Labor Flexibility and Innovation : the Importance of Firms’ Heterogeneity

This work investigates the relationship between the numerical flexibility of a firm’s workforce and its innovative performance, taking into account the heterogeneity of firms and labor contracts. Using longitudinal data on Italian firms, we find that the share of temporary employees has a positive and significant effect on innovation for small and micro firms in low-tech and less knowledge-intensive sectors and a negative effect for medium and large firms in high-tech and knowledge-intensive sectors. These results suggest that managers and entrepreneurs may use temporary employment as an effective human resource practice to foster innovation in those firms whose technology or knowledge do not require vast and firm- specific investments. They also highlight possible unintended consequences of changes in the employment protection legislation for firms’ innovative performance. Functional flexibility (training policies) and wage flexibility (second-level wage bargaining scheme) are neither substitutes nor complements to numerical flexibility, suggesting that firms use numerical, functional, and wage flexibility in different combinations