Migration and Systems Competition

Introduction

Modern society is characterized by increasing mobility of both capital and labor. Local communities, regions, and countries are in a constant competition for those production factors. Location decisions of firms, but also of individuals, are a central driving force for policy design at different levels of government. On the capital side, the regulation of subsidies or other benefits given to incentivize firms to relocate create a wider constitutional order, through which inter-jurisdictional competition takes place. European State Aid law and WTO subsidy law are examples of such a regulation. 

On the side of labor, there is an intricate framework of legal provisions restricting or enabling the movement of individuals across international borders, or at times even within a country. They establish an order, or a set of rules, through which open economies interact. Jurisdictions relate to each other in a cooperative, but also competitive way. For instance, there is international cooperation with regard to refugees (be it to avoid their entry or to redistribute them among countries), but there is also competition for highly-skilled or rich migrants, with some countries even offering citizenship for immigrants who either bring talent or investments.

Although the inter-jurisdictional competition between countries is apparent, the process of institutionalization of a constitutional order regulating that competition is in its infancy. With increasing regional and bilateral integration, the framework for such competition is laid. The European Union can be seen as such an example, as can federally-organized countries such as the United States or Canada. Such frameworks regulating regulatory or inter-jurisdictional competition that have been studied so far are most notably in the area of corporate law. The debate generally revolves around questions concerning when decentralized decision-making is superior to centralization and under what conditions such competitive frameworks succeed or fail.

Finding an optimal constitutional order—that is, an overarching framework—for migration is non-trivial and goes beyond the debate in corporate law. Migration policy can be seen as a problem of constitutional choice because it relates “to the choice of the ‘rules of the game’ that citizens are willing to live by.” Standard economics theorists (especially those in the sub-field of trade theory) would argue that open borders with free movement of workers are a precondition for an efficient allocation of productive resources. Economic theories of federalism and welfare-enhancing, interjurisdictional competition are based on the assumption that consumer-voters are mobile.

Yet migration involves more than just an allocation of production factors. As the Swiss writer Max Frisch famously said, “We asked for workers, but human beings came.” Economic theory argues that in the presence of externalities—that is, effects on third parties—legal interventions are justified. Although restrictive migration laws create market distortions and cause welfare losses, there are other aspects to consider. First, there is the effect of migration on rigid labor markets. Second, there are the consequences for the welfare state and its fiscal balance. These concerns can potentially lead to a collapse of systems competition. With a sub-optimal institutional design, welfare losses might prevail instead of welfare gains.

The topic becomes even more complex once it is observed that some of the theoretical predictions fail to come true. The theorem of factor price equalization suggests that wages for identical jobs in two countries with liberalized trade (e.g., through NAFTA or European integration) tend to approach each other. Yet full convergence in wages and living standards due to migration has not taken place. The differences in hourly wages among European countries are still substantial. Interestingly, even an abolition of legal restrictions on migration does not lead to the migration levels that one might expect. For instance, Puerto Ricans, being U.S. citizens, are free to move to the contiguous states.

In fact, since the end of World War II, one-third of Puerto Ricans have chosen to do so. But this also means that two-thirds have chosen not to move and rather preferred to stay on an island where the 2012 average annual earnings of workers in production occupations was around thirty-five percent below the U.S. average. This might seem puzzling at first, but it serves as a reminder that differences in wage levels are not the sole determinant of migration decisions. Indeed, factors like social networks or the political environment in the destination country affect these decisions as well. 

Migration policy is usually discussed in the setting of national policy. This article, however, views migration regimes from the perspective of inter-jurisdictional competition and discusses under which conditions such a framework can be welfare-enhancing. In this view, migration (“exit”) can be a factor contributing to the better functioning of institutions and the system as a whole and relates also to another instrument, namely the articulation of protest (“voice”). Section I gives an overview of legal regimes in place. Section II discusses the possible benefits from migration. Section III focuses on the potential reasons for a sub-optimal allocation of resources, and Section IV presents solutions to these problems. Finally, Section V revisits the systems competition view of migration by not only looking at the mobility of people, but also their possibilities of express discontent with the performance of the jurisdiction they live in or want to live in.

I. MANAGING MIGRATION FLOWS

Migration is currently managed through a variety of legal mechanisms. While every country has immigration laws and related regulations, the approaches taken in these laws vary from country to country. The United States, for instance, relies on quota-based systems, which is de facto tantamount to the federal government setting the supply of labor that businesses can tap. Other countries (e.g., Canada and Australia) select potential immigrants by awarding points for certain characteristics, such as language proficiency, family ties, or professional training. This too means that there is a bureaucracy making decisions regarding the supply of labor. In general, national migration laws tend to be skill-biased and give preference to highly skilled individuals.

In addition to national law, there is a growing body of international law providing channels for migration. At the bilateral level, there are migration agreements, many of which are inspired by the International Labor Organization (ILO) Model Agreement on Temporary and Permanent Employment. Bilateral migration agreements can link various issues related to migration (e.g., admission, return, visa policy, border security, etc.). Furthermore, recent free trade agreements attempt to not only liberalize trade in goods, but also in services. They therefore contain provisions on labor mobility, mostly for highly-skilled individuals who provide their services across international borders. In doing so, they slightly correct the skill-bias present in national migration law. Furthermore, there are technical agreements dealing with, for instance, the repatriation of individuals and visa policies. 

At the multilateral level, although there is no comprehensive convention on migration and no general customary or conventional legal obligations preventing states from denying foreigners access to their labor markets, there are several treaties pertaining to migration. For instance, the Convention relating to the Status of Refugees gives special rights—that is, the right to asylum—to people who are persecuted in their home country. With regard to labor migration, the General Agreement on Trade of Services (GATS), which is an inherent part of the WTO system, distinguishes between four modes of providing services across borders. One of them (referred to as Mode 4) relates to individuals crossing borders in order to perform a service. Thus, state commitments under the GATS entitle certain service providers to move across borders, at least on a temporary basis.

There are basic human rights provisions that at least allow for leaving a country (albeit not to enter another). Article 13(2) of the Universal Declaration of Human Rights states, “Everyone has the right to leave any country, including his own, and to return to his country.” This principle is also stated in Article 12 of the International Covenant on Civil and Political Rights (“Everyone shall be free to leave any country, including his own”), although some exceptions apply. A special case is the situation of stateless persons. This group of people, who are not necessarily refugees or even migrants, receive some protection through the Statelessness Status Convention of 1954 and the subsequent Statelessness Reduction Convention of 1961, although both conventions sport only a relatively small number of ratifications (sixty-six and thirty-eight, respectively).

Although they do not address rules on admission, there are conventions providing rights for migrants (or migrant workers more specifically) such as the Migration for Employment Convention of 1949, the Migrant Workers (Supplementary Provisions) Convention of 1975, and the International Convention on the Protection of the Rights of All Migrant Workers and Members of Their Families. These conventions have not been very successful in terms of numbers of signatories, especially since the high-income countries were rather reluctant to enter these agreements. The conclusion from this is that although migrants benefit from a range of human rights stemming from customary or conventional law once they arrive in their state of destination,international law provides virtually no rights to admission into a country other than their country of citizenship. In other words, there is no global consensus that migration might be a welfare-enhancing element of interjurisdictional competition and that a broader institutional framework above the level of national migration laws might be needed.

The situation presents itself differently at the regional level. Regional integration can also be linked to liberalization of labor migration. The European Union (EU), for instance, recognizes the fundamental freedom of movement, and the Schengen Agreement, a stand-alone compact that subsequently merged into EU law with the Lisbon reform of the Union, abolished border controls among signatory states. EU citizens, unless they pose an excessive burden on the welfare system of the recipient state, are entitled to live in any EU member state and can travel among Schengen states without showing their identification at the border.

Based on bilateral agreements with the EU, Switzerland, which is not a member of the EU, uses employers, rather than a bureaucracy, as gatekeepers. EU citizens willing to move to Switzerland are entitled to do so once they can produce a valid labor contract with a Swiss employer. To a much lesser extent than the EU freedom of movement or the movement between the EU and some of its neighbors, NAFTA grants rights to temporary employment of certain groups of professionals and other workers. Migration is thus regulated using a large variety of legal instruments and through various forums.

II. THE BENEFITS OF MIGRATION

From an economic point of view, migration increases efficiency through a plethora of mechanisms. Most of the economic literature on migration focuses on the theory of international factor mobility and primarily sees migration as being stimulated by favorable conditions in the country of destination, particularly in terms of relative deprivation

By migrating toward similarly-skilled workers in a different city or country, people can live up to the full potential of their skills. A trained investment banker will be less productive in a rural area than if he or she were to live close to Wall Street. The same is true for skills that are complementary to the skills prevalent in any given place. For example, a center for journalism could also attract people trained in film productions. These socalled agglomeration economies are closely linked to the core-periphery model, in which the economic core area attracts economic activity from the periphery.

A concern voiced in the literature is the negative effects of “brain drain.” If highly-skilled individuals are enabled to move from a developing country to a high-income country, then the former loses the investment in human capital while the latter reaps the benefits of this investment without contributing its share. The counter-argument revolves around the payment of remittances; immigrants tend to send substantial amounts of money back to their families in the country of origin. 

Another important aspect is the shift in immigration patterns. While migration used to be permanent (e.g., the flows of immigrants from Europe to the United States in the nineteenth century), modern migration tends to be more and more temporary in nature. Labor migration thus is more likely to follow the pattern of job mobility. In fact, migration can be more complex. The concept of “circular migration” can be understood to encompass not only temporary and permanent migration, but also permanent or temporary return to the country of origin. The conclusion is that migration—if managed correctly—leads or should lead to a so-called “triple win” for the host country, the country of origin, and the migrants themselves.

The final verdict is not yet in on all aspects of the economics of migration, including those mentioned above. George Borjas identifies a series of issues. For example, it is not fully understood how individuals self-select into becoming either movers or stayers. Neither is it understood what determines the speed of economic assimilation in the host country. Different empirical studies come to radically different results regarding the impact of migration on the wage structure. Generally, the full scope of adjustments taking place in an economy as a result of migration, such as the production method, the location of firms, or the occupational mobility of individuals, is still elusive.

Therefore, the actual adjustment costs caused by migration are widely unknown. There are also discussions on the benefits of migration, especially regarding the question under which conditions the native population enjoys a net benefit after all adjustments and costs incurred thereby. The economics literature on migration has also had a hard time explaining how immigration policy choices are made. Also, the very long-term effects, mostly regarding the integration of immigrants into society over the generations, are not yet understood at a satisfying level.

From the systems competition point of view, there are several mechanisms in place involving migration. The act of “voting with the feet” is at the cornerstone of the Tiebout model—by leaving their jurisdiction, individuals match their preferences with the provision of bundles of taxes and public goods available elsewhere. As a result, it is possible to provide public goods even through a decentralized mechanism. The subsequent literature developed this static model in which individuals are matched to a disinterested jurisdiction of their preference into a model of active interjurisdictional competition, in which local governments compete for resources. Even though governments might not be in a strong enough position to actively contribute to the competition, they are nevertheless implicitly part of it and constrained in their actions (e.g., their tax rates) by its presence. 

Another way of seeing inter-jurisdictional competition is the concept of “yardstick competition” suggested by Pierre Salmon—individuals do not need to actually move to a different place; instead, they can observe policies implemented elsewhere, and if they think that such policies would be in their interest, demand similar ones from the governing politicians. This approach is similar to Albert O. Hirschman’s dichotomy of exit and voice as reaction to decaying institutions, which emphasizes how “exit,” that is, the act of leaving, contributes to the improvement of a jurisdiction’s governance. The pressure of a mass exodus can lead to policy reform. Migration can also solve the fundamental political dilemma of any economic system formulated by Barry Weingast: “A government strong enough to protect property rights and enforce contracts is also strong enough to confiscate the wealth of its citizens.” The ability to leave limits the extortive power of the state.

A jurisdiction can also be interpreted as a club. In this view, a club is “a voluntary group deriving mutual benefit from sharing one or more of the following: production costs, the members’ characteristics, or a good characterized by excludable benefits.” The members of a club have an interest in others joining the club (by analogy, nobody would want to be the sole member of a tennis club), while keeping the right to prevent any further influx if there is overcrowding of the shared resource. A seminal paper by J.M. Buchanan shows that members of a club solve optimization problems and set membership rules as well as the level of provision of the shared good accordingly.

In the spirit of these models, jurisdictions could be seen as clubs, with infrastructure being the shared good within that club. Such reasoning can be found in the political debate. For instance, the Swiss electorate recently rejected a popular initiative (referendum) that sought to limit immigration to a bare minimum. The referendum was initiated by an environmentalist organization (Ecopop), which argued that overpopulation in the world in general, and in Switzerland specifically, is a pivotal issue and that the number of people living in Switzerland has to be reduced as it leads to an overusage of limited resources. The initiative failed at the ballots, mostly because the economic effects would have been disastrous.

Earlier in 2014, the electorate accepted a similar initiative, which had a more xenophobic and less environmentalist tone. This initiative amended the constitution and required the government to set quotas on immigration, even if originated from the EU,55 in crass contradiction to the bilateral agreements between Switzerland and the EU, which provide for the free movement of people with a labor contract or sufficient means for subsistence. Yet analyzing the optimality just from the inside of a club is not enough, and the theory of clubs has not stopped there. Subsequent models incorporated the welfare of both members just as well as of nonmembers of a club (i.e., the total economy point of view). In other words, there is a trade-off between the collective rights of groups to shield themselves against outsiders and the individual human right to life, liberty, and the pursuit of happiness.

Most theories of inter-jurisdictional competition revolve around the effect of (potential) exit on the quality of institutions and the provision of an attractive bundle of taxes and public goods. However, and this shall be discussed in further detail in Section IV, it is to be noted that exit can drive out voice and that the latter can play just as important of a role as the former.

III. THE WELFARE STATE AND THE LABOR MARKET

Migration can cause redistributional issues. Even if the net benefits are positive—and this is a widespread conclusion in the economics literature— it can nevertheless be argued that there are winners and losers from migration. Virtually every country in the Western world has some kind of income redistribution mechanism.

The Tiebout model mentioned above—that is, the procedure of “voting with feet”—would at first mean that individuals who prefer redistribution would move to a jurisdiction with a well-developed welfare system, while individuals who prefer otherwise would rather settle in a so-called “night watchman state.” Any jurisdictions that do not find people willing to live within their boundaries would be forced to adjust to the demand. This model only works in the so-called “pre-constitutive phase”—that is, behind the veil of ignorance. Only as long as people do not know whether they would be on the giving or the receiving end of the welfare state does voting with feet make sense. Otherwise, any welfare state would collapse, as the wealthy people move to states without redistribution. Adverse selection leads to the collapse of welfare states, and inter-jurisdictional competition in this setting is efficiency-reducing.

Whether welfare states act as “magnets”59 is subject to a debate with mixed empirical findings. This ambiguity is also reflected in public opinion towards immigration60—the “gap” hypothesis postulates a significant divergence between public opinion, which demands more restrictive migration policies and the relatively more liberal immigration policy outcomes. An empirical assessment has to deal with a variety of factors, such as the fact that the structure of migrant populations, their skill sets, and their education levels (and thus migrants’ propensity to receive welfare payments) varies from country to country.

Also, the structure of welfare systems can be different, with different mixes of contributory and non-contributory support schemes observable around the world. It can be argued that the structure of the welfare system—depending on the country’s legal immigration scheme—could affect the skill composition of immigrants. Low-skilled migration will be relatively more common if there are no restrictions on migration, as voters will prefer an immigration policy with a high-skills bias (as these migrants contribute more to the welfare state, who in turn will avoid high-tax countries).

More specifically, there is a controversy as to the net effect of migrants on the fiscal balance. One argument is that if the welfare state does not discriminate between new arrivals and longer-term residents, there is inefficient migration into the welfare systems of higher-income countries. The counter-argument is that generally migrants are excluded from many welfare payments, but are obliged to pay taxes on their earnings. Again, the precise institutional framework matters.

Here, an important difference between the U.S. and Europe becomes apparent. Since Western European countries tend to boast more generous welfare systems and more rigid labor markets with relatively higher unemployment rates, resistance to immigration in the EU is higher than in the United States. It is disputed to what degree the availability of welfare payments plays a role in the decision to relocate. There is empirical evidence claiming that immigrants to the U.S. are clustered in states with relatively higher benefits, whereas native-born welfare receivers are not—that is, that the geographic sorting of immigrants in the U.S. is altered by welfare benefits. That this happens to a larger extent with immigrants than with native-born individuals can be explained by the fact that migrants already have to bear the cost of migrating from their home country to the U.S.

Thus, they relatively inexpensively choose among places to settle within the U.S., whereas relocating only pays off for natives if the additional welfare benefits exceed the costs of moving. However, it is not necessarily correct to conclude that there is inefficient migration into welfare systems—that is, that people who move to the United States would not have migrated if there were no welfare programs. An issue could just as well be that people who would re-migrate to a different place would rather stay where they are because of the welfare payments they can receive there. With respect to the differences between the EU and the U.S., it is also important to note that migrants moving to the U.S. are relatively highly educated as compared to those moving to Europe.

The question of inefficient migration into welfare systems has not only been studied from an economic point of view but also addressed by legal reforms. European Law closed the gap regarding welfare systems, an issue that became important with the accession of several Eastern European countries in 2004 (Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Slovakia, Slovenia, together with Cyprus and Malta), 2007 (Bulgaria and Romania), and most recently 2013 (Croatia). These countries were and still are substantially poorer than Western European countries and exhibit less-developed welfare systems. In 2004, the EU adopted Regulation No. 883/2004 on the coordination of social security systems. Article 4, headed “Equality of Treatment,” stipulated that, “Unless otherwise provided for by this Regulation, persons to whom this Regulation applies shall enjoy the same benefits and be subject to the same obligations under the legislation of any Member State as the nationals thereof.”

In a recent court case, the European Court of Justice (ECJ) unequivocally made it clear that States can nevertheless impose restrictions on the access to “special non-contributory cash benefits” by EU citizens. The legal question at hand was whether the equal treatment requirement of Article 4 of Regulation 883 only applies to nationals of other EU Member States if their residence complies with the conditions of the Directive on free movement of EU citizens. Under this Directive, EU Member States are not obliged to award welfare payments during the first three months of a person’s residence in that state. If an economically inactive person remains in the Member State for a period of three months to five years, then he or she needs to prove that he or she has sufficient resources to support him or herself in order to receive the right of residence.

This system is a legal implementation of the principle that migration solely for the purpose of acquiring social assistance is inefficient from an economic point of view. The ECJ found that Member States have the right to exclude individuals from certain “special non-contributory cash benefits” if they do not have a right of residence under the Directive on free movement of EU citizens— that is, if they established residence in the Member State only to receive social payments. In its ruling, the ECJ de facto re-asserted the principle proposed by Hans-Werner Sinn in that it allowed for the discrimination between nationals from the host country and nationals from other EU countries. Similar legislation also exists in the U.S. with the Personal Responsibility and Work Opportunity Reconciliation Act of 1996, (PRWORA), which bars most immigrants from federal income assistance programs during their first five years of residence. It also allows states to extend this exclusionary period.

Recent legal developments seem to change the nature of migration and its effect on the welfare state. With the liberalization of the provision of services across international borders, new channels for migration open up. Individuals can enter labor markets as service providers instead of immigrants. An important difference is that service providers are usually not eligible for the same kinds of benefits as permanent residents. Labor immigration policy usually has to decide on two parameters: the number of migrants admitted and the rights given to them after admission. The mentioned developments tip this balance towards possibly higher numbers with fewer rights.

Rigid labor markets have difficulties adjusting to the influx of new workers. Such rigidities occur for two reasons. First, labor relationships are by their nature generally longer-term contracts. This has to do with the costs of training new workers. Even if there are no legal barriers and even with high unemployment, replacing a highly specialized worker comes at an expense and can take a substantial amount of time and resources. Second, some rigidities are imposed by legal measures aiming to protect workers from exploitation and economic hardship.

IV. SOLUTIONS

The previous Section III discussed the potential problems for systems competition with migration. This Section IV presents some solutions—although not all of them, as will be shown, produce the desired outcome.

A straightforward solution to the problem of inefficient migration into welfare systems would be to reduce the scope of welfare payments. This poses a serious problem of conflicting interests. After all, it can be argued that in countries with developed welfare states, there are majority populations in favor of such systems. Thus, reducing the size of the welfare state solely in order to prevent its abuse would be overshooting. Another possibility is to centralize the welfare state at the federal level (e.g., by creating a unified European unemployment insurance system). In this case, movement between jurisdictions would be neutral in its effect on the welfare system. Alternatively, jurisdictions could harmonize their handout systems (social assistance would still be administered at the local level, but instead according to harmonized payment levels, rules, and criteria). Both of these latter suggestions come with an important caveat—they only work when the income levels among jurisdictions are not too different. This could be an option for a system like the United States, where income inequality among individuals is high, but income disparities among regions are not. In Europe, harmonizing the welfare systems of highest-income with lowest-income countries is virtually impossible.

An alternative to reducing the scope of the welfare state is protectionism—that is, restricting the influx of immigrants. Such a measure means relinquishing the benefits of migration, just like tariffs and import restrictions hamper the possible gains from trade. Nevertheless, this is a measure chosen by virtually all countries in the world in some form or another. The permissible quantities of labor migration are usually set in the fashion of a centrally planned economy by the central government in the form of quotas. A proposed compromise that combines maintaining the welfare state and reaping the benefits of migration is to decentralize migration management. Instead, sponsorship schemes awarding residence permits to holders of a work contract, and mandatory social insurances for immigrants could constitute such a middle-ground.

The literature on inter-jurisdictional competition proposes several solutions to the problem of welfare-reducing migration. Such measures can be taken either at a decentralized level of government or, on the contrary, on an international, supra-jurisdictional level. Economic theory favors legal interventions when there are externalities. Such an intervention internalizes the externality and thus ideally provides for an optimal allocation of resources. If there is an externality due to international migration, then the intervention needs to take place at the supra-national level—that is, through an international agreement (as there is no higher authority that can impose a rule). Such an agreement should favor migration while addressing the potential reasons for inefficiencies.

The economic literature on migration, which looks at the problem from the national perspective rather the systems competition point of view, contains several policy suggestions to improve immigration laws. For example, in 1987, Julian Simon suggested auctioning off visas. Similarly, Gary Becker’