Severance pay reforms, worker flows, and labor market duality

This paper studies how cuts to statutory severance pay affect worker flows, contractual allocation, firm-level hiring composition, and wages in the Portuguese labor market. The analysis exploits the 2011-2013 reforms, which reduced the transfer component of dismissal protection for both fixed-term and open-ended contracts while leaving most procedural safeguards intact. Using matched employer-employee data for 2010?2019, we combine sharp legal-timing contrasts around the November 2011 and October 2013 cutoffs with an exposure-based IV/control-function design that leverages heterogeneity in admission cohort, tenure, contract type, and grandfathered rights. The results show that lower severance pay does not uniformly improve reallocation. Around the November 2011 cutoff, separations shift away from exits from private-sector employment toward job-to-job moves, whereas the October 2013 cutoff does not reproduce this pattern, instead displaying weaker job-to-job responses and a more uneven reduction in exits. In the broader exposure estimates, lower severance entitlements are associated with higher turnover, but the composition of that turnover varies across worker groups and contract types, combining selective conversion from fixed-term to open-ended jobs with increased reliance on temporary contracts. Within continuing worker-firm matches, wage-severance associations are economically small, providing little evidence that lower severance rights were offset by higher wages. Overall, the reforms reshaped turnover and contract use without delivering uniform improvements in labor-market reallocation, and temporary-permanent duality remains a central feature of the post-reform labor market.