly wages exceeding EUR 480 (about the average wage level). This “crisis” tax has been gradually reduced, but has not been revoked. In 2018, it stood at 11% of monthly gross wages above EUR 750 (roughly the average wage). In the middle of 2019, the Government announced a reduction of the health contribution paid by employers from 4.3% to 2.3%. A major reform package is planned for 2022. It will include the introduction of the personal allowance of EUR 700, progressive taxation of wages over EUR 1000 and the abolition of health insurance. Early estimations suggest that the tax burden will be hugely reduced, from 40% to 21%. In addition to tax changes, the minimum wage will be doubled from around EUR 220 EUR to EUR 450. 3.5   North Macedonia North Macedonia had a major labour tax overhaul in 2007–2008, introducing a flat tax with a low headline rate of 10% and reducing the tax wedge. The early effects of that reform on employment have been assessed favourably by Mojsoska-Blaževski (2012). In 2019, the Government introduced progressive taxation with the adoption of the new Law on

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Personal Income Tax. According to the original design, a higher tax rate of 1% was levelled on monthly incomes of over MKD 90,000 (about EUR 1460). However, the effects of this change were mild at best—the Ministry of Finance has stated that the threshold was selected because it only affects the highest-earning 1% of the total population. In mid-2019, the Government decided to roll back the progressive taxation mainly because of two factors. First, there was a minor improvement in inequality of income distribution, namely just under 1% reduction. Second, tax avoidance was high (Ministry of Finance, 2019). According to one assessment real tax revenue collected from progressive taxation in the first 6 months in 2019 was 51.2% lower than potential.9 The progressive tax rate on individual income will be postponed until at least 31 December 2022. In accordance with the newest reforms, mandatory contributions for pensions and health insurance were also increased—by 0.8 p.p and 0.2 p.p., respectively. 3.6  Serbia Serbia introduced a flat tax reform in 2001, with a headline personal income tax rate of 14% and no tax-free allowance. A tax-free allowance was introduced in 2007 to compensate for changes in the personal income tax and SSC rates. This allowance is adjusted annually—either to reflect real wage trends or to rebalance the tax wedge in a revenue-neutral and distribution-­neutral fashion. The personal income tax rate stood at 12% between 2007 and 2012; since 2013 it has been 10%. In 2013, to compensate for the reduction in the personal income tax rate, the employee pension contribution rate was raised by 2 percentage points, thus increasing the total SSC rate to 37.8% of the gross wage. The pension contribution rate was increased by an additional 2 percentage points in 2014, but at the same time the health contribution rate was reduced by the same rate, leaving the tax burden unchanged. In order to accept the increase in the minimum wage, the Government bribed employers by reducing the labour costs in 2019 and 2020. This was done by abolition of contributions for unemployment paid by the employers firstly and then by lowering the pension and disability contribution paid by the employers from 12% to 11.5%.

9

 https://finance.gov.mk/mk/node/8323.

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4  The Size and Structure of Labour Tax Burden in the Western Balkans The total labour costs to an employer of a waged employee can be expressed as the sum of what the worker gets in terms of take-home pay and all the labour taxes paid in relation to the worker’s net wage (most notably, personal tax on wage income and social security contributions). The ratio of labour taxes to total labour costs is known as the “tax wedge”. In other words, the tax wedge measures the proportional difference between the cost of a worker to his/her employer and the employee’s net take-home wage. It therefore measures both the incentive to work (labour supply side) and to hire employees (labour demand side). Put differently, the higher the tax wedge, the greater is both the disincentive for someone to work and the disincentive for an employer to hire a worker. However, in most modern jurisdictions, not all workers face the same (absolute or relative) tax burden. Typically, lower wages are taxed less than higher wages. Furthermore, having a spouse and dependent children often reduces the tax base, thanks to family allowances. In some countries, there are additional tax reliefs. Since workers at various wage levels and with various family statuses face different tax wedges—not to mention further potential variations in the tax treatment of an individual within a country—it becomes complicated to make an international comparison of the labour tax burden. To make such a comparison meaningful, one or more representative individuals or families may be used for each country. The OECD, the top authority in the field, uses eight such hypothetical family types in its flagship publication (OECD, 2018). The model family types vary by marital status, number of children and economic status: a single taxpayer, without children, earning 67%, 100%, and 167% of the average wage (AW); a single parent, with two children, earning 67% of the AW; a single-earner couple at the AW level, with two children; a two-earner couple at 133% and 167% of the AW, with two children; and a two-earner couple, without children, at 133% of the AW. The main advantage of the OECD approach is its simplicity. Instead of calculating the actual average (or median) tax burden on labour in the economy—most likely, a complicated and imprecise endeavour—the statutory tax burden on a hypothetical (“representative”) worker earning the exact average wage is calculated, and the exact tax wedge for such a worker is easily obtained. In fact, the tax wedge for a representative single worker

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without children at 100% of the average wage is often used as a sufficient proxy for international comparisons of the tax burden on labour. However, in case of the Western Balkan countries, characterised by very low progressivity in the taxation of labour, such a practice could be seriously misleading. 4.1   Tax Wedges for a Single Worker Without Dependents Figure 2.5 shows that there is quite a diversity of tax burdens within the region. High tax wedges at the average wage level are found in Montenegro (40.3%), Serbia (38.2%), and Bosnia and Herzegovina (Federation of Bosnia and Herzegovina—41.7%; Republika Srpska—38.5%). These figures are close to the average of EU22 that are members of OECD (41.3%) and are above the OECD average of 34.6%, taking into account that the highest labour tax wedges worldwide are to be found in the European Union. Furthermore, whereas labour taxes in these three countries are on average at higher wage levels, they are high at lower wage levels, due to 60

18

55

16 14

50

12

45

10

40

8

35

6

30

4

25

2

20

0

67%

100%

167%

Progression

Fig. 2.5  Labour tax wedges in Western Balkans for a single worker at 67%, 100%, and 167% of average wage, in a comparative perspective. (Source: Authors’ calculations for Western Balkan countries; OECD for others)

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TAX WEDGE

the low progressivity of the income tax regimes. North Macedonia has a moderate tax wedge (32%), while Albania and Kosovo have low to moderate tax wedges (27.8% and 20.9%, respectively). These regional differences between high and low tax-wedge countries are driven not by the level of personal income tax rates or by the divide between the flat and progressive personal income tax systems, but by the difference in SSC rates. Another key finding, largely stemming from the low personal income tax rates, is that in five of the six Western Balkan countries (except Albania), workers face small increases in their average tax burden as they progress to higher wage levels. While the average increase in the tax wedge between 67% and 167% of the average wage is 8.9 percentage points in the EU22 and 8.4 percentage points in the OECD, in those five Western Balkan countries the increase is between 0.8 and 3 percentage points. Only in Albania does it come close to the international averages, with 6.5 percentage points. Not only do the Western Balkan countries have less than average tax progressivity between the 67% and 167% of the average wage, but areas of regressivity can also be found if the whole distribution is observed. Take Serbia as an example. As can be seen in Fig. 2.6, the tax wedge decreases two times across the wage distribution, both times because of the tax schedule of SSCs. The minimum SSCs base results in a higher tax burden for workers earning 30% of the average wage compared with workers who earn up to 90% of the average wage. However, since the national minimum wage is set at about 50% of the average wage, this applies only to low wage workers who work on part-time jobs. Some researchers pointed out that the minimum base is one of the biggest obstacles to the expansion of part-time jobs (Kovačević et al., 2017).

50% 48% 46% 44% 42% 40% 38% 36% 34% 32% 30% AVERAGE WAGE

Fig. 2.6  Tax wedge across the wage distribution in Serbia, 2020. (Source: Authors’ calculations)

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On the other hand, the maximum base set at 500% of the average wage continuously reduces the tax burden as the wage increases. The inclusion of annual income tax paid by not more than 1% of taxpayers will moderately slow the drop in the tax wedge for higher wages, but the regressive character of labour taxation will not disappear. Even after accounting for annual income tax, instead of 23%, the tax wedge is 29% for the salary equal to twelve times the average salary in Serbia. In other words, the annual income tax does not have the potential to overcome the existence of a ceiling for the SSCs. In most countries, SSCs represent a larger portion of the non-wage labour costs than does personal income tax. In Fig. 2.7, the only exceptions are Denmark and Ireland. However, nowhere is this feature more pronounced than in the Western Balkans. 4.2   Tax Wedges for a One-Earner Couple with Two Children The lack of tax-free family allowances (except for comparatively small amounts in Bosnia and Herzegovina) suggests that the effective tax 60 50 40 30 20

PIT

Employee SSCs

EU 22 average in OECD OECD average Montenegro Serbia Kosovo Republika Srpska North Macedonia Federation of BIH Albania

0

Denmark Belgium Ireland Finland Lithuania Germany Italy Luxembourg Netherlands Latvia Sweden Portugal Hungary France Austria Spain Estonia Czech Republic Slovenia Greece Slovak Republic Poland

10

Employer SSCs

Fig. 2.7  Tax wedge components as a percentage of labour costs, single workers without dependents, on the average wage. (Source: Authors’ calculations for Western Balkan countries; OECD for others)

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60 50 40 30 20

Single at 100%

EU 22 average in OECD Average OECD FBiH RS Montenegro Serbia North Macedonia Albania Kosovo

0

Poland Luxembourg Czech Republic Slovenia Lithuania Belgium Ireland Germany Austria Hungary Portugal Slovak Republic Latvia Denmark Estonia Italy France Netherlands Spain Sweden Finland Greece

10

One-earner married couple at 100% of average earnings, 2 children

Fig. 2.8  Comparison of tax wedge for a single worker (100%) and one-earner couple with two children (100+0%). (Source: Authors’ calculations for Western Balkan countries; OECD for others)

burden per employee should be even higher from a comparative perspective than if only single workers without dependents are taken into account. Figure 2.8 supports this assumption by showing the difference between the tax wedge for a single worker earning 100% of the average wage and the tax wedge for the same worker with a non-employed spouse and two children. For the latter family, in terms of the tax wedge, Montenegro shifts its ranking from 13th place to the top of all countries in the graph; Serbia moves from 14th place to 2nd; and so on. The absence of family allowances and many deductions partly explains why the Western Balkan countries are able to collect a similar share of GDP in revenue from labour taxes as more developed European countries that have much higher employment rates. In the Western Balkans, the high tax wedge observed in Montenegro, Serbia, and Bosnia and Herzegovina applies to all workers in almost the same percentage, regardless of their income or family situation. In most other countries, tax wedges are in practice lower for lower-income workers or those with dependents. A similar conclusion can be drawn from the other indicator of the tax burden on labour income—the implicit tax rate on labour. It is operationally defined as the ratio of the sum of total labour-related taxes and

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contributions and total labour costs for all employees in the economy. The implicit tax rate is actually a summary macroeconomic indicator collected from the balance sheet items of national accounts. In this regard, while the tax wedge is a measure of the tax burden at different points in the wage distribution for a hypothetical worker, the implicit tax rate on labour is an aggregate measure of the actual average tax burden for all declared work in the economy. Data on the implicit tax rate on labour are available from Eurostat, but only for the EU Member States. As detailed macroeconomic data that would allow the calculation of a precise implicit tax rate on labour for the Western Balkan countries are not available, it is possible to make an approximation based on the Labour Cost Survey. The Labour Cost Survey contains, among other things, the sum of net salaries, gross salaries and labour costs of employers. Using the Labour Cost Survey data, we calculated the implicit tax rate on labour for Serbia and decomposed it into taxes and contributions. Decomposition of the implicit tax rate on labour for Serbia and EU countries is presented in Fig. 2.9. The decomposition of the implicit tax rate on labour provides a similar picture as the decomposition of the tax wedge. While personal income tax makes up about a third of the collected income from labour taxation in the EU countries, the corresponding share in Serbia is only 18%. In addition to the disproportion between the tax revenues and revenues from contributions, the implicit tax rate points to another important feature of labour taxation in Serbia. An almost uniform rule is that the average tax burden for a representative worker (tax wedge for a single worker earning exactly 50 45 40 35 30 25 20 15 10 5 0 PIT

SSCs

Fig. 2.9  Decomposition of the implicit tax rate on labour. (Source: Labour Cost Survey for Serbia, Eurostat for others)

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the average wage) is greater than the effective average tax burden (that is, the implicit tax rate on labour per worker). This relationship between the two indicators is conditioned by the existence of various personal and family allowances and tax deductions that reduce the actual tax burden. However, unlike in any EU country, in Serbia the implicit tax rate on labour is higher than the tax wedge for the average wage. Not only, but based on the tax wedge for the average wage, the tax burden in Serbia is somewhat lower than in the EU, while the implicit tax rate on labour is significantly higher than the EU average. Although we use Serbia as an example, this pattern is characteristic for most of the Western Balkan countries (Arandarenko & Aleksić, 2019). The question that arises is how is it possible that significantly lower employment rates in the Western Balkan countries generate similar revenues (in relative terms) from taxes and contributions as the EU countries that record significantly higher employment rates? The answer lies in the labour taxation system that is designed to maximise revenues by burdening the densest part of the wage distribution with above-average tax rates. The lack of personal and family allowances contributes to the fact that the largest number of workers, those with below-average wages, pays taxes and contributions that are much higher than those paid by their counterparts in EU countries. In this way, the high effective tax burden in the Western Balkans applied to a narrow base (due to a relatively low employment rate) generates a similar relative level of revenues as the on average lower effective tax burden in the EU applied to a much broader base (due to a relatively high employment rate). In other words, despite the relatively low employment rates, relatively high informal employment and the prevalence of envelope wages, the Western Balkan countries collect similar revenues (in relative terms) from taxes and contributions as the EU countries.

5  Conclusions Our analysis in the preceding sections leads to the following conclusions. First, the overall level of labour taxes is too high in three out of six Western Balkan economies—Serbia, Montenegro, and Bosnia and Herzegovina— and also to some degree in a fourth economy—North Macedonia. Second, the structure of labour taxes, namely the relative shares of personal income tax and social security contributions in total labour taxes, is tilted heavily toward contributions in almost all countries. Third, the progressivity of

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personal income tax, already limited by the small weight of personal income tax in total non-wage labour costs, is non-existent or very modest in all countries except Albania. All these features taken together have a negative effect on the relative position of low-wage workers and low-wage industries, especially in high-wedge countries. In the high tax-wedge countries of the Western Balkans, the low-wage, high-tax trap translates into less incentives to work for low-skill workers (at least in the formal sector), and, on the side of employers, into less incentives to hire low-wage workers and to invest in labour-intensive low-­ wage sectors. And this, in turn, leads to lower employment and activity rates, higher informality and higher income inequality. The current structure of labour taxes has its roots both in the socialist past of the region’s countries and in the historical context in which post-­ socialist reforms took place. In former socialist Yugoslavia, pre-tax income inequality was relatively low, and progressive taxes were not perceived to be required to redistribute income (as in market economies). Social contributions were relied upon to finance a series of social benefits, such as pensions, health, unemployment, and housing. In Albania, wage control was more direct, and again there was little ideological justification for progressive taxation. In addition, the post-socialist reforms of labour taxation in the Western Balkans coincided with, and represented an integral part of, the “flat tax revolution” that swept Central and Eastern Europe in the 1990s and 2000s, and that has slowly started to retreat only in the course of this decade. On a less ideological note, as less-appealing latecomers to transition and as riskier investment destinations, countries of the Western Balkans attempted to attract foreign capital by offering very low (at times single-digit) headline profit and personal income tax rates. On the other hand, fiscal concerns and the need to finance pensions amid shrinking retiree–employee ratios have required high social security contribution rates. In effect, as has been shown, low personal income tax rates, coupled with high SSC rates and other specific rules (such as minimum mandatory social security contributions), have created high tax wedges that (a) are incapable of incentivising investment, especially in low-wage sectors and firms, and (b) do not encourage formalisation of informal employees and businesses. The interplay between the rising number of pensioners and the mostly stagnant employment has led to further pressure to increase pension contribution rates and/or to reform pension systems in order to enhance sustainability.

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In effect, the Western Balkan countries have in recent years (and with the partial exception of Albania and North Macedonia) largely ignored the high level and unbalanced structure of non-wage labour costs, or have opted for fine-tuning measures that have only scratched the surface of the problem. Serbia, for example, has further painted itself into a corner by increasing the combined pension contribution rate from 22% to 24% and then to 26% in two revenue-neutral moves, first by reducing the personal income tax rate by 2 percentage points, and then by reducing the health insurance rate by 2 percentage points. In the past two years it has started the reverse process, by cutting the rate back by 0.5 points. In order to improve their—at best—sluggish labour markets, the countries have instead opted for various other policy interventions. In an effort to improve the demand side of the labour market, Serbia (in 2014) and Bosnia and Herzegovina (in 2015) reformed their labour legislation to enhance flexibility. Montenegro is preparing a similar reform. On the other hand, Albania has chosen a different direction, amending the Labour Law in 2017 to widen workers’ rights and to accommodate the requirements of European integration in the area of social policy and employment. More recently, with certain improvements in quantitative labour market indicators, and with a generally more favourable macroeconomic situation, regional policymakers have started to pay attention to supply-side problems of stagnant wages, a shrinking working-age population (except in Kosovo and Albania), and increased emigration rates. A common impulse has been to increase the minimum wage, sometimes after several years of nominal stagnation and real decline. Trade unions favour a policy of increasing the minimum wage, but this cannot occur unless approved by the government. Unsurprisingly, finance ministries often look favourably on trade union initiatives because they see an increase in the minimum wage as a way of boosting labour tax revenues and reducing envelope wages. Still, the strategy of minimum-wage increases has its natural limits. After a certain threshold (all other things being equal), any further increase in the minimum wage inevitably crowds out low-wage employment and low-wage industries. A recent empirical study (Petreski et al., 2019) found that the 2017 minimum-wage increase had positive, significant effects on wages in North Macedonia without negatively affecting employment (partly thanks to temporary government subsidies to low-wage industries that were to facilitate the transition to uniform national minimum wage

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that replaced sectorally differentiated minimum wages in 2017) and that its main beneficiaries were low-wage workers. However, based on scenario analysis, the authors warn that any further arbitrary increase in the minimum wage level above productivity growth (or GDP growth) may have a harmful effect on employment. A comparison of the two main reform directions applied in recent years in the Western Balkans (and intended to improve the labour market situation) along with the hypothetical reform of labour taxation systems shows that the latter has some clear advantages. Both the “flexibility-enhancing” and the “minimum wage-increasing” reforms are, in principle, one-sided, zero-sum game reforms, and can bring benefits only if they help to restore a healthy balance in the labour market. However, for some time both the employment legislation index and the Kaitz index10 throughout the region have been well within standard international values, indicating no major institutional disruption. Especially in labour legislation reforms, monetary gains for employers almost always imply monetary (and non-monetary) losses for employees. In the long run, such a reform may turn into a negative-­sum game if it results in fewer employer–employee matches due to the withdrawal of members of the labour force from the formal labour market or to their emigration. On the other hand, this analysis confirms long-standing findings that the labour taxation system in the region—and especially among the high-­ wedge countries—is far from optimal. Nevertheless, the reform of labour taxation has intrinsic win-win (positive-sum game) properties for both employers and employees. This is not just the case with revenue-negative reforms. It is well established that, under not so restrictive conditions, this should also be true for revenue-neutral tax reforms. In Pissarides’ (1998) theoretical elaboration, changes in the structure of taxation that are revenue-­neutral can often have a larger impact on employment than a general tax cut that substantially reduces overall tax revenues. In bargaining and search models—which appear to be a good proxy for the regional labour markets—a more progressive labour tax shifts the wage-setting (labour supply) function to the right, with a large and positive impact on employment. However, given the dominance of intrinsically proportional SSCs in the current structure of labour tax revenues in the Western Balkans, to sufficiently increase progressivity to produce the desired effect on the  Kaitz index is defined as the ratio of the minimum wage to the mean or median wage.

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employment and/or wages of low-wage workers would require readjusting the shares of personal income tax and SSC in total labour tax revenues—by increasing headline personal income tax rates and reducing SSC rates—and at the same time introducing explicit progressivity of personal income tax. Naturally, this may generate widespread concern, in the first place among current and future pensioners, and may hamper the political viability of labour taxation reform. Undertaking simultaneously a major reform of the entire system of labour taxation and social insurance is clearly a difficult and risky endeavour. Still, it is the most promising avenue for the revitalisation of regional labour markets. The most important next step for policymakers and stakeholders is an informed and honest debate about the key features of social protection and, more specifically, pension systems. Paradoxically governments, now faced with demographic decline, emigration and increasing labour shortages, are gradually changing their attitude and are becoming more labour-friendly. Still, in most Western Balkan economies it is the Covid-19 crisis upheaval rather than labour market institutions and policies that have created a breathing space for the governments to prepare a more thorough reform to make work pay, increase the labour share, and encourage the labour force to stay in the region instead of moving abroad. Among these pro-labour reforms, the most radical is certainly the one in Montenegro, which should include, if it becomes effective in 2022, a near-doubling of the minimum wage and a radical reduction in labour taxes, especially for the low-wage workers. Only time will tell whether such a huge leap was the right reform strategy.

References Aleksić, D. (2020). Tržište rada niskih zarada – Efekti promene minimalne zarade i nejednakost zarada u Srbiji. PhD thesis, Faculty of Economics, University of Belgrade. Arandarenko, M., & Aleksić, D. (2018). Wage data and wage statistics in the Western Balkans. In Western Balkans Labour market trends 2018 (pp. 41–72). World Bank. Arandarenko, M., & Aleksić, D. (2019). Labour costs, labour taxes and low-wage earners in the Western Balkans. In Western Balkans labour market trends 2019 (pp. 41–72). World Bank. Arandarenko, M., & Aleksić, D. (2020). There and back again: Employment statistics of the citizens of the Western Balkans. In W. Bartlett, V. Monastiriotis, &

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P.  Koutroumpis (Eds.), Social exclusion and labour market challenges in the Western Balkans (pp. 15–40). Cambridge Scholars Publishing. Arandarenko, M., Krstić, G., & Žarković-Rakić, J. (2017). Analysing income inequality in Serbia: From data to policy. Friedrich Ebert Stiftung. Arandarenko, M., & Vukojević, V. (2008). Labor costs and labor taxes in the Western Balkans. In C.  Bredenkamp, M.  Gragnolati, & V.  Ramljak (Eds.), Enhancing efficiency and equity: Challenges and reform opportunities facing health and pension systems in the Western Balkans. World Bank. Avlijaš, S., Ivanović, N., Vladisavljević, M., & Vujić, S. (2012). Gender pay gap in the Western Balkan countries: Evidence from Serbia, Montenegro and Macedonia. Foundation for the Advancement of Economics. Jusić, M. (2018). Unequal chances and unjust outcomes: Confronting inequality in Southeast Europe. Friedrich Ebert Stiftung. Koettl, J. (2012). Does formal work pay in Serbia? The role of labor taxes and social benefit design in providing disincentives for formal work. In C. Ruggeri Laderchi & S. Savastano (Eds.), Poverty and exclusion in the Western Balkans: New directions in measurement and policy (pp. 133–154). Springer. Koettl, J., & Weber, M. (2012). Does formal work pay? The role of labor taxation and social benefit design in the New EU Member States. In H. Lehmann & K. Tatsiramos (Eds.), Informal employment in emerging and transition economies. Emerald Group Publishing Limited. Kovačević, M., Pantelić, V., & Aleksić, D. (2017). Trends and challenges in Serbian labour market: Change in the nature of jobs and labour underutilisation. Ekonomika preduzeća, 65(5-6), 341–355. Kovtun, D., Cirkel, A. M., Murgasova, M. Z., Smith, D., & Tambunlertchai, S. (2014). Boosting job growth in the Western Balkans. In Working Paper 14/16. International Monetary Fund. Ministry of Finance. (2019). How to achieve comprehensive, fair and efficient tax in the Republic of North Macedonia. Ministry of Finance. Mojsoska-Blaževski, N. (2012). Taxation of labour: The effect of labour taxes and costs on employment in Macedonia. Post-Communist Economies, 24(2), 241–256. Petreski, M., Mojsoska-Blazevski, N., & Ouchi, M. (2019). Assessment of the economic impacts of the 2017 increase in the minimum wage in North Macedonia. International Labor Office. Pissarides, C. A. (1998). The impact of employment tax cuts on unemployment and wages: The role of unemployment benefits and tax structure. European Economic Review, 42(1), 155–183. World Bank. (2021). Western Balkans Regular economic report, No. 19, Spring 2021: Subdued recovery. World Bank.

CHAPTER 3

Envelope Wages in Bosnia and Herzegovina: Incidence and Distributional Implications Amela Kurta, Nermin Oruč, and Dželila Kramer

1   Introduction Informal employment can take various forms but always involves tax evasion by hiding the actual amounts of wages from the tax authorities. The literature usually distinguishes between formal and informal employment by whether an employment contract exists or not. However, there are also “grey” areas between these two types of employment relationships. One example of such a grey area is the practice of income underreporting which occurs when formal employees hide part of their wages from the tax authorities. This underreporting can take various forms, including “envelope wages”.1 Envelope wages are paid when employees have a formal 1  Envelope payments work in a way that employers pay the employee officially a lower salary than the average for a similar job, while the rest pay in cash. Only the part of the salary which is officially declared serves as a basis for paying social security contributions.

A. Kurta (*) • N. Oruč • D. Kramer Centre for Development Evaluation and Social Science Research, Sarajevo, Bosnia and Herzegovina e-mail: [email protected]; [email protected] © The Author(s), under exclusive license to Springer Nature Switzerland AG 2022 W. Bartlett, M. Uvalic (eds.), Towards Economic Inclusion in the Western Balkans, New Perspectives on South-East Europe, https://doi.org/10.1007/978-3-031-06112-7_3

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contract, but part of their wage is paid in cash and is not subject to taxation. The part of the wage which is subject to taxation is usually the minimum wage. Since such tax avoidance reduces government revenues and has distributional implications it is important, from a policy perspective, to understand its magnitude, causes and consequences. This chapter provides the first ever evidence of the magnitude and distributional impact of envelope wages in Bosnia and Herzegovina (BiH). The incidence of informal employment in BiH is high, and is predominantly concentrated in the agriculture, construction and hospitality sector. Available evidence (e.g. Oruč & Bartlett, 2018) reports that in the period 2006–2013,2 the share of informal employment was in the range of 25%—30% of total employment. Due to the high unemployment rate, especially among youth,3 employees are generally in a weak negotiation position on the labour market, and many employees are forced to accept unfavourable informal or semi-informal work arrangements. Also, even in sectors where employees have a better negotiation position, the semi-­ informal arrangement with an employer (i.e. envelope wages) is often a voluntary choice to increase disposable income. However, as social security contributions and personal income tax are paid only for the reported wages, the level of contributory social benefits (from health, unemployment, pension and childcare insurance) for the workers receiving envelope wages are reduced. The tax wedge in BiH is about 50–70% of the net wage.4 The personal income tax and social security contributions are paid by employers mostly on behalf of employees, and any increase in the tax burden is usually transferred to employees through a reduction of their disposable income. Such behaviour by employers mainly affects the employees paid through envelope wages. Consequently, the distributional effects of the envelope wages in these circumstances are an empirical issue. The chapter is structured as follows. The following section provides an overview of the literature analysing the effects of envelope wages on the overall economy and discusses possible motives and consequences of income underreporting. Section 3 describes the informal employment  Full period available. Labour Force Survey in BiH started in 2006.  The youth unemployment rate (15–24 age group) was 36.6% in 2020 according to the Labour Force Survey data https://bhas.gov.ba/data/Publikacije/VremenskeSerije/ LAB_08_2020.xls 4  There are three different tax schemes, but harmonised, in three different federal administrative units of the country (Federation of Bosnia and Herzegovina, Republic of Srpska and Brčko District), which allows for a comparison between them. 2 3

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context in BiH in order to provide a better understanding of the empirical findings on envelope wages. Section 4 presents the model, data, and empirical strategy, and Sect. 5 discusses the empirical results of the model estimation. Finally, Section 6 concludes and provides policy recommendations.

2   Implications of Income Underreporting A vast body of literature has explored different forms, motives and consequences of informal employment, including underreporting of income, both for employees and employers, as well as for the entire economy. Williams (2009) notes that undeclared wages paid by employers to their workers through envelope wages in addition to the officially declared wage has received little attention in the literature. These undeclared “envelope wages” within formal employment have been largely ignored, overlooked or simply forgotten because a belief has persisted that formal and informal jobs are separate and discrete. The underreporting of income is important because it biases statistics on income and the distribution of income (Gollin, 2002; Kukk & Staehr, 2014). Underreporting associated with tax evasion leads to an erosion of tax revenue and affects the excess burden and the distributional impact of taxation (Alm et al., 1991). As such, the underreporting of income has important governance implications related to the collection of income statistics, reporting requirements and tax audits. Envelope wage agreements between an employee and an employer can take various forms. Some envelope wages may simply deviate from the formal contract by stipulating that the employee will be paid more for their regular employment than is listed in the formally written contract (Horodnic, 2016). Moreover, such a verbal agreement typically attaches additional conditions to the employee. These may include a requirement that employees do not take their full entitlement to annual leave, that they work more hours per week than is stipulated in the formally written contract, or that different job responsibilities are specified than those stated in the formal contract. In general, if employees do not agree to these additional conditions, they will not be offered the job. This verbal agreement replaces the formal agreement and represents a verbal “psychological contract” between the two parties. At first glance, one might assume that employees might prefer to underreport their wages, considering that they could receive a higher income if their employer did not have to pay the full amount of personal income tax

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and social security contributions. However, according to Horodnic (2016), evidence at the EU level shows that only one third of employees who receive envelope wages are happy with this type of arrangement. The rest would rather declare their complete wages, are undecided, or refused to provide an answer. Importantly, their preferences differ according to the type of activity for which they receive the under-reported wage, i.e. for regular work, for overtime/extra work, or for both. The practice is more widely accepted by employees who only underreport payments for overtime or extra work. The workers being paid envelope wages for their regular work, or for regular and overtime work, would rather have a full statement of their actual income. The reason for this is that underreporting wages for regular work might reduce employees’ access to social protection (e.g. social security or pension funds) and may restrict their ability to secure bank loans or mortgages. Similar insights were revealed by previous qualitative studies conducted in Ukraine (Williams, 2007) and in Russia (Williams & Round, 2007). In addition to exploring the consequences of envelope wages, previous studies also investigated the motives for underreporting income (Cowell, 1990; Schneider & Enste, 2000). Merikull and Staehr (2010) found that the main motive is to avoid paying social security contributions and personal income tax. Unreported employment and wage income may also allow firms to evade other taxes such as value-added taxes, excise duties and environmental taxes. Second, unreported employment may allow firms to neglect regulations and standards regarding employment protection, occupational health and the environment. Third, in countries where corruption and rent extraction by government employees are widespread, the firms may choose not to report employment in order to avoid the attention and possible harassment by authorities. Fourth, employment in the informal economy may constitute a fall-back option for marginalised groups in society, which have difficulties obtaining employment or an appropriate after-tax income in the formal economy (Danopoulos & Znidaric, 2007; Kim, 2005; Kriz et al., 2008).

3  Labour Market and Envelope Wages in Bosnia and Herzegovina The labour market conditions in BiH are rather unfavourable, particularly for young people. Throughout the transition period, the country has experienced low activity and employment rates, and high unemployment rates, particularly among vulnerable population groups such as women

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and youth. Moreover, informal employment is rather high, estimated at around 30% (Bartlett & Oruč, 2021). In recent years, some of the labour market indicators have improved. However, this has to a large extent been driven by a decrease in the active labour force due to negative demographic trends5 and emigration. In 2020, the labour market in BiH was affected by the COVID-19 pandemic, although the impact on the labour market was relatively mild. The activity rate increased by 1.4 percentage points (p.p.) and the employment rate increased by 1.2 p.p. by the end of 2020, while the unemployment rate decreased by 0.1 p.p. (Bartlett & Oruč, 2021). Both minimum and average wages have increased. Despite these positive trends, labour market figures in BiH are still well below the EU average. In such settings, BiH is an interesting case for an empirical investigation of the income underreporting. Informal employment in BiH has been estimated at about 30% of total employment (UN, 2020), with the highest peaks recorded in agriculture and among young and low-skilled workers. Informal employment among young workers is on average 30% higher than informality among prime-­ age workers. For the younger cohort, informal employment represents a survival strategy to escape from unemployment, but it offers little hope of progressing to formal employment. A large proportion of informal employment in a country’s labour market may have serious implications for human capital accumulation, productivity, in-work poverty, and the country’s overall fiscal position. Bartlett and Oruč (2021), referring to findings from Krstić and Gashi (2016), reported that workers with primary or lower education and those employed in agriculture are more exposed to informal employment in Bosnia and Herzegovina. The highest rate of informality is found among workers with no education (86%) and workers with primary education (62%). Numanović (2021) revealed that at least 18% of citizens in BiH know someone who works on an undeclared or underdeclared basis, while other recent studies estimate this at around 30% of total employment. Low-skilled people, young people and older workers are more likely to be informally employed. Youth are the overrepresented in the precarious work. As reported in Bartlett et al. (2021), young people in BiH are in a much worse position 5  With the fertility rate of 1.2, BiH is among the countries with the lowest fertility rate in the World, according to UNFPA.  See: https://www.unfpa.org/data/ world-population-dashboard

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on the labor market compared to their peers from EU-27 countries. Although there was an increase in the employment rate from 2011 to 2019 among youth in the 15 to 24 age group, and an increasing trend among 25–29 year-olds, employment rates are still rather low compared to the EU-27 average.6 These data indicate a weak development of the labour market in BiH, with an inability of the market to absorb labour inflows from the education system to the labour market. Another challenge is the lack of flexible arrangements such as working less than full time, which is not an occasional or temporary form of work. The lack of such opportunities has reduced options for combining education and work. Informality and other precarious practices on the labour market contribute to in-work poverty. Several factors contribute to this outcome (Obradović et  al., 2019). One is labour market segmentation, not only between secure public employment and more insecure private employment, but also between permanent and temporary work and between formal and informal work, in addition to expected differences by industries. The privilege of access to public sector employment is controlled and guarded by political networks (Blagovčanin & Divjak, 2015; Weber, 2017). In the private sector employment is often precarious and legal protection is often poorly enforced, blurring the line between formal and informal employment. Due to extensive labour market informalities, minimum wages generally serve as the base for calculating personal income tax and social security contributions. In addition, the tax burden on labour in BiH and especially in the Federation of BiH (FBiH) is rather high. Apart from these difficulties, the most prominent structural segmentation is between the public and private sectors. Obradović et  al. (2019) reported that the size of the public sector in BiH was one of the largest in the region, mostly owing to a complex and decentralised governance structure. In addition to employment in government administration, the situation is further aggravated by the existence of a large share of business enterprises that are fully or majority government-owned (such as utility companies, post offices, and mines), where similar employment rules apply. Although there is no publicly available information about the number of people on the government payroll, or those who work for government-owned companies, it is known that in 2013 the government spent over 12% of GDP on public sector wages (International Monetary Fund, 6  Elaboration made based on authors’ own calculation of employment rates from Labour Force Survey dataset for the period 2011–2019 and Eurostat data for EU-27 countries.

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2015). This relates only to wages paid directly by government, such as wages for public administration and elected officials, public education, police and army. It does not include employees of state-owned enterprises. These jobs, both in the public sector and in state-owned enterprises, are on average higher than those in the private sector. Moreover, these jobs are better protected through compliance of employers with labour legislation, as well as through more effective unionisation of workers in the public sector compared to the private sector (Oruč & Bartlett, 2018). In addition to wages, public sector employees and those employed by state-­ owned companies enjoy many benefits usually granted under collective agreements, such as holiday allowances, meal allowances, compensation for transport costs, longer paid holidays, less overtime work, and (in FBiH) salary compensation during maternity leave. These additional benefits are not usually available in the private sector where employment rights are poorly enforced, blurring the line between the private sector and the unregistered economy. Many employees in the private sector work in precarious conditions with long working hours, small and often delayed salaries, and in fear of job loss. An undesirable outcome of the discrepancies in wages and working conditions between the public and private sectors in BiH is that public sector employment has become more attractive than employment in the private sector, creating economic distortions and stifling private sector development (International Monetary Fund, 2015). According to a recent survey (Regional Cooperation Council, 2018), 40% of respondents would prefer to work for the public sector, and 41% would prefer to work for public companies, while only 14% would prefer to work for the private sector. Data show that employers fail to pay social contributions for about 100,000 formally employed workers (Obradović et al., 2019). The biggest debtors to the tax authorities are state-owned companies and some health institutions. This problem is also present in the private sector, but to a lesser extent, as private employers are more inclined to avoid tax and social security contributions by not registering their workers. In addition, as many employees are registered on minimum wages in order to pay minimum taxes and contributions, this suggest that some employees receive ‘envelope wages’. Since according to BiH legislation minimum wages are linked to the average wages, the share of the minimum wage in the average wage has been fairly stable over time, around 50% (Kurta & Oruč, 2020). In such a setting, envelope wages represent a straightforward method to increase disposable income.

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Different forms of informal economy are present in BiH, due to the huge tax complexity in the fractured country, and to conflicting institutions and political instability. The “Hidden Economy Survey” (Yalamov, 2016) reveals that around 16% employees reported that they receive higher pay than stated in their contract, whereas 38% of respondents declared that social security contributions are paid at the level of the minimum wage. This suggests that the practice of paying envelope wages is rather common, making it an interesting area for empirical research on envelope wages. However, despite being a common practice, to our knowledge no research has yet explored the extent and implications of envelope wages in BiH.

4  Empirical Strategy The main empirical challenge in the analysis of envelope wages is that they are difficult to measure, since there are neither official statistics about them nor is there a reliable survey that can capture them. As noted by Pelek and Uysal (2016), just as in other forms of informal employment, data on envelope wages are difficult to collect and even when they exist they are usually limited in scope, either regarding the number of observations or in terms of coverage. With regards to survey or interview data, underreporting is widespread as employers do not have an incentive to declare such practices, labour inspectors do not investigate potential envelope wages as long as an employer complies with the regulations on the legal minimum wage, and employees may not necessarily be aware of which part of their compensation is paid through envelope wages. In addition to these challenges, we should note here that the tax-­benefit system in Bosnia and Herzegovina is quite complex. According to the BiH constitution (established in the Dayton Peace Accord), tax and social policies are under the exclusive jurisdiction of the lower levels of government—the two entities and the cantons. Institutions at the state level have only a limited coordinating role. The entities of FBiH and RS have different income taxation and social security contribution systems, while citizens in Brčko District can decide which system their income is taxed under. The governments of each entity define the main benefit policies, while others are defined by the lower administrative units (cantons, cities, municipalities). Personal income tax in both entities is flat at 10%. In FBiH both employers and employees pay social security contributions, while in RS they are only paid by employees.

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Despite all these challenges, in this chapter we will try to measure the magnitude of envelope wages in BiH and to estimate their distributional implications using the approach applied by Benedek and Lelkes (2009). We use a combination of administrative and survey data that allows us to produce estimates of the magnitude and impact of envelope wages on the government budget, poverty and inequality. The study aims to answer the following research questions: 1. What is the magnitude of envelope wages in BiH, overall and per entity? 2. What are the demographic characteristics of the recipients of envelope wages? 3. What is the size of fiscal, distributive and budgetary effects of envelope wages in the country? The approach we used to answer the first question was to apply an estimation based on two micro-level datasets: administrative data from individual tax records7 (from 2014 for Republic of Srpska, and from 2015 for FBiH) and the dataset from the BiH Household Budget Survey (HBS) from 2015.8 Our answer to the second question is obtained through an estimation of the difference between “true income” from survey data and “reported income” from administrative data. To answer the third question, we use the adjustment factors from the above estimations in the microsimulation model BiHMOD9 to assess the budgetary and distributional effects. The demographic characteristics of the two datasets used for the analysis of the extent of envelope wages in BiH are provided in Table 3.1 by region, in Table 3.2 by gender and by age group. For both HBS and tax records only wage earners are reported, while the structure of the dataset from tax records is presented separately for the two entities.10 The total number of individuals analysed in the tax records dataset is equal to 451,807 from FBiH and 161,100, while in the HBS we analysed 3574 individuals. The data presented in Table 3.1 shows that the structure of the two datasets is comparable since a similar percentage of wage earners are 7  The administrative data contain tax records of around 160,000 tax payers from 2014 in Republika Srpska and around 450,000 taxpayers from 2015 in Federation of BiH. 8  The HBS survey sample is composed of 7400 households. The income variables partially cover data from 2014 for those that are surveyed at the beginning of 2015. 9  BiHMOD is a microsimulation tax-benefit model for Bosnia and Herzegovina based on EUROMOD developed by researchers in CREDI; see https://credi.ba/en/bihmod/. More information about model macro-validation results can be found in Kurta and Oruč (2020). 10  According to BiH administrative division and applicable legislation, different tax systems are present in these two administrative units.

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Table 3.1  Comparison of datasets structure used in the estimation of underreporting by region (% of wage earners) Characteristics Region Cantons of Federation of Una-Sana canton Bosnia and Herzegovina Posavina Canton Tuzla canton Zenica-Doboj canton Bosnian-Podrinje Canton Goražde Central Bosnia Canton Herzegovina-Neretva canton West Herzegovina Canton Sarajevo canton Canton 10 Federation of Bosnia and Herzegovina (total per dataset) Republic Srpska (total per dataset)

Tax records

Household Budget Survey

8.00% 1.34% 19.24% 16.20% 1.55%

9.67% 1.79% 11.90% 16.54% 1.36%

10.29% 9.99%

16.93% 13.52%

3.64%

5.64%

27.48% 2.27%

19.51% 3.15%

100.00%

100.00%

100.00%

100.00%

Source: Tax records dataset for 2014 (RS) and 2015 (FBiH); Household budget survey dataset for 2015. Microsimulation model for FBiH (FBiHMOD) used for calculations has been developed by Kramer (2016) and extended by USAID’s Fiscal Sector Refom Activity in BiH and the Federation Ministry of Finance; microsimulation model for RS has been developed by USAID’s Fiscal Sector Reform Activity in BiH and the RS Ministry of Finance; both models use administrative data

analysed in the different regions, especially in FBiH. The structure of the datasets by gender and age group in the three datasets is presented in Table 3.2. Just as for region, the three datasets are similar in the structure of their analysed wage earners. This ensures that these characteristics can be used for stratification and enables a comparison of the distribution of incomes that are reported in the different datasets. As suggested by Benedek and Lelkes (2009), the main differences between the survey data and the administrative data include the following: (1) HBS is based on voluntary participation, while the filing of tax records is a legal obligation for those with taxable incomes; (2) under-sampling of high-income households may be present in the HBS due to non-response, resulting in underestimation of the top incomes and the extent of inequality; (3) incomes in the HBS are self-reported, which may result in recall errors (respondents not remembering correctly). Since the personal income tax and social security contributions are paid by employers, it is

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Table 3.2  Comparison of datasets structure used in the estimation of underreporting by gender and age group (% of wage earners) Characteristics

Gender

Age group

Tax records

Female Male Total (per dataset) 15–29 30–44 45–59 >=60 Total (per dataset)

FBiH

RS

42.1% 57.9% 100.0% 21.0% 43.0% 32.0% 5.0% 100.0%

43.5% 56.5% 100.0% 27.0% 45.0% 24.0% 3.0% 100.0%

Household Budget Survey 37.6% 62.4% 100.0% 16.9% 37.6% 40.0% 5.5% 100.0%

Source: Tax records dataset for 2014 (RS) and 2015 (FBiH); Household budget survey dataset for 2015

employers that are involved in income underreporting. Consequently, survey data should be more reliable and closer to the actual incomes that include envelope wages, since employees do not have an incentive to underreport earnings. Comparing employee incomes in the HBS with wages reported by employers to the tax authority, who do have an incentive for tax evasion, should reveal the difference between actual and reported wages, i.e. the extent of envelope wages. Following the methodology applied in Benedek and Lelkes (2009), the distribution of the “true income” and the “reported income” is created. The main methodological challenge was that no dataset includes both of the income categories. To overcome this problem, we estimated the distribution in the same way for both datasets using individuals’ demographic characteristics. Both datasets are similar in the following aspects: a) they include personal incomes with the reference year of 2014–2015, with incomes measured annually in the tax records dataset and monthly in the HBS dataset; information provided about the number of payments received during the previous year in HBS dataset enables the calculation of annual income; b) monthly wages are expressed as net wages with sufficient information for gross-imputation in the HBS dataset, while annual gross wages are expressed with sufficient data and information for net-­imputation in tax records; c) basic demographic information about individuals as gender, age and region are included, which ensures that these datasets are comparable. Once the extent of the envelope wages is estimated, the answer to the second research question about the demographic characteristics of recipients

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of envelope wages is obtained through the analysis of the data about individuals, where the difference between “true income” from survey data and “reported income” exists. First, the average annual income based on the tax records data by different demographic strata is calculated to make the two datasets comparable. Then, the “true income” based on the data about gender, age and region are estimated using a regression approach in the HBS dataset. The difference between “true income” and “reported income” is then calculated by different strata of individuals. The adjustment factor showing the difference between “true” and “reported income” is calculated as the ratio of average income by different strata of individuals. The assumption is that the “true income” is higher than the “reported income”. For assessment of budgetary and distributional effects, we use the adjustment factors from the above estimations in the BiHMOD based on data from the HBS conducted in 2015.11 To assess the effects of envelope wages, the adjustment factor is applied as a corrective factor at declared wages in HBS, recreating the reported income function. The estimation produces the difference in the government budget between the level of taxes and contributions actually paid and those that could be potentially paid if envelope wages were taxed. The assessment of distributional effects of envelope wages was produced by comparing the levels of poverty and inequality with and without envelope wages, following the procedure used in Kurta and Oruč (2020). The results take into account not only individuals who are taxpayers, but also their household members and consequently the entire population using population weights. It was of particular interest to assess the effects of envelope wages by taking into account the complexity and interaction between different tax and benefits policies in the country. This especially relates to the means-tested benefits using reported income as an eligibility criterion.

5  Results Based on the empirical strategy described above, the average annual wage incomes were first calculated to produce the adjustment factor. This represents the difference between the average “real income” in the tax records dataset and the predicted “true” income in the HBS dataset by the defined 11  BiHMOD uses HBS instead of SILC (Survey on Income and Living Conditions), which is the data source for most other national EUROMOD-based models, since the SILC is not yet conducted in BiH. The HBS from 2015 is the latest available dataset.

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strata. The three main stratification variables used to compare the average yearly income between two datasets by stratum were region, age group and gender. This approach created 11 strata based on region, two strata based on gender and four strata based on age-group criteria. Consequently, the average wages in both datasets were produced for 88 strata in total (11x2x4). The difference between the predicted “true income” and “reported income” is then calculated, and the results are presented in Table  3.3. The rate of underreporting is then calculated as the ratio between this difference and the “true” income. The positive sign in the above table means that “true income” is higher than “reported income”, suggesting underreporting practice for that particular demographic stratum. The negative sign can also be interpreted as a practice of negative envelope wages, whereby employers require employees to return in cash a part of their income paid to their bank account. This practice is found in BiH12 in cases where minimum wage earners, for whom employers must pay personal income tax and social security contributions on their minimum wage, are asked to return part of their salary to their employer in cash for different reasons. The results presented here show that further research is needed to explain such behaviour of employers and employees in BiH, as the reasons for it are not known. The results in 3.3 show that overall income underreporting in BiH, as an average across all strata, is 6.7%. The rate is lower for female employees than for males, suggesting that male workers are more likely to receive part of their wages as envelope wages. Younger workers are also more likely than older workers to receive envelope wages. As expected, the highest rate of underreporting, at 28.2%, is found in the young (15–29) male stratum. Following the procedure explained in the methodological section an adjustment factor is applied as a corrective factor in the BiHMOD simulation, recreating the reported income distribution. In the BiHMOD baseline, reported wages are used, while the simulation represents the corrected wage applying the adjustment factor for envelope wages. This way, the simulated scenario represents the situation when actual wages (including envelope wages) are reported and taxed. The distributional effects of the simulated scenario are presented in Table 3.4. The results show that without envelope wages, i.e. in case actual wages were to be entirely reported and taxed by the authorities, the levels of 12  There is evidence on such practice reported to authors by employees from specific sectors such as retail, and by low-skilled workers such as cleaners.

8.06 36.58 13.96 26.03 23.45 25.90 31.42 50.27 25.76 14.76 18.96 25.01

15–29

45–59 −37.06 10.98 −35.14 −18.84 −0.83 −13.37 −7.15 26.61 −20.49 −18.57 5.73 −9.83

30–44 −12.83 19.20 −12.47 6.39 10.47 9.15 4.85 34.43 −7.05 −5.30 10.57 5.22

Female

−38.68 – −46.96 −37.40 −23.11 – −20.25 39.52 −26.92 −11.35 −11.83 −19.66

>=60 −16.18 21.20 −14.08 5.38 5.72 6.39 6.27 36.08 −4.63 −2.14 −0.11 3.99

Total 20.56 37.70 15.44 24.01 26.94 26.40 30.81 46.79 30.83 19.40 31.01 28.17

15–29 −2.87 15.87 −2.25 6.23 4.66 10.53 9.00 28.97 −0.52 −1.15 15.05 7.59

30–44 −23.64 −2.55 −29.33 −18.36 −13.52 −15.06 −13.53 20.09 −15.34 −26.76 7.32 −11.88

45–59

−26.39 9.21 −32.09 −30.14 – −25.65 −19.83 22.98 −21.64 −22.10 −10.22 −15.59

>=60

Male

Source: Own calculations based on tax records data and HBS

Note: Reported Income = Adjustment Factor * True Income; Underreporting= (True Income-Reported Income)/True Income

Una-Sana canton Posavina Canton Tuzla canton Zenica-Doboj canton Bosnian-Podrinje Canton Goražde Central Bosnia Canton Herzegovina-Neretva canton West Herzegovina Canton Sarajevo canton Canton 10 Republic of Srpska Total

Region

Table 3.3  Rate of underreporting of income (%) by region, age group and gender

TOTAL −3.60 −7.26 14.93 20.56 −8.04 −8.35 3.78 5.12 4.48 5.16 6.70 8.07 3.74 5.12 30.64 49.10 0.16 −1.75 −8.90 −5.61 5.01 3.50 4.45 6.70

Total

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Table 3.4  Results of BiHMOD simulation—Distributional effects

Number of persons below the poverty line Poverty rate (%) Gini coefficient (total disposable household income) Atkinson index

Baseline

Simulation

771,306 26.3% 0.392

787,079 26.9% 0.398

0.205

0.207

Source: Own calculations using BiHMOD

poverty measured both by the number of persons below the poverty line13 and the poverty rate would be higher. Inequality, measured by the Gini coefficient and the Atkinson index would also be higher in the absence of income underreporting. This suggests that the receipt of envelope wages by those who are considered poor increases their disposable income. This suggests that envelope wages are used as a survival strategy and that they reduce the gap between poor and wealthy households. The estimated budgetary effects, calculated as changes in the amount of collected social security contributions and personal income tax, are produced using BiHMOD considering applicable tax deductions.14 Since wages in the HBS are expressed as net incomes per month, a gross imputation of wages was implemented. The differences between social security contributions and personal income tax in the baseline and simulated scenario are presented in Table 3.5. The results suggest that the practice of paying envelope wages reduces government budgets by about 4.28 million BAM15 per month due to the missing social security contributions by employers. The loss of government revenues from personal income taxes by employees due to the payment of envelope wages is equal to a further 0.77 million BAM per month.

13  The impact on poverty is assessed in terms of the headcount ratio, with the relative income threshold set at 50% of median household disposable income (adjusted for household size using the modified OECD equivalence scale). 14  The tax scheme is different in the two administrative units (FBiH and RS). All tax deductions were produced for household heads only, while for other family members only personal income tax deduction was applied because data in HBS did not allow to link other family members outside the surveyed households. 15  BAM stands for the Bosnian convertible mark, the BiH national currency, set at a fixed exchange rate to the euro at 1.95583 BAM for 1 euro.

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Table 3.5  Estimated monthly budgetary effects of envelope wages Social security contributions paid by employee Entity

Baseline

Simulation

FBiH 128,762,712.4 132,598,277.2 RS 75,012,407.2 66,897,440.0 Total 203,775,119.6 199,495,717.2 Social security contributions paid by employer Entity Baseline Simulation FBiH 43,613,176.8 RS* 0.0 Total 43,613,176.8 Personal income tax Entity Baseline

44,912,319.7 0.0 44,912,319.7

FBiH RS Total

13,850,656.7 8,444,020.3 22,294,677.0

13,026,138.1 10,041,612.3 23,067,750.4

Simulation

Difference: Simulation —Baseline 3,835,564.8 −8,114,967.2 −4,279,402.5 Difference: Simulation—Baseline 1,299,142.9 0.0 1,299,142.9 Difference: Simulation—Baseline 824,518.6 −1,597,592.0 −773,073.4

Source: Own calculations using BiHMOD. *Note: According to the RS tax system, social security contributions are only borne by employees

6  Conclusions To produce valid evidence about envelope wages is a challenging task, since they exist in a grey area between formal and informal employment, especially in BiH with its complex constitutional setting. This chapter has set out our estimates of the extent of envelope wages in BiH and their budgetary and distributional effects using data from Household Budgetary Surveys and administrative data from tax records. Our analysis provides empirical evidence and insights for policy debate and further research on the effects of envelope wages in BiH. As suggested in previous literature, envelope wages are a common method of income underreporting in developing countries where labour market institutions are weak. Labour market inspectors are typically not much concerned with envelope wages in cases where minimum wages are paid and taxed. If the employer is complying with the law and employees accept a psychological contract with the employer to hide envelope wages, the practice can remain in the grey area. Previous studies have also emphasised that employees are seldom happy with such practices, especially

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where envelope wages are paid for additional work or for extra services that are not stipulated in the employment contract. In addition to their precarious situation expressed through low healthcare and unemployment benefits, envelope wage recipients can be considered socially excluded. Even if their current disposable income is higher, it can be easily removed and thus push these individuals into poverty. Such a position has implications for social inclusion of envelope wages recipients because those receiving “negative envelope wages” are often at risk of being excluded from social benefits, while recipients of “positive envelope wages” often experience a low quality of working life. The recipients of envelope wages are effectively making a trade-off between their current and future well-being by increasing their current disposable income at the expense of decreasing their future pension or other contributory social benefits. In addition to the income received through envelope wages, employees involved in tax evasion often belong to vulnerable categories of workers receiving social assistance benefits. They are often eligible for means-tested social benefits, as they use lower reported incomes to claim benefits. Envelope wages combined with social benefits may improve recipients’ overall welfare in the short run. However, in the long run, the lower social security contributions paid from the lower salary will eventually provide lower entitlements based on social security contributions. From the policy perspective, it is important to understand who the recipients of envelope wages are and why are they involved in income underreporting. Addressing the issue of envelope wages is important in countries with unfavourable labour market condition such as in BiH, especially given the weak and complex institutional setting in the country. The estimation of the extent of envelope wages, as well as their distributional and budgetary implications, is important for a better understanding of the issue and for the design of polices to address it for tax efficiency reasons as well as for improving the economic inclusion of the affected individuals. The results of our estimations show that envelope wages in BiH account for 6.7% of employee earnings, and that the practice is particularly widespread among young males. While age clearly has a strong impact on the negotiating position of employees due to the lack of skills of young workers and their oversupply on the labour market, the fact that men are more likely to accept envelope wages is also partly due to their over-­representation in the private sector. The incidence of envelope wages also differs in the different regions. Estimates from the BiHMOD microsimulation model suggest that the levels of poverty and inequality would be higher in the

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absence of envelope wages, i.e. if all paid wages were taxed. Such a scenario would also increase budget revenues. The assessment of the current budgetary revenue effects due to the existence of envelope wages suggests significant losses, both from tax revenues and SCC. The findings presented here suggest that the envelope wages are used predominantly as a strategy for both tax avoidance and improving the well-being of individuals, since poverty and inequality levels are lower when envelope wages are received. The envelope wages are received mainly by minimum wage earners. Consequently, the absence of undeclared income would lead to a greater social exclusion of these individuals. On the other hand, due to the complexity of tax-benefit system in BiH and current legal regulation, reporting the part of the salary currently received as envelope wage would result in risk of exclusion of these recipients from the social benefits they are currently receiving. Each of these specific effects on the total personal income are calculated by the BiHMOD simulation model at the individual level. The results produced from the model suggest that, in a scenario in which the criteria for receiving social assistance are not changed and the taxation of envelope wages is introduced, the overall poverty and inequality levels will increase. Such results lead us to conclude that policies to tackle tax evasion should be carefully designed and should take into account the relations between tax and social benefits policies. Similar conclusions have been produced from the analysis of the effects of increasing minimum wages in BiH (Kurta & Oruč, 2020). This research has some limitations resulting from the data available and the estimation approach used. The results are produced using a static model and do not take into account behavioural responses of employers and employees with regards to contractual and informal agreements, as well as on policies regarding minimum wages, which could potentially reduce envelope wages. Nevertheless, the findings presented in this chapter are expected to provide useful evidence for the design of tax policy and may serve as a motivation for further research.

References Alm, J., Bahl, R., & Murray, M. N. (1991). Tax base erosion in developing countries. Economic Development and Cultural Change, 39(4), 849–872. Bartlett, W., & Oruč, N. (2021). Labour markets in the Western Balkans 2019 and 2020. Regional Cooperation Council.

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Bartlett, W., Guxholli, S., Zacellari, M., Bershaj, L., Peštek, A., Jahić, H., Sejdiu, S., Stojanović, R., Bjelica, D., Kurta, A., & Ramhorst, A. (2021). Study on youth employment in the Western Balkans. Regional Cooperation Council. Benedek, D., & Lelkes, O. (2009). The Distributional Implications of Income Underreporting in Hungary. MPRA Paper No. 17308. http://mpra.ub.uni-­ muenchen.de/17308/ Blagovčanin, S., & Divjak, B. (2015). How Bosnia’s political economy holds it back and what to do about it. Johns Hopkins University. Cowell, F. (1990). Cheating the government: The economics of evasion. MIT Press. Danopoulos, C.  P., & Znidaric, B. (2007). Informal economy, tax evasion and poverty in a democratic setting: Greece. Mediterranean Quarterly, 18(2), 67–84. Gollin, D. (2002). Getting income shares right. Journal of Political Economy, 110(2), 458–474. Horodnic, I.  A. (2016). Cash wage payments in transition economies: Consequences of envelope wages. IZA World of Labor, 2016, 280. https://doi. org/10.15185/izawol.280 Kim, B.-Y. (2005). Poverty and informal economy participation. Evidence from Romania. The Economics of Transition, 13(1), 163–185. Kramer, Dž. (2016). Personal Income Tax Reform in the Federation of Bosnia and Herzegovina. Doctoral Dissertation, University of Ljubljana, Faculty of Economics. http://www.cek.ef.uni-­lj.si/doktor/kramer.pdf Kriz, K., Meriküll, J., Paulus, A., & Staehr, K. (2008). Why do individuals evade payroll and income taxation in Estonia? In M. Pickhardt & E. Shinnick (Eds.), Shadow economy, corruption and governance (pp.  240–264). Edward Elgar Publishing. Kukk, M. & Staehr, K. (2014). Identification of Income Underreporting by the Self-Employed: Employment Status or Reported Business Income?” TUTECON Working Paper No. WP-2014/1. Kurta, A., & Oruč, N. (2020). The effect of increasing the minimum wage on poverty and inequality in Bosnia and Herzegovina. Economic Annals, LXV(226), 121–137. Merikull, J., & Staehr, K. (2010). Unreported employment and envelope wages in mid-transition: Comparing developments and causes in the Baltic countries. Comparative Economic Studies, 52, 637–670. Numanović, A. (2021). Performance of Western Balkan economies regarding the European pillar of social rights: Review of Bosnia and Herzegovina. Regional Cooperation Council. Obradović, N., Jusić, M., & Oruč, N. (2019). Thematic report on in-work poverty: Bosnia and Herzegovina. (European social policy network). European Commission. Oruč, N., & Bartlett, W. (2018). Labour markets in the Western Balkans: Performance, causes and policy options. Regional Cooperation Council.

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Pelek, S., & Uysal, G. (2016). Envelope wages, underreporting and tax evasion: The case of Turkey. Proceedings of the Annual Conference on Taxation and Minutes of the Annual Meeting of the National Tax Association, 109, 1–23. Schneider, F., & Enste, D. (2000). Shadow economies: Size, causes and consequences. Journal of Economic Literature, 38(1), 77–114. Yalamov, T. (2016). Hidden economy in Southeastern Europe: Building regional momentum to mitigate its negative effects. (SELDI policy brief). Southeast European Leadership for Development and Integrity. UN. (2020). United nations common country analysis Bosnia and Herzegovina. United Nations. Weber, B. (2017). BiH’s un-reformable public administration—An instrument of state capture. Perspectives, Issue, 3(September), 10–14. Williams, C.  C. (2007). Tackling undeclared work in Europe: Lessons from a study of Ukraine. European Journal of Industrial Relations, 13(2), 219–236. Williams, C.  C., & Round, J. (2007). Beyond negative depictions of informal employment: Some lessons from Moscow. Urban Studies, 44(12), 2321–2338. Williams, C. C. (2009). Formal and informal employment in Europe. European Urban and Regional Studies, 16(2), 147–159.

CHAPTER 4

Horizontal Job-Education Mismatch in Kosovo: Is There a Gender Gap? Besnik A. Krasniqi, Genc Zhushi, Mehmet Bağış, Liridon Kryeziu, and Agon Dula

1   Introduction Although job-education mismatch has been studied for a long time, especially in the United States, it remains an important topic for researchers and policymakers in developing and transition economies (Pérez Navarro, 2021; Rudakov et al., 2019; Shi & Wang, 2021). The job-education mismatch can affect labour force productivity, allocative efficiency, and economic development. As a consequence of job-education mismatch, low productivity of workers affects private sector competitiveness by increasing the cost of training and reducing the earnings of employees. B. A. Krasniqi (*) Kosova Academy of Sciences and Arts, University of Prishtina, Prishtina, Kosovo e-mail: [email protected] G. Zhushi • A. Dula University of Prishtina, Prishtina, Kosovo e-mail: [email protected]; [email protected] © The Author(s), under exclusive license to Springer Nature Switzerland AG 2022 W. Bartlett, M. Uvalic (eds.), Towards Economic Inclusion in the Western Balkans, New Perspectives on South-East Europe, https://doi.org/10.1007/978-3-031-06112-7_4

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Its importance is acknowledged by numerous studies suggesting that, globally, many employers have trouble filling vacancies due to a lack of appropriately skilled applicants (ManPowerGroup, 2021). Labour markets are often more dynamic than educational systems, which cannot immediately react to technological changes or demand for certain professions. This situation has been defined as a race between education and technology (Goldin & Katz, 2009). On the other hand, in some countries, labour markets do not offer sufficient jobs that require a high level of education. At the same time, there has been an expansion of the supply of education, which has increased workforce skills, which coupled with the ageing population are among the key contributing factors to an increasing level of educational mismatch in labour markets (Flisi et al., 2017). Although the contributing factors to job-education mismatch may be slightly different from the developed world, the importance of transition economies like Kosovo is crucial. With the youngest population in Europe, with 50% under 25 years of age, Kosovo faces a high unemployment rate (25.9 in 2020). Despite workforce potential, Kosovo’s economic growth cannot generate jobs for the entire active labour force that stands as the unutilised resource of our economy. On the other hand, Kosovo experienced the rapid expansion of higher education during the last two decades, but evidence suggests that increased participation appears to have had a devastating effect on the quality of education (Rexhaj, 2016). The increase in educational supply, not accompanied by substantial growth in high-­ skilled jobs, created an oversupply of university or secondary school graduates, resulting in labour market imbalances and underutilisation of the workforce potential for economic development (Krasniqi & Hashi, 2022). Under these circumstances, the job-education mismatch in Kosovo is very high MCC Labour Market survey reports that 63.50 per cent of the individuals in the labour force declared that their job is not related to their

M. Bağış Department of International Trade and Finance, Sakarya University of Applied Sciences, Sakarya, Turkey e-mail: [email protected] L. Kryeziu Heimerer College, Prishtina, Kosovo e-mail: [email protected]

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field of study, suggesting the need for addressing this issue. As a result, the problem of matching job-education is fundamental for the competitiveness of the economy. Therefore, this chapter examines the determinants of the incidence of job-education mismatch in the Kosovo labour market, with particular emphasis on gender differences. We use data from the Labour Market survey 2017 conducted by The Millennium Challenge Corporation (MCC) to explain the incidence of the job-education mismatch. The remainder of the chapter is organised as follows. The following section discusses the relevant literature, followed by the context of the study. The fourth section discusses methodology, the fifth section discusses results and provides some actual examples of horizontal mismatch and how it has affected people’s lives, and the sixth section concludes and offers some policy implications.

2   Horizontal Mismatch and Labour Market Performance There is a growing body of literature regarding job-education mismatch and its impact on the labour market and productivity (Robst, 2007b; Béduwé & Giret, 2011; Caroleo & Pastore, 2012; Bartolj et al., 2013). The issue of a horizontal mismatch as a particular form of job-education mismatch has attracted considerable attention among policymakers and researchers as it reflects the congruency between higher education fields and labour market requirements (Rudakov et al., 2019). These discrepancies in education and skill mismatch literature have led scholars to distinguish between vertical and horizontal skill mismatch. A horizontal mismatch can be defined as a situation where there is a mismatch between the field of study that individual has and the current field occupation (Witte & Kalleberg, 1995). Thus, a horizontal mismatch occurs then individuals’ education back round or skills that possess do not fit or is not related to current the job (Robst, 2007a). Another definition of horizontal mismatch is the mismatch between skills that individuals possess and skills that the job requires (Eymann & Schweri, 2015; Schweri et al., 2020). The literature has focused on two aspects; the match between employee’s education background and their current jobs and the effect of the labour market on horizontal mismatches (Kirkeboen et  al., 2016; Levels et al., 2014; Montt, 2015;Van de Werfhorst, 2002 ; Wolbers, 2003)

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these studies were drawn from economic (Kirkeboen et al., 2016; Levels et al., 2014; Montt, 2015) and sociological literature (Van de Werfhorst, 2002; Wolbers, 2003). In terms of field of study and education, horizontal mismatch appears to be highest among graduates in arts, humanities, and social sciences (Robert, 2014; Robst, 2007a; Verhaest et al., 2017). Scholars have also argued that individuals who graduated from vocational training have a lower probability of facing horizontal mismatch than those who graduated from general education or higher education (Levels et al., 2014). Studies show that the reason on why higher wage penalties for horizontal mismatch are related to the fact that higher education is very specialised (Nordin et al., 2010). Pholphirul (2017) argues that education job mismatch negatively influences workers employment and incomes. Senarath and Patabendige (2014) study show that education shows that vertical mismatch is a formal mismatch whereas, the horizontal mismatch is the real mismatch. Morgado et al. (2016) cross-country study on a horizontal mismatch in Europe shows that based on the level of education, undereducation is positively related with a horizontal mismatch, compared to over education is negatively correlated with a horizontal mismatch. Béduwé and Giret (2011) analyse the consequences of horizontal mismatch in France and show that there are high rates of mismatch between workers who finished vocational training, but that the impact of horizontal mismatch on wages is limited once job characteristics are considered. The bulk of studies has examined the effect of wages on horizontal mismatch. However, the findings are inconsistent. One group of studies (Bender & Roche, 2013; Nordin et al., 2010; Robst, 2007a, 2008; Robst & VanGilder, 2016) shows that horizontally mismatched individuals are disadvantaged in terms of wages. This effect is more evident among those later in their careers (Bender & Heywood, 2011) and those in education-­ specific occupations (Somers et al., 2019). The effect of horizontal mismatch on wages differs by gender (Nordin et al., 2010). Van de Werfhorst (2002) study shows that the wage gap between men and women did not change despite the differences in education and occupation, neither on the level of education. The effect of mismatch on wages also varies with age, especially among graduates from more general study fields than occupation-­ specific fields of study (Robst, 2007a). Another group of studies argues that mismatch does not have an impact on wages as suggested in the

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literature above (Béduwé & Giret, 2011; Zhu, 2014). Another study shows that horizontal mismatch does not have a negative impact on wages, but the negative impact is reflected in increasing both job dissatisfaction and individual’s are more apt to search for another job even though current job considered as qualified, more permanent and incomes are reasonably high (Béduwé & Giret, 2011). Horizontal mismatch differs across countries and economic activities. Morgado et  al. (2016) show a difference across countries’ economic activities and occupations regarding the horizontal mismatch. This study shows that horizontal mismatch tends to be correlated and at similar levels with vertical mismatch when taking into consideration economic activities. Horizontal mismatch is higher in economic activities such as: Transportation and Storage, Accommodation and Food Service, Professional, Scientific and Technical, Arts, Entertainment and Recreation, whereas in economic activities such as: agriculture, forestry and fishery are much higher than a vertical mismatch. This study also shows that the difference is evident when compared to countries. For example, countries like Norway, Poland, Spain, and Estonia have high levels of horizontal mismatch where 40% of workers do not match in average the field for occupation and activity. Compared to these countries, countries like Germany, Denmark, Portugal, Cyprus, Greece, and Slovak Republic have lower level of horizontal mismatch. In addition, this study shows that there is a decrease of horizontal mismatch in Northern, Central, and Southern European compared to Eastern European Countries. In addition, horizontal mismatch is higher in elementary occupations, service, sales and lower in crafts and related trades. Individuals that are horizontally mismatched are more apt to have wage penalty, less satisfied with their jobs, and regret their field of study (Bender & Roche, 2013; Somers et al., 2019). Furthermore, there is a positive correlation between horizontal mismatch and unemployment (Wolbers, 2003). A cross-country study shows that the reason on why horizontal mismatch lower is that some countries with high employment protection, unemployment benefits and selective education programs (Verhaest et al., 2017). In addition, Montt (2015) shows that the impact of horizontal mismatch on income is especially high when combined with vertical mismatch. Other scholars have argued that horizontal mismatch causes low job satisfaction and high turnover (Bender & Heywood, 2009).

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3  The Context Kosovo has the youngest population in Europe, with 50% of its population under 25 years of age, which could be an engine of sustainable economic development (European Commission, 2018). Despite Kosovo’s potential, the slow process of institutional reforms to improve the business environment has reduced the economy’s performance and has led to a high unemployment rate. According to some estimates, the unemployment rate was 25.7% in 2019 and increased to 25.9% in 2020 (see Table 4.1). Among the most vulnerable groups are youth, among whom the unemployment rate was estimated to be 49.4% in 2019 and 49.1% in 2020. The population of working-age 15–64 is expected to increase rapidly over the next decade, although many are either not economically active or do not seek employment (Government of Kosovo, 2019–2021). The high unemployment rate has been attributed to various factors: structural weaknesses, skill gaps among unemployed youth, the informal economy, and the low level of skills of the workforce. Many workers are employed in low skill, low productivity jobs, which diminish workers’ rights and safety (European Commission, 2020). The fragmented labour force has limited opportunities for productive employment, and the lack of quality jobs leads to high levels of poverty and low labour productivity and cultivates discontent Table 4.1  Labour Market Indicators based on age, gender Indicators

2018 Male

Labour force participation rate Inactivity rate Employment-to-­ population ratio (employment rate) Unemployment rate Youth unemployment rate (15–24 years) NEET share of youth population (15–24 years) Share of vulnerable in total employment

2019

2020

Female Total Male Female Total Male Female Total

63.3

18.4

40.9

59.7

21.1

40.5 56.0

20.8

38.3

36.7 45.3

81.6 12.3

59.1 28.8

40.3 46.2

78.9 13.9

59.5 44.0 30.1 42.8

79.2 14.1

61.7 28.4

28.5 51.5

33.4 64.7

29.6 55.4

22.6 44.1

34.4 60.3

25.7 23.5 49.4 45.2

32.3 57.2

25.9 49.1

30.2

30.0

30.1

31.4

34.2

32.7 34.0

33.2

33.6

20.3

17.1

19.6

20.3

13.9

18.8 19.0

11.0

17.0

Source: Kosovo Agency of Statistics (KAS)

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among young people who cannot fulfil their aspirations (World Bank, 2019). To reduce the high unemployment rate in Kosovo, it is essential to promote job creation by increasing productive employment, improving well-being and reducing poverty (World Bank, 2019). Several reports maintain that skill gaps hinder private sector development and discourage foreign direct investment (FDI). A skilled labour force is crucial to attracting FDI and exporting and may support supply links between domestic suppliers and foreign firms (Kotorri & Krasniqi, 2018); Bajrami & Krasniqi, 2019). Hence, improved skills are crucial to enhance the business environment, boost job creation, and increase well-­ being. Higher employee skills can boost productivity, resulting in greater capital efficiency, more rapid innovation, and faster adoption of advanced technology (Krasniqi & Mustafa, 2016; Mustafa et al., 2021; Reçica et al., 2019; World Bank, 2019). A recent study indicates a substantial mismatch between workforce qualifications and labour market demands (FES, 2019). These challenges reflect structural problems in the labour force. Study reports show that 54% of the youth in Kosovo work in jobs unrelated to their educational background, suggesting a high degree of horizontal skill mismatch in the Kosovo labour market. These structural labour market challenges stem from the rapid growth of the working-age population that is not matched by sustained job creation. It creates persistently low participation of women and generally precarious employment opportunities (fewer than half of all employees have permanent work contracts) (European Commission, 2020). The development of workforce skills is also crucial due to the low literacy level and the low level of cognitive and socio-­ emotional skills that create a disadvantage in the labour market and widespread social exclusion of young people. Several factors cause high levels of youth unemployment and inactivity. The first is related to job insecurity, a consistent concern for employees in general and employed young people in particular. Weak employee rights, long working hours, and low salaries are additional challenges facing youth. The second factor is the weak education system in Kosovo. In higher education, enrolment rates are twice as high as in the EU. The primary study fields are Business administration and law, social sciences and journalism, and Arts and humanities (Gashi & Bartlett, 2016). The low quality of education has created a shortage of skills in areas such as IT and engineering (European Commission, 2020). The low performance of the Kosovo education system is also the source of a high unemployment rate among university graduates, estimated to be around 24% (European

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Commission, 2020). Even though university graduates have a higher chance of finding a job, they are often employed in jobs that do not match their field of study (Gashi & Bartlett, 2016; ETF, 2020), resulting in low satisfaction with the quality of education (FES, 2019). The government has introduced several strategies to tackle the challenge of skill mismatch through coordination with various stakeholders (Government of Kosovo, 2019–2021. These strategies address skill mismatch problems at the institutional level and acknowledge that the labour market is fragmented. They suggest the importance of institutional reforms in education institutions and closer cooperation between institutions and the private sector.

4   Methodology To estimate the determinants of the incidence of the job-education mismatch, this chapter uses data from a labour force survey commissioned by the Millennium Challenge Corporation (MCC) carried out in 2017 among 8533 households. The survey used a multi-stage stratified cluster-­randomised sampling methodology to arrive at a representative sample for Kosovo. The research design and dataset are comparable with other datasets aligned to the Eurostat approach (Krasniqi & Williams, 2020). The unit of analysis in the survey is all individuals aged 15 and over living in private households and in employment who did at least one hour of work for pay or profit during the week preceding the interview. The survey contains information on the self-reported job-education mismatch using the question “Is your current or most recent job closely related to your primary study field?”. The respondents who declared “no” to this question are categorised as being in a state of horizontal job-education mismatch. The survey also provided information on socio-demographic variables such as gender, age (a proxy for work experience), and marital status. In addition to the data on sectors in which respondents work. MCC Labour survey results show that 63.5 per cent reported that their job is not related to their field of study, suggesting a high rate of job-education mismatch in Kosovo. 4.1   Econometric Model To estimate the probability of an individual reporting a job-education mismatch, we use the probit model, where the dependent variable is dichotomous, taking the value of 1 if someone is not working in his or her related

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study field and 0 otherwise. Since this dependent variable has two possible values, the regression analyses are conducted using the probit model: (4.1)



 1, with probability p y 0, and with probability 1  p

(4.2)



1, and Yes y  0, No

In this study, we can express this generalised expression as: From Eq. (4.2) we want to model p as a function of regressors x, and the probability mass function for the observed outcome, y, is p y(1 − p)1 − y, with E(y) = p and Var(y) = p(1 − p). Also, we form the regression model by parameterising p to depend on an index function (x′iβ), where x is a Kx1 regressor vector and β is a vector of unknown parameters. This gives the standard binary outcome model:

pi  Pr  yi  1 | x   F  xi  



(4.3)

Where F(∗) is a specified parametric function of (x′iβ), usually a cumulative distribution function (c.d.f.) on (−∞, ∞) which ensures the bound 0 ≤ p ≤ 1. There is a difference between the observed binary outcome, y, and an underlying continuous unobservable (or latent variable), y*, that satisfies the single-index model:

y  x   u

(4.4)

And even though y* is unobserved, we can observe:



1, if y  0 y  0, if y  0

(4.5)

From the latent-variable models (4) and (5), we can find:



Pr  y  1  Pr  x   u  0   Pr  u  x    F  x  

(4.6)

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From this F(∗) is the c.d.f of −u. This presents the probit model if u is standard normality distributed. From Eq. (4.6) we can find the marginal effect of the probit model:



p    x    i xi

(4.7)

Where the ∅(∗) represents the standard normal density. Furthermore, to measure the magnitude of each independent variable we use the average marginal effects, which in general brings the same results as the marginal effect at the means, but they differ in the philosophical and methodological aspect:



p  F   x   i  xi n

(4.9)

From Eq. (4.9) it is obvious that the marginal effect is estimated as the average of the individual marginal effects. To obtain the probit and marginal effect results, we used the software STATA-16. 4.2  Variables This analysis considers the binary dependent variable representing whether a worker is doing a job related to his/her study field or not. The variable encompasses ‘Yes’ or ‘No’ responses. The independent variables used in the regression analysis include the age of respondent (experience), marital status, and dummy variables denoting the sector of activity and region.

5  Empirical Results This section reports the probit estimates measuring the determinants of the probability of individuals reporting a job-education mismatch. Table 4.2 reports the results from the probit model regression and associated marginal effects in the second column. We include the following independent variables in the model: gender, age (as a proxy for work experience), marital status, and a set of regional and sectoral dummy variables.

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Table 4.2  Regression results: Probit model for horizontal mismatch Variables

Probit model estimates

Marginal effects

Gender (1=Male, 0=Female) Respondent’s age Marital status (Ref. Category Single) Married or factual relationship Widowed Divorced or legally separated Sector dummies (Ref. Category: Agriculture, forestry and fishing) Mining and quarrying Manufacturing Electricity, gas, steam and air conditioning supply Water supply; sewerage, waste management and remediation activities Construction Wholesale and retail trade; repair of motor vehicles and motorcycles Transportation and storage Accommodation and food service activities Information and communication Financial and insurance activities Real estate activities Professional, scientific and technical activities Administrative and support service activities Public administration and defence; compulsory social security Education Human health and social work activities Arts, entertainment and recreation Other service activities Activities of households as employers; undifferentiated goods- and services-­ producing activities of households for own use Activities of extraterritorial organisations and bodies Regional dummies (Ref Category: Ferizaj) Gjakova Gjilan Mitrovica

−0.121**(0.0437) −0.0177***(0.0017)

−0.0346**(0.013) −0.00506***(0.000)

−0.0906(0.0483) 0.149(0.1578) −0.101(0.2605)

−0.0259(0.014) 0.0409(0.042) −0.0291(0.076)

−1.033***(0.1613) −0.400***(0.0882) −1.180***(0.1084)

−0.347***(0.059) −0.116***(0.026) −0.402***(0.037)

−0.873***(0.1672)

−0.286***(0.061)

−0.0415(0.0828) −0.425***(0.0772)

−0.0104(0.021) −0.124***(0.022)

0.0568(0.1175) −0.174(0.0989) −1.096***(0.1297) −1.433***(0.1206) −1.008**(0.3832) −1.512***(0.1546) −1.226***(0.1203) −0.568***(0.0844)

0.0137(0.028) −0.0463(0.027) −0.371***(0.046) −0.494***(0.039) −0.337*(0.145) −0.521***(0.050) −0.419***(0.041) −0.173***(0.026)

−2.168***(0.0881) −1.926***(0.1013) −0.566***(0.1190) −0.414***(0.0784) −0.199(0.1586)

−0.698***(0.020) −0.643***(0.025) −0.172***(0.039) −0.120***(0.022) −0.0535(0.045)

−0.803***(0.2021)

−0.259***(0.074)

−0.329***(0.0644) −0.217***(0.0630) −0.0776(0.0622)

−0.0934***(0.018) −0.0604***(0.018) −0.0211(0.017) (continued)

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Table 4.2 (continued) Variables

Probit model estimates

Marginal effects

Peja Pristina Prizren Constant Observations Pseudo R2 chi2

−0.119(0.0614) −0.414***(0.0580) −0.433***(0.0689) 2.088***(0.1102) 7176 0.246 2373.5

−0.0325(0.017) −0.119***(0.017) −0.125***(0.020) 7176

Notes: Probit model: Dependent variable 1 = If respondent stated that his/her current or most recent job is not closely related to his/her primary study field, the 0) otherwise. Standard errors in parentheses. Probability levels: *p