Initial reforms and dynamics of transition

This article analyses the impact on the labor market of the transition from a state-controlled economy towards a market economy. We consider a dynamic matching-model with a declining and an emerging competitive sector. We show that there are two opposite strategies in the move towards a market economy: a massive decrease in employment or a small decrease in employment in the non-competitive sector. We find that the transition is achieved faster with a big reduction in state employment than with a small one. Surprisingly, the end of transition is also characterized by lower unemployment when there are massive layoffs - because in the short run, the high unemployment implied by the massive decrease makes job creation in the competitive sector more profitable. In fact, this seems to have been the way chosen by most of the CEECs.