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5 Poverty and the Ukrainian Labor Market

Patrick Lenain, and Peter Cornelius
Published Date:
February 1997
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Peter Fallon, Tom Hoopengardner and Ella Libanova* 

The economic decline that started in 1988 and accelerated in 1990 resulted in a rapid decline in purchasing power and standard of living for households dependent on wage income. The primary effect was a dramatic decline in real wages, more than 60 percent between 1990 and 1993. The decline in employment has been much smaller than the decline in output, and open unemployment remains small by international standards. Hidden unemployment (meaning especially forced unpaid leave and involuntary part-time or intermittent work) began growing, but its importance should not be exaggerated. The labor market has been the most important link between macroeconomic decline and growing poverty.

Employment in the informal sector (not captured in official statistics) has grown rapidly, but the growth in informal sector labor income has not made up for the decline in formal sector wages. Part-time farming is an especially important informal sector activity for households with access to land. For some households, however, the informal sector has provided no relief at all.

Clearly, a resurgence in labor demand is required as one very important ingredient in the alleviation of poverty in Ukraine. Yet it is not a panacea. Even if growing labor demand pulls up the real wage significantly, many Ukrainian households will not escape poverty because they do not participate fully in the labor market or because they are so far below the poverty line. Even a very strong resurgence in labor demand cannot eliminate the need for reform of Ukraine’s social protection system.

Collapse in Real Wages

The most serious consequence of the recession has been a severe decline in the real average wage rate—63 percent between 1990 and 1993. As wage rates were determined administratively in most of the economy for much of the period since 1990, this decline can be interpreted not only exclusively as a market response, but also as an administrative reaction to tightening budgetary constraints and runaway inflation. As a result of the declining real wage, household incomes have suffered greatly.

Before 1990, Ukraine had a system of wage controls typical of most centrally planned economies. Essentially, there were two main instruments: control of the wage fund or wage bill as a macroeconomic stabilization measure that limited consumption growth; and control of wage rates and differentials. Once fixed at the national level by state authorities, the wage fund was allocated to enterprises, where it was distributed to workers according to the pay scales or wage tariffs that applied in each sector. The government thus determined pay levels and differentials throughout the noncollective sector with the discretion to vary remuneration across sectors according to relevant economic and political objectives.

This system was temporarily suspended between April 1991 and November 1992, and enterprises were given autonomy under the Law on Enterprises in Ukraine to determine wages in a decentralized collective bargaining context, but with a continuation of the tariff system to set differentials by occupation and working conditions. The new system quickly ran into difficulties because the monopoly power possessed by many enterprises allowed them to accommodate wage demands (sometimes fueled by union pressures) by raising the prices of the final goods they produced. These tendencies were blamed for accelerating inflation and the system was dropped.

The period December 1992 to April 1995 was little more than a return to the old system of wage controls. Wage fund limits were enforced by the imposition of a 300 percent tax on excess expenditures, and the tariff system was reintroduced as the basis for fixing differentials. The only real difference from the old system lay in the introduction of a national minimum wage. The national minimum wage was calculated at no less than the cost of the minimum consumption basket, a basket of 70 basic commodities. The government retained the discretion to set a higher rate that acted as the floor to wages paid to the lowest occupational grade in any enterprise. The ratio of the lowest wage to the national minimum wage was, however, adjusted upward over time (for example, from 1.2 to 2 in June 1993) and the linkage of its lowest permissible value to the minimum consumption basket was severed in January 1993.

At present, there are no controls pertaining to the private sector except the need to pay the national minimum wage, and there has been some liberalization of the system as it applies outside the private sector in the second and third quarters of 1995. Although wage fund limits continue to be applied in the state-owned sector, the tax penalty for exceeding these limits has been reduced sharply to 30 percent. The tariff system has, however, been abolished except in the budget organizations (health, education, and culture) although civil service pay is, as in all countries, under government control. Even in the budget organizations, the wage rates of white collar personnel, for example, doctors, nurses, schoolteachers, and university professors, are matched against those of comparable occupations elsewhere in the state-owned sector.

In addition to the basic wage, workers receive other monetary payments. Overtime is paid at double the basic wage, and payment-by-results or piece-rated work is set so that expected earnings are also double the basic wage. The level of bonus is determined within the enterprise, but before 1995, a ceiling was imposed at 50 percent of the basic wage. This ceiling was recently lifted, and bonuses could now be much higher if an enterprise exceeds its production norms.

Taxes on labor continue to create a large gap between the cost of labor to enterprises and the compensation actually received by workers. Payroll taxes in Ukraine (sometimes called “mandatory contributions”) are paid by both employers and employees. Labor taxes paid by employers are (1) contributions to the Pension Fund (32.56 percent of the wage fund); (2) contributions to the Chernobyl fund (12 percent of the consumption fund); (3) contributions to the Social Insurance Fund (4.44 percent of the wage fund); and (4) contributions to the Employment Fund (2 percent of the consumption fund). Employees also make payments to the Pension Fund (1 percent of the wage fund). The share of wages in national income was 32 percent in 1994, but after taking into account payroll taxes paid by employers, the share of labor costs in national income was about 48 percent. This is low for an economy in which wages constitute the bulk of labor income. Taxes on labor, especially for programs with no contribution-benefit link, contribute to poverty by discouraging employment and pushing down wages.

The nature of wage regulation in Ukraine has meant that wage differentials were very narrow according to skill levels within enterprises. Typically, the wage tariff system did not permit the ratio of the highest to the lowest wage in an enterprise to exceed 2:1, although in joint ventures it is believed that these controls were heavily evaded. Earnings differentials by education are extremely low by international standards. A household survey completed in mid-1995 to underpin the World Bank’s poverty assessment of Ukraine, Ukraina 95, suggests that the average wage differential between workers having completed higher education and those with only primary schooling was only 85 percent, while differentials of 200 percent or more are commonplace in many countries. Differentials across sectors did change, however, according to the criteria used in determining wage funds (Table 1), with the biggest relative gains accruing to the financial sector and the biggest relative loss to agriculture.

Table 1.Average Monthly Wage by Sector
(Rubles, thousands)(Karbovanets, thousands)Ratio

Wholesale & Retail Trade2251,1164.96
Financial Services3663,1568.62
Government Administration3051,7255.66
Sources: Ministry of Statistics; and Ukrainian Economic Trends, August 1995.

There has been a shift in the composition of remuneration in the agricultural sector. Cash wages are lower, but income in kind is much higher. One cannot conclude that total agricultural remuneration has fared worse than remuneration generally.

Sources: Ministry of Statistics; and Ukrainian Economic Trends, August 1995.

There has been a shift in the composition of remuneration in the agricultural sector. Cash wages are lower, but income in kind is much higher. One cannot conclude that total agricultural remuneration has fared worse than remuneration generally.

Open Unemployment

Measured job loss in Ukraine (10 percent between 1992 and 1995) has been smaller than the decline in GDP (37 percent over the same period). The decline in employment was heavily concentrated in the industrial sector (mining, manufacturing, and electricity), where the number of wage employees fell by about 19.9 percent from 7.1 million in 1990 to 5.9 million in 1993—over two-thirds of the measured decline in wage employment in the whole economy. More recent data covering only medium-sized and large enterprises show that industrial employment fell by a further 12 percent between end-June 1994 and end-June 1995, indicating an acceleration in job loss. Within industry, employment fell most in light industry and in engineering activities.

Open unemployment (excluding workers on unpaid administrative leave) is not particularly high in Ukraine. Recent surveys indicate that the actual unemployment rate, using standard international definitions, is not much above 5 percent, which is very low by European standards.

The official unemployment rate was only 0.35 percent as of October 1, 1995. Even after adjusting for the estimated difference between potential and actual labor supply, the revised figure is only 0.38 percent. These official statistics underestimate the true extent of unemployment because they are entirely based upon employment exchange registrants, and exclude many people who would be considered unemployed by conventional international definitions. The major biases in the official unemployment rate are as follows.

  • Men aged 60 and above, women aged 55 and above, disabled persons, and workers who “voluntarily” quit their last jobs cannot be counted as unemployed under the 1991 Employment Law.
  • Retrenched workers cannot claim unemployment benefits in the first three months after leaving the enterprise, and first-time jobseekers must wait six months after completing training before becoming eligible for benefits, so these two groups have no incentive to register at employment offices. This means that they are not counted among the unemployed.
  • The ratio of the average unemployment benefit to the average wage was only 18.4 percent at the end of 1995, so the incentive to report to an employment office in order to remain registered is limited.
  • Most enterprises bypass Employment Service offices when recruiting workers (Standing, 1994), although notification is compulsory, thus reducing the attractiveness of Employment Service offices as a job search mechanism.

It is hardly surprising therefore that officially estimated unemployment is so low. An alternative measure is to include registrants, whether or not they meet official unemployment criteria, as a proportion of the labor force, but this raises the estimated unemployment rate only to a little over 0.5 percent.

Despite their shortcomings, official unemployment estimates can give a guide to the main direction of some labor market trends and the composition of the unemployed. The main trend is that unemployment is rising—the number of registered unemployed increased over 60-fold between July 1991 and April 1995. Although the large increase in registrations in the second half of 1991 and perhaps the first half of 1992 may be attributed to the introduction of unemployment benefits in July 1991, registered unemployment continued to rise until mid-1994. Women account for about 75 percent of the registered unemployed, but only for 52 percent of the labor force, and the latter figure overestimates female participation under conventional definitions of labor supply. It is unknown, however, to what extent this reflects a greater propensity to register at exchanges. Nearly one-half of the registered unemployed are aged 30 or less, even though many persons in this age group have little incentive to register, and in total they comprise only 37 percent of the labor force.

Surveys of households and individuals cannot as yet tell us much about unemployment trends. Unfortunately, the surveys available so far are not strictly comparable as they are based on different samples. A rolling quarterly household survey of the type recommended in the World Bank’s poverty assessment of Ukraine would make it possible to track trends over time. Three surveys are discussed here: (1) Johnson, Kaufmann, and Ustenko (1995) collected data on 1,828 currently employed and separated workers in 1994 based on the records of 26 urban enterprises for 1991; (2) Yaremenko (1995) analyzed information on 4,454 individuals aged 15–70 years collected from households in five major cities in April 1994; and (3) Ukraina 95 collected information in June–July 1995 from a nationally representative sample of 2,024 households.

The Johnson, Kaufmann, and Ustenko survey suggests that the incidence of open unemployment in Ukraine is not far behind the 20 percent or so observed in much of Eastern Europe. This is not surprising, because the sample overrepresents separated workers who presumably have a higher incidence of unemployment than the population average. It does, however, exclude first-time jobseekers among whom the opposite presumption applies. Using the International Labour Organisation (ILO) definition of unemployment—without work and seeking employment–14 percent of the sample was unemployed.

The other two surveys yield much lower estimates of open unemployment. Yaramenko reports an urban unemployment rate by the ILO definition of only 2.3 percent, but this is based on the entire adult sample and not on a conventional definition of labor supply. It is possible to obtain alternative estimates from these data under different assumptions. First, if nonemployed pensioners, homemakers, and students are excluded, the estimate based on the ILO definition rises to 3.2 percent. Second, the survey found 7.4 percent of adults employed but on leave. Obviously, some of these were enjoying normal leave and not forced unpaid leave of the kind discussed in the section of this paper on hidden unemployment. If we assume that normal leave occupies one month a year among the permanently employed—about 4.9 percent of the sample—then the unemployment rate could be adjusted upward to 5.7 percent.

Ukraina 95 offers the most useful unemployment estimates, as it is based on a sample of the entire population and not just major urban areas. The results give national unemployment estimates by the ILO definition varying between 2.3 and 3.0 percent depending on whether a reference period of 30 or 7 days is used. If discouraged jobseekers are included—that is, those who would like to work but are not actively searching—the estimated unemployment rates rise to 2.5 and 3.8 percent respectively. As in many other countries, the most vulnerable are those aged less than 25 years, where the unemployment rate ranges between 5.7 percent and 8.8 percent depending on the definition used. The poor are much more likely to experience unemployment than the nonpoor: the estimated unemployment rate including discouraged jobseekers varies between 5.2 and 7.9 percent among the poor, compared with only 2.5 to 2.9 percent among the nonpoor.

Growing Hidden Unemployment

Many workers who are still shown as employed in official statistics are actually on unpaid leave from their enterprises or working short hours. The true decline in worker activity induced by the recession is thus almost certainly much greater than indicated by official employment statistics. Nevertheless, it must be remembered that overmanning was a persistent feature of the centrally planned economic system and that, to some extent, the growth in hidden unemployment represents a shift from a concealed labor surplus in enterprises to a more visible phenomenon.

Official statistics do not report hidden unemployment. However, they do give the loss of working days attributable to shortages of raw materials, energy and components, and authorized and unauthorized absenteeism. By this measure, short-time working increased from an average of less than 1 day per worker in 1990 to over 14 days per worker in 1994 (Table 2). Most of this is explained by downtime and administrative initiatives, with truancy and absenteeism only contributing a minor share. The industrial sector was the worst affected, with high work losses also occurring in construction, transportation, and catering. Within the industrial sector, the incidence of short-time working seems to be linked to the rate of job loss, with light industry and engineering particularly badly affected at 35.6 and 60 days, respectively, lost per worker in January—September, 1994. Excluding truancy and voluntary absence with permission, about 4.1 percent of total working time was lost through a reduction in the working week in 1994.

Table 2.Loss of Working Time by Sector January–September 1994(Average days lost per worker)
TotalApproved by EmployerInitiated by Employer
Source: Ministry of Statistics.
Source: Ministry of Statistics.

An important reaction to the recession by Ukrainian enterprises is to place workers on “administrative leave.” Typically this is unpaid, although in some cases a minimum wage income is provided from the firm’s wage fund. Managers prefer to put workers on leave rather than fire them or cut working hours for several reasons.

First, employers avoid paying severance pay. Under the Ukrainian Employment Law, employers must pay three months of severance pay to any worker released by them for economic or organizational reasons, the monthly amount being equivalent to the average wage received by the worker over the previous three months. By putting workers on administrative leave, employers not only avoid severance pay, but may induce unwanted workers to leave voluntarily. This may partly explain the high level of “voluntary” departures discussed earlier.

Second, enterprise managers were encouraged to resort to this practice by the wage tax, or the “tax-based incomes policy,” whereby rising money wages could be taxed at a high rate if they exceeded a certain amount. This system is explained more fully below. By putting some workers on unpaid or partially paid leave, the wage bill is lowered, thus allowing workers who were actually working to be paid higher wages without incurring the wage tax penalty.

Third, from the workers’ viewpoint, it would be rational to remain on administrative leave rather than to become unemployed because there would remain a possibility of reemployment, and they would retain access to at least some enterprise benefits such as health care, housing, kindergartens, and the use of other social amenities. Quitting would also result in loss of severance pay, forgone opportunities to receive shares should the enterprise be privatized, and unfavorable treatment with respect to unemployment benefits.

The Ukrainian Labor Flexibility Surveys (ULFS) of enterprises in manufacturing and energy conducted by ILO (Standing, 1994; Standing and Zsoldos, 1995) show that unpaid and partially paid administrative leave increased considerably in 1993–94. In March 1993, 24.1 percent of all factories had some workers on administrative leave, but by March 1994, this proportion had risen to 42.5 percent with a further rise to 44.5 percent in March 1995. In March 1994, 11.4 percent of the workforce was on unpaid leave, and 15.2 percent in March 1995. These numbers refer only to full-time administrative leave, and do not include workers put on short-time work or sent on prolonged holidays.

The situation does not seem to have worsened further in 1995. Official statistics on unpaid leave show that the proportion of workers who experienced unpaid administrative leave actually declined from 18.9 percent of employment in January-September 1994 to 14 percent in the same part of 1995. Unfortunately, there is no information on the duration of leave periods, which means that one cannot infer that total time spent on unpaid leave had fallen. Nevertheless, this may be consistent with the increase in retrenchments experienced in 1995, as increased separations would reduce the amount of unpaid leave.

Despite growth in short-time working and unpaid leave since the early 1990s, there is still a considerable surplus labor in enterprises. In early 1994, the ILO-ULFS (Standing, 1994) survey found that over 43 percent of firms reported that they could produce the same level of output with fewer workers. This was widely reported across the industrial spectrum, although particularly marked in chemicals, energy, engineering, and light industry. Larger firms were more likely to report that they could cut employment without affecting output—over 60 percent of enterprises with over 1,000 employees could work with fewer workers, but only 30 percent of enterprises with fewer than 250 employees. There was no simple correlation between the relative size of the surplus and the type of ownership across enterprises, although, on average, closed joint-stock establishments were the most inclined to report surpluses (50 percent surplus) and state-owned enterprises (40 percent) the least inclined.

According to the Ukraina 95 household survey, the overall level of unemployment in Ukraine (including open and hidden unemployment) in mid-1995 may be estimated at about 5.3 percent, with 3.8 percent unemployment using the broad definition plus 1.5 percent unpaid leave and involuntary part-time work. The survey indicates that the degree of hidden unemployment suggested by official statistics is exaggerated. Other surveys confirm this. This is almost certainly because workers on forced leave or involuntarily working part time are active in other jobs and/or informal activities. The degree of underutilization of labor is, of course, much higher given large and persistent labor surpluses within enterprises.

Declining Labor Income and Household Well-Being

After some decline in 1990–92, real wages fell sharply in 1993 by 55 percent (Table 3) in the face of 10,000 percent inflation. The effect of the state-managed incomes policy was to drive average real wage rates down more quickly than real GDP, and by 1994 the average wage had fallen below the official minimum subsistence level (ILO, 1994). Although labor costs also declined as a proportion of GDP in 1993, the impact was less pronounced because the share of nonwage payments to labor and payroll taxes increased. In 1994, the real wage decline slowed, and preliminary data indicate that real wages recovered slightly by mid-1995.

Table 3.Real Wage and Labor Shares in GDP and Household Income
Real wage index (1990=100)100.081.336.832.938.4
Real GDP index (1990=100)100.074.954.732.828.9
Share of labor costs in GDP (percent)
Share of wages in household income (percent)70.0167.953.660.261.92
Sources: Ukrainian Economic Trends, August and November, 1995.

IMF staff estimate.

Month of October 1995.

Sources: Ukrainian Economic Trends, August and November, 1995.

IMF staff estimate.

Month of October 1995.

The importance of wages in household income shows a clear pattern. The drastic real wage decline in 1990–93 led to a fall in the share of wages in household income from 70 percent in 1990 to 53.6 percent in 1993. This information is based on the Ukrainian Family Budget Survey, which does not provide representative data. However, data from the Ukraina 95 household survey also underscore the declining importance of wages in total household income. On average, wages in cash and in kind were about 54 percent of total household income.1

An additional factor is that Ukrainian workers do not always get paid on time. While the real wage declines reported above tend to overstate the true real decline in worker remuneration because other labor payments declined less, slippage in paying workers creates the opposite bias in the statistics as this practice seems to have become more prevalent. The ULFS of 1995 (Standing and Zsoldos, 1995) found that two-thirds of all factories covered by the survey reported such difficulties. Over 60 percent of all factories had not paid contractually agreed wages, sometimes at all and sometimes in part, and the average time slippage was 3.5 weeks. Large establishments had more difficulty with payment than smaller enterprises, and payment difficulties were especially prevalent in enterprises that had cut employment levels. Similar conclusions were reached in the ULFS for 1993–94, and issues of wage arrears were at the center of recent coal strikes.

The Role of the Informal Sector

Some Ukrainian households have been able to cushion themselves from the worst effects of falling real wages and broadly defined unemployment by participating in the informal sector. Most informal sector income derives from people farming on their own small plots of land. Results from the Ukraina 95 household survey indicate that 9.8 percent of household cash income originates from informal sources, of which 8 percent of total cash income is derived from the cultivation of small plots. More than one-third of the survey respondents reported that they were doing part-time cultivation in combination with other jobs and activities. More than half of all urban households now own or have access to small plots of land on which they typically cultivate food for their own consumption. Thus, it may be that agricultural production on personal plots is already close to its full potential, unless more land is placed in private hands.

The 1.8 percent of household cash income that comes from other informal activities is almost certainly an underestimate as such activities are mostly illegal and are, therefore, difficult to measure. The main types of illegal labor activities are providing legitimate work and services but concealing that income for tax purposes; receiving payment for work and services that by law should be provided free; receiving additional payment above controlled prices; and carrying out criminal activities.

To the extent that many informal enterprises are illegal, it seems unlikely that they will try to grow by employing large numbers of workers or by investing substantial amounts in plant and equipment, both of which would increase the likelihood of the enterprise receiving unwelcome attention from tax authorities. For legal and illegal informal enterprises alike, labor taxation is a disincentive to hire workers.

In addition, informal activities were proscribed or discouraged over a very long period of time during the central planning era, with the result that much of the population has little experience with these areas. As with any economic activity, informal manufacturing and services have a learning curve and take time to develop. Therefore, there is likely to be little growth in these informal sectors in the short to medium term.

Clearly, it is in Ukraine’s interest to legitimize and formalize informal sector activities and to eliminate obstacles to their success (such as high labor taxation). Nevertheless, even very rapid informal sector growth has not offset the very large decline in household well-being caused by the decline in the formal sector, given that the recent growth in the informal sector has been from a very small base. It is particularly worrying that, according to the Ukraina 95 household survey and the anthropological study, these activities are less important among the poorest groups. While participating in the informal sector has helped some households to avoid poverty or to mitigate its consequences, this is unlikely to be a source of a major resurgence in labor demand and thus in living standards without concomitant formal sector growth and social protection reform.

Can Economic Recovery “Cure” Poverty in Ukraine?

Economic recovery would benefit the poor directly through the labor market and indirectly through the social protection system. Wages are the most important component of household income—over 60 percent in 1995—and therefore represent the strongest potential linkage between GDP and household welfare. In view of recent moves to free wage setting from state intervention, this linkage between an economic recovery and a wage revival should be relatively automatic. The impact of wage increases on households thus gives a useful indicator of how much poverty would automatically be erased by an economic recovery. (See Box 1 for a discussion on age and gender discrimination in the Ukrainian labor market.)

As the economy strengthens, the revenue available for social protection (especially receipts from taxes on labor) will strengthen also, creating the possibility to increase social benefits. However, one cannot assume that benefits will automatically go up as fast as wages. In fact, it is extremely unlikely that it will be possible to raise the average pension—the most important benefit—as fast as the average wage.

Box 1.Age and Gender Discrimination in the Ukrainian Labor Market

An anthropological study completed for the poverty assessment (Wanner and Dudwick, 1996) offers insight into problems that are not unique to Ukraine: age and gender discrimination.

People over 40 are sometimes considered to be contaminated with “Soviet thinking.” In many cases job candidates are candidly told that their applications will not be considered because they are over 40 years old, and sometimes the threshold is as low as 35.

Older women suffer from age discrimination, but younger women complain of gender discrimination and sexual harassment. Employers reportedly feel licensed to make sexual demands on their female employees knowing that the women understand that their alterative is losing their jobs in a terribly weak labor market and sinking into poverty. Employers frequently will not consider hiring a woman in her childbearing years because there is an entrenched fear that she will soon go on maternity leave for an extended period. If a woman already has children, prospective employers may assume that she will be absent frequently to care for them when they are sick.

Women may face discrimination in informal sector activities as well. Women who try to start their own businesses may find it difficult to obtain micro-credit, reliable suppliers, and business contacts (although these things are also very difficult for men). When the informal sector shades into illegal arrangements, women may be especially vulnerable to criminal extortion.

The household survey does not provide useful data about gender discrimination. Poverty is defined in terms of per capita household consumption. This means that, to the extent that men and women live in the same households, their poverty status will be the same. The poverty assessment found that the poverty headcount indices were slightly higher for women than for men. These differences are probably explained by that fact that women in Ukraine outlive men by an average of about ten years, and age correlates with poverty. In fact, 9 percent of all poor households consist of an elderly woman over 64 years of age living alone, and less than 1 percent of all poor households consist of an elderly man living alone. Older women tend to be poor, but older men tend to be dead.

Dealing with discrimination is a difficult issue in market economies. While it is clear that society as a whole suffers when discrimination is allowed to flourish, solutions are difficult to implement. It is important to have a firm legal foundation for equal opportunity, and also enforcement mechanisms such as legal procedures so that individuals can seek redress. Removing barriers to free entry into business can also have an important impact. Perhaps the most effective antidote to discrimination is a growing economy with high labor demand. In such an environment, discrimination becomes very costly to employers.

It is therefore useful to investigate the strength of the direct wage effect alone in alleviating poverty, assuming no change in nonwage income. A revival in real wages from their present low level would reduce the incidence of poverty by raising the incomes of some poor households sufficiently to pull them across the poverty line. The strength of this effect would depend on the composition of household income among poor households, the distances between the incomes of wage-earning poor households and the poverty line, and the size and nature of a wage revival. If, for example, most poor households do not receive wage incomes, then the impact of even a major expansion in wages on poverty must be small. Similarly, a wage revival that benefited highly educated workers at the expense of others, might do little for the poor if they have low education levels.

An increase in the real wage rate is only one way in which a stronger labor market could, in theory, improve household income. It is possible, in principle, for more people to be drawn into the labor force, and for workers to be paid for more hours. Yet this paper already pointed out that labor force participation remains high, open unemployment is low, and hidden unemployment is also relatively modest. This paper estimated total unemployment, including hidden unemployment, at 5.3 percent, which is rather low by comparison to Western Europe. The conclusion is that the wage effect will be much stronger than the employment effect. It is easy to imagine a doubling of the real wage, but it is not easy to imagine an increase in employment of more than 5 or 10 percent.

In addition to higher average wage rates and somewhat greater paid hours, economic growth is likely to entail widening wage differentials between skilled and unskilled or educated and uneducated workers—wage decompression. Wage decompression seems a likely consequence of wage liberalization, as past state intervention had the effect of reducing wage differentials by skill and education. By comparison with other European countries, wage differentials in Ukraine are very small, so it seems appropriate to think of wage decompression as the normalization of an unusual situation, and not something to be resisted.

A conclusion from the Ukraina 95 household survey is that wage growth alone, with no corresponding growth in benefits at all, would have a significant effect on poverty, but it cannot eradicate poverty because many households below the poverty line report no wage income whatever. Table 4 shows that 58 percent of poor households report no wage income, so they obviously would not benefit directly from an increase in wages by itself or suffer from wage decompression.

Table 4.Ratio of Wage Income to Total Income for Poor Households(In percent)
Ratio of Wage to Total IncomePercent of Poor Households
Source: Ukraina 95.
Source: Ukraina 95.

In the real world, one would expect an increase in real wages to be accompanied by an increase in social benefits and other sources of income. Even households that receive no wage income will benefit from an increase in wages to the extent that benefits would rise. However, the linkage is not automatic. It may not even be possible to maintain the ratio of average benefits to average wages. It seems likely that the ratio of benefits and other nonwage income to wages will decline over time. The possibility of renewed economic growth cannot substitute for social protection reform.


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*This paper first appeared as Chapter 4 of the World Bank’s poverty assessment for Ukraine, Poverty in Ukraine, Report 15602–UA (Washington: World Bank, June 27, 1996). It was presented at the seminar by Michelle Riboud.
1Income was defined as the sum of all paid work reported by adult respondents (including the respondent’s self-evaluation of payments in kind) and of all cash transfers, plus net agricultural income. In Ukraine, as everywhere, people are much more candid about their consumption than about their income. In most household income and expenditure surveys, in both rich and poor countries, reported consumption is significantly higher than reported income. It is particularly difficult to measure private cash transfers and private remittances from abroad, from agricultural activities, and from “hustling.” In Ukraina 95, reported income was only half of reported consumption. The consumption data are much more reliable than the income data. This means that analysis based on income data from the study should be interpreted very cautiously.

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