We study the effects of the more stringent employment protection legislation (EPL)
that applies in Italy
to firms with over 15 employees. We consider firms' propensity to grow when
close to that threshold and changes in employment policies when they pass it.
Using a comprehensive matched employer-employees dataset, we find that the
probability of firms' growth is reduced by around 2 percentage points near the
threshold. Using the stochastic transition matrix for firm size, we compute
the long-run effects of EPL on the size distribution, finding that they are
quantitatively modest. We also find that, contrary to the implications of
more stringent firing restrictions, workers in firms just above the threshold
have on average less stable employment relations than those just below it. We
document that this is because firms above the threshold make greater use of
flexible employment contracts, arguably to circumvent the stricter regulation
on open-end contracts.